The South African Reserve Bank vowed on Tuesday to remain focused on its medium term inflation outlook despite the turmoil in global markets that has prompted other countries to adjust interest rates.
It said in its latest Monetary Policy Review that lower commodity prices and easing household spending had reduced pressure on inflation, but a weaker rand was a major threat to the outlook.
The banking sector in Africa’s biggest economy has been largely unaffected by a global financial crisis but slower world growth is seen crimping domestic output slightly.
Many countries, including the United States, Europe and China, have cut rates to help boost growth and to free up credit markets.
”Monetary policy will continue to focus on the expected medium term inflation outcomes and will act appropriately to ensure that inflation returns to within the inflation target range over a reasonable time frame,” the central bank said.
It said a volatile and uncertain market environment would continue to complicate monetary policy decision-making, and amplify the risks to the outlook.
However, a flexible inflation targeting regime should allow for a deviation in the target range due to external shocks.
Lower commodity prices, in particular oil, had helped reduce one of the biggest risks to inflation, while a widening output gap, due to expected slower economic growth, and cooling household spending would ease pressure on prices.
Rand a risk
A change in the targeted consumer price basket would lead to a ”significant decline” in inflation in the first quarter of 2009, although the new targeted measure — all-items consumer inflation — was only expected back in the 3% to 6% band in the second quarter of 2010, the central bank said.
The government will drop CPIX, which strips out mortgage costs, as the monitored gauge due to a change in the calculation of housing costs.
The new basket — in effect from 2009 — cuts the weighting for food, one of the main drivers of faster inflation that led to a combined five percentage point increase in interest rates between June 2006 and June 2008.
The bank left the repo rate at 12% at its August and October meetings, citing the better outlook and easing spending.
CPIX inflation peaked at 13,6% year-on-year in August, slowing to 13% in September.
The central bank reiterated on Tuesday that a weaker currency posed a big threat to inflation.
The rand has lost about 30% of its value against the dollar this year, having fallen almost 20% in October alone, knocked by global risk aversion, a large current account deficit and falling commodity prices.
It was last trading at around 9,70 to the dollar, having rebounded from a near seven-year low of 11,88 hit last month, but still off the 9,10 level it stood at when the monetary policy committee last met and highlighted it as a risk.
”The impact of the exchange rate on the inflation outlook will depend, to a significant degree, on the extent to which these levels are sustained,” the bank said in the policy review.
The currency’s fall could help alleviate some pressure on the current account, the deficit on which swelled to a near 4 decade record of 7,3% of GDP last year.
”At these levels the rand will have a dampening effect on imports at least,” Roelf du Plooy, head of financial markets at the central bank, said in a presentation, adding that the bank was not overly concerned about financing the shortfall.
But he said South Africa’s high interest rate differential compared to other countries was unlikely to attract big inflows of capital while global risk appetite remained volatile.
The central bank said high wage demands and labour costs, as well as elevated inflation expectations, were also of concern for inflation. – Reuters