It is A new year and lots of people are wondering by how much “inflation” they need to escalate prices in terms of any contracts they may have running. Any number of contractual services (including alimonies) may have a stipulation that at the end of a 12-month period prices are adjusted by a factor equal to inflation for the past 12 months.

This need not only happen at the beginning of any new year, but can and does happen every month, depending on when the contract commenced and what its terms state.

But people are not always sure to what “inflation” such a contract may be referring.

Over many years, I have often wondered whether people fully understand what they are specifying or agreeing to in a contract when it says that for the next 12 months the inflation rate of the past 12 months is to be used as a price escalation.

If you want to reflect the inflation that occurred over the past 12 months (calendar year 2011) what you are specifying in ordinary everyday English is you want to be compensated for the increase in the price level (index) over that period.

This can be CPI (consumer price index), PPI (producer price index), Haylett formula (a building price index) or any other price index concoctions or sub-components thereof.

Let’s assume we are talking CPI here.

There is only one number that will satisfy that condition without question as specified, namely the number that compares the CPI index in December 2011 (the price level with which you end 2011) with the CPI index of December 2010 (the price level with which you started 2011).

And that one number is the year-on-year CPI inflation rate for December 2011 (which was published last week, namely 6.1 percent, unchanged from November and slightly below consensus).

That is the increase in the 2011 CPI price level and it is “the” inflation rate for 2011.

But that is not what a majority of people seem to do.

Instead, they seem to think they need to “average” the monthly inflation rates published during the year.

So they get every month’s year-on-year CPI inflation rate, as published by Statistics SA, add them up and divide by 12. And that to them is the inflation rate for 2011.

It isn’t.

For January 2011 is being compared to January 2010. And February 2011 is compared to February 2010, so all the way to December over December.

What that calculation gives you is an average of how the CPI price level progressed during 2011 relative to how it progressed during 2010.

Why on earth you want to bring 2010’s changes in the CPI price level into a 2011 calculation to be used in 2012 contracts totally defeats me.

The contract may stipulate the “inflation for the past 12 months”, which today (January 2012) means the change in prices during calendar 2011.

There is no mention or intention to get 2010 in on the act as well.

But if both parties to the contract have the same interpretation as to what they think they need (the average inflation for the past 12 months), who are we to find fault with such reasoning?

Indeed, do not get between husband and wife – or try to insert yourself between two procurement officers.

Except that if we are talking procurement processes involving not just millions, but hundreds of millions, if not billions of rands, such mutual confusion can only make lawyers happy if disagreement were to intrude.

Both parties to any contract have a way of demanding from outsiders what the “right” inflation rate is for the period in terms of their contract (always the one most advantageous to them).

And in a sharply rising or falling inflation environment, it can make a world of difference whether you only want the past 12 months part of the calculation or whether the 2010 price changes are also welcome to enliven the proceedings.

In case you still wondered, “inflation” simply means rise in the price level. If you specify designation and source (for instance, CPI estimated by Stats SA), that’s fine.

But if you specify “for the past 12 months”, then that is what should be included – and only that.

Forget about “averaging” this, that or the other (unless your contract states so explicitly). Inflation over a 12-month period, any 12-month period, is the year-on-year inflation rate given for the twelfth month.