New twist shakes up interest rate expectations in South Africa

The South African Reserve Bank (SARB) will likely hold interest rates steady when the Monetary Policy Committee (MPC) meets next week, with talk of adjusting the country’s inflation target adding a new twist to the outlook.

Following severe swings in the economic outlook in April and May, economists are struggling to pin down the exact sentiment of the SARB, but believe it will err on the side of caution when setting policy.

According to Investec chief economist, Annabel Bishop, even though inflation has sat under the SARB’s target range for the past two months, it is still expected to average 4.5% for the year.

This could be enough to be a red flag for the SARB to hold – with talk of lowering South Africa’s inflation target also adding to a more cautious approach.

As it currently stands, Bishop said that South Africa could still see one or two cuts to interest rates in 2025, totalling 25 to 50 basis points. However, this is not expected to come in May.

This view is shared by Citadel Chief Economist Maarten Ackerman, who also believes the SARB will hold at its next meeting.

“Although inflation is well behaved and below the mid-point of the target range, the Reserve Bank has consistently taken a cautious stance,” said Ackerman.

“They are monitoring the global landscape, especially risks tied to US inflation, interest rate differentials, and rand volatility, before making any moves.”

Ackerman noted that while other central banks such as the European Central Bank (ECB) and Bank of England (BoE) have shown signs of easing, the SARB has a different focus.

The MPC is more focused on maintaining stability relative to the US dollar, to preserve the attractiveness of local assets and prevent further rand weakness, he said.

Other economists are slightly more optimistic. Bank of America’s experts said the SARB could take advantage of markets settling down from April panic and cut rates in May and July.

However, they acknowledged that there could also be hold — though the focus from the SARB in that case would the budget and South Africa’s wider politics.

If the third go at the budget goes awry—either through negative policies or more infighting—this could increase risks and put the SARB on edge, leading to a hold.

However, a neutral budget with support from the government of national unity would boost sentiment, opening the way for cuts sooner rather than later.

Ackerman said that this unlikely to happen, as the SARB has avoided opportunities in the past to take action.

“A surprise rate cut could lift consumer sentiment, but is unlikely given the Reserve Bank’s transparent communication and conservative track record,” he said.

“If they haven’t acted in previous windows of opportunity when inflation was low, it’s unlikely that they’ll surprise now,.”

Inflation target could dash hopes for rate cuts

Another factor likely to influence the SARB’s position on interest rates is the recent statement from Deputy Finance Minister David Masondo that plans are in progress to reduce the inflation target.

The SARB currently has a target range of 3% to 6%, with a specific target of 4.5%. Reserve Bank governor Lesetja Kganyago has called for a lower target, around 3%, to put South Africa in line with its peers.

Bishop noted that a narrower inflation band of 3% to 5% or less would reduce the likelihood of any interest rate cuts this year.

With there currently being room for one or two interest rate cuts in 2025 at the current target, a downward revision would shrink those chances significantly.

The likely lower chance of South African interest rate cuts this year on a downward revision to the inflation target has already strengthened the rand, Bishop noted.

This is given the likelihood of a consequent widening in the interest rate differential between South Africa and the United States.

The rand reached R17.99/$ on Friday, and could strengthen further.

“The budget presented to parliament on 21st May, could already see progress on lowering South Africa’s inflation target,” Bishop said.

“The budget will also announce tax changes, which will have an inflationary effect, although less than with the prior VAT changes.”

Bishop noted that, if the drop in the inflation target is announced with the budget, the rand would see further strength on the budget outcome as a sustained lower inflation rate would benefit the rand on a Purchasing Power Parity basis.