Massive interest rate pain for South Africa
The latest Altron FinTech Household Resilience Index shows that South African households continue to suffer under high interest rates, which have pushed up the burden of debt costs to 15-year highs and removed around R43 billion from the economy.
This comes despite the South African Reserve Bank’s latest move to cut rates by 25 basis points – a move that will likely only be reflected in the economy in 2025.
According to economist Dr Roelof Botha, who compiles the index on behalf of Altron FinTech, the SARB’s restrictive monetary policy has hurt the economy greatly.
“One of the most worrying trends in the latest AFHRI is the year-on-year decline of 3.3% in the ratio of household income to debt costs.
“Merely two years ago, in the first quarter of 2022, households sacrificed 6.7% of their disposable incomes to pay for debt costs. This ratio has since increased by 36%, with households now having to spend 9.1% of their disposable incomes on servicing debt.”
“The decision by the Monetary Policy Committee (MPC) at the end of 2021 to follow a restrictive monetary policy stance has resulted in a relentless increase in the official repo rate, which automatically feeds into the prime overdraft lending rate of the banks.”
Botha noted that South Africa’s prime rate was 7% at the end of 2021 but jumped to 11.75% in May 2023, where it stayed for 16 consecutive months. This represents an unheard-of increase in the cost of credit (and capital) of 68% based on the real prime overdraft rate.
“The unwarranted increases in lending rates have a stifling effect on demand in the economy, especially household consumption expenditure and new investment in productive capacity by the private sector.“
Botha said the SARB’s policy stance was “fundamentally flawed” and likely cost the economy in the region of R43 billion.
“In the event of the debt cost servicing ratio having remained at 6.7%, cumulative household disposable incomes would have been R172 billion higher.
“Due to the effective parity between disposable incomes and consumption expenditure, this would have translated into an equal increase in total demand. Based on the fairly stable relationship between aggregate demand and taxation revenues, National Treasury would have pocketed an additional R42.9 billion,” he said.
He flagged three major flaws with the stance, the first being inconsistency.
During the tenure of the previous Governor of the Reserve Bank, Gill Marcus, the average real prime rate was just above 3% and real GDP growth averaged 2.5% over a five-year period.
Within one year of her retirement, the new MPC raised the real prime rate by 57% to a level of 4.9% and four years later, the real prime rate stood at 6% – an increase in the cost of capital and credit of 94%.
“It remains a mystery why the MPC decided to lift the prime overdraft rate to a level of 11.75% in the aftermath of the Covid pandemic, when it was 10% just prior to the Covid pandemic and also considered too high then by the standards set by the MPC under Gill Marcus,” he said.
The second flaw is a lack of understanding of the causes of higher inflation immediately after the worst
of the lockdowns imposed by the outbreak of the Covid pandemic.
The economist said the spike in the consumer price index was mainly the result of three supply-side shocks, namely the increase of 720% in global shipping freight charges between the third quarter of 2019 and the third quarter of 2021; the 430% increase in the price of Brent crude oil between April 2020 and the beginning of 2022; and lower levels of capacity utilisation in South Africa’s manufacturing sector, which increased fixed overhead costs per unit of production.
“Excess demand had nothing to do with the temporary rise in the CPI,” said Botha.
“By raising interest rates to record high levels, the MPC’s policy approach only served to reduce aggregate demand and restrict the ability of the economy to recover from the effects of the Covid pandemic.”
The third flaw is the undue importance given to inflation expectations.
Botha pointed to extensive research that showed that a relatively large number of respondents to inflation expectation surveys either declare that they have no knowledge of the subject or answer with ridiculously large numbers.
“The crux of the problem with using inflation expectations as a basis for conducting monetary policy has been succinctly stated (researchers) with the following conclusion: ‘expectations matter, but they are unobservable’.”
Relief is on the way
While South African and households continue to suffer due to the high interest rate environment, the index does show a turn is coming.
It noted that private sector employment has risen by 459,000 since the 2nd quarter of 2023. And with interest rates bound to be lowered further in November and early in 2025, and the government of national unity now engaged in a closer relationship with business leaders in the private sector, the prospects for further employment gains have improved.
In addition, following a lengthy period of decline, real levels of labour remuneration in the private sector have also increased, both on a quarter-on-quarter and year-on-year basis.
The rise in the value of unit trust assets, which serves as a proxy for potential investment income for many households, is also bound to increase further in the second half of the year, mainly as a result of the recent new record for the JSE all share index.
MD of Altron FinTech Johan Gellatly said that South Africans have proved themselves to be “remarkably resilient”, but more needed to be done through policy and governance to push growth.
“South Africans have managed to make ends meet, even when their disposable incomes are under dire pressure due to sustained periods of extremely high interest rates.
“All indicators, including the AFRHI, point to the need to lower interest rates in order to start assisting consumers. This is equally important in terms of growing the economy, attracting investment and reducing unemployment,” he said.
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