Interest rate pain won’t go away in South Africa

 ·13 Feb 2024

The South African Reserve Bank (SARB) is expected to start cutting interest rates this year – but the size of these cuts will be minimal compared to rapid increases over the last few years.

Over 2023 alone, the SARB increased the repo rate from 7.00% to a 14-year high of 8.25%.

Speaking at the first Monetary Policy Committee (MPC) meeting of 2024, the governor of the SARB, Lesetja Kganyago, expressed his worry over the serious upside risks to inflation, even if the committee unanimously voted to keep the repo rate unchanged.

Kganyago’s primary concern lies in the high and unpredictable local food market. For instance, the egg market was severely impacted by the outbreak of Avian bird flu and slow progress in local hen vaccinations.

Allan Gray’s Thalia Petousis said that food inflation is incredibly difficult to predict, but the group believes that the upside risks are less raised than in 2022 and 2023.

Food inflation in 2024 will be compared to high base prices, while South Africa has so far been unscathed by the El Nino weather cycle – which often leads to drier conditions in Southern Africa.

Kganyago also remains concerned over the damage that load shedding and the logistical constraints at the nation’s port and rails could have on inflation.

“While these constraints have the capacity to continue to raise the local cost of production, the caveat is that the damage should be more muted than that caused during the peak Stage 6 load shedding of 2023,” Petousis said.

“Management changes at Transnet might also herald a greater willingness to accept private sector involvement to solve the logistics crisis.”

Looking globally, the strong US labour market (unemployment is at its lowest level in decades) and high wage growth could lead to a second round of inflation due to the robust demand for services and goods.

The geopolitical tensions, such as the Red Sea attacks, also affect travel times, with many rerouting across the tip of Africa. This represents a transitory upside risk to the inflation forecast if the supply of finished goods dwindles or becomes more costly.

Not ideal

Members of the SARB have previously stated that keeping interest rates high is not ideal but necessary as the bank carries an oversized burden when stabilising South Africa’s macro economy and inflation.

The SARB has called on the government to share this burden through prudent fiscal policy, as lower interest rates and lower inflation cannot be achieved with the government running an imprudently high debt level, raising the country’s risk premium.

“This country risk premium also contributes to a weaker rand exchange rate and consequently higher imported price inflation,” Petousis said.

“Beyond actively lowering their debt pile, the SARB also continues to recommend to the government that it lowers inflation by increasing the supply of energy and reducing real government wage growth so that it matches the weak economic productivity gains in our economy.”

“The SARB’s final bugbear is that administered prices, such as those for electricity, water, and rates and taxes, have been allowed to rise at double digits and faster than the country’s targeted price inflation.”

That said, the market is expecting the SARB to start cutting rates by mid-2024, which aligns with the SARB’s quarterly projection model.

The SARB’s model predicts a short and shallow cutting cycle, with the repo rate dropping from 8.25% to 7.3% by the end of 2025.

This is still 100 basis points higher than the pre-pandemic level.

“Given the SARB’s mandate to maintain price stability in the economy and given Kganyago’s expectations for higher and stickier global inflation, a restrictive rate is seen as far more necessary than in the past,” Petousis said.

Read: South Africa’s big ‘basic income grant’ hole

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