Reg Rumney and Simon Segal report on the implications of this week’s bank rate rise
How high is too high? After this week’s general rise in interest rates South Africa’s real — that is adjusted for inflation — prime rate is now 7,4 percent. The prime rate is the rate banks charge their best customers.
South Africa’s real prime rate is well above that of its main trading partners.
It is unfair to compare South Africa’s rates with countries in real trouble like Mexico where the nominal rate has risen to 50 percent.
But in Australia, comparable in terms of export profile at least, the real prime rate is 8,9 percent.
SA Reserve Bank governor Chris Stals raised the Bank rate — the rate at which the Reserve Bank provides credit to the banking system and thus a cornerstone interest rate — by one percentage point from 13 percent to 14 percent on Tuesday, branding it an essential move to prevent inflation escalating.
Commercial banks soon increased their prime overdraft rates by a heavier 1,25 percentage points to 17,5 percent. Home loan rates rose by a percentage point to 17,25 percent.
The Reserve Bank’s action was seen as inevitable and the markets had already discounted the rise.
The rate rise comes after mounting inflationary pressure, growth in the money supply and a widening deficit on the current account of the balance of payments. The Reserve Bank is also preparing for the scrapping of the financial rand.
The level of discomfort in a one percentage point rise for bondholders, who account for about 42 percent of private sector credit, is not intense at an extra R50 a month or so on a R100 000 bond. But spare a thought for those with overdrafts, which account for around one- third of private sector credit.
The real prime rate may be 7,5 percent, but those with credit cards and overdrafts are now paying much more. The annual interest rate on an outstanding credit card balance rises from 24 percent to 25 percent. If inflation stays at 10 percent year-on-year, that is a 15 percent spread.
It is understandable that one group definitely not complaining about the hike in rates is the banking sector, where high rates and relatively low inflation are a boon.
Among the factors behind the bank rate rise was the exceptionally high growth in credit extension to the private sector. This growth has mainly been in the consumer category.
Old Mutual’s Economic Monitor notes credit extension to the private sector rose no less than 16 percent over the year to November 1994. This was a key factor in the M3 money supply far exceeding the Reserve Bank’s official six to nine percent target range for virtually the entire year.
According to the Standard Bank economic unit, in November last year, the growth in instalment credit (HP) was a high 27,2 percent; for leasing the figure was six percent; for mortgages the figure was 17,6 percent. Though some of that instalment sale figure includes business, and car sales, which are up by around 15 percent.
It was in the context of credit extension that Finance Minister Chris Liebenberg last week expressed concern about the effect of so-called “private label” credit cards on the country’s savings.
It is not clear whether these cards are targeted at the emerging black market or at present credit users.
Holders of Mastercards or Visa cards are unlikely to use a private card unless they are already over- extended.
That not only has personal finance implications for the customers concerned, it means the banks are creating even more money through these cards, and that causes inflation.
The emerging market is unlikely to be particularly sensitive to interest rate rises until it is sufficiently leveraged, and here monetary policy is likely to be blunted. Those who are overextended will feel the pain quickly.
Economists point out the direction of interest rates is almost more important than the rise itself.
Also, Old Mutual economist Terence Moll notes, the level of interest rates reflects the political risk in South Africa. Lower rates should be expected in the relatively calm countries of the industrial world.
Frankel Pollak chief economist Mike Brown reckons real rates should be even higher, to combat inflationary expectations since the trend in long-term interest rates indicates rising inflation.
Expectations are of inflation at 12 to 13 percent. So perhaps, suggests Brown, to combat expectations the prime rate needs to rise to 19 percent.
Brown suggests controlling inflation is paramount, and that high rates are not a problem in themselves. The need to pay more for inflated goods and services is what gets the bond-holder into trouble, not any rise in mortgage bond repayments.
Thinking along these lines, Stals must have been tempted to raise Bank rate by two percentage points right now, as some economists have called for.
Instead he aims to further curtail bank credit to the private sector by technical measures which include raising banks’ minimum cash reserve requirements.