Climbing interest rates a warning to SA

Reserve Bank governor Lesetja Kganyago. The bank has dramatically reduced its economic growth forecasts for the coming year. (Waldo Swiegers, Bloomberg)

Reserve Bank governor Lesetja Kganyago. The bank has dramatically reduced its economic growth forecasts for the coming year. (Waldo Swiegers, Bloomberg)

The South African Reserve Bank, in its first monetary policy meeting since the economic upheaval caused by the axing of finance minister Nhlanhla Nene, on Thursday raised interest rates by 50 basis points, taking the repo rate to 6.75%.

The news was not entirely unexpected, thanks to the rampant decline of the rand and with inflation continuing to head upwards, driven particularly by rising food prices.

“The [monetary policy committee, or MPC] faced the continuing dilemma of a deteriorating inflation environment and a worsening growth outlook,” the bank’s governor, Lesetja Kganyago, said on Thursday.

It has dramatically reduced its economic growth forecasts for the coming year. Growth in 2015 is estimated to have averaged about 1.3%, and growth in 2016 is expected to shrink to 0.9%, down from its previous forecast of 2.1%.

But the continued pressure on inflation outweighed concerns over growth.

The bank’s inflation forecasts have shown a marked deterioration, Kganyago said. Inflation is now expected to average 6.8% in 2016 and 7% in 2017. Previous forecasts for these years were 6% and 5.8%.

Kganyago said changes in the forecast were mainly owed to the “significantly more depreciated” real exchange rate and higher-than-expected food price inflation. These revisions “more than offset” the effects of the lower oil prices, he said.

According to the bank’s estimates, since the last MPC meeting in November 2015 the rand has depreciated by 13.5% against the dollar, 15.2% against the euro, and by 12.9% on a trade-weighted basis.

The currency’s muted reaction to the first hike in interest rates by the United States Federal Reserve last year suggested that the move had been “more or less” priced in. “But this was overshadowed by the impact of domestic developments on the exchange rate earlier in the month,” he said.

He stressed that the MPC believed that “the growth constraints facing the economy are primarily of a structural nature and cannot be solved solely by monetary policy”.

Nevertheless, it remained sensitive to the potential negative impact of interest-rate hikes on cyclical growth, he said.

FNB’s chief executive, Jacques Celliers, said in a statement after the announcement: “We should all welcome the bold step taken by the SARB earlier today. While the hike is painful, the severe instability we have experienced in recent weeks had to be addressed, as the effects of an unstable currency and rising prices will hurt all consumers.”

Professor Jannie Rossouw, the head of the school of economic and business sciences at the University of the Witwatersrand, said the pre-emptive rate hike might save us more pain in the future and help to avert a credit ratings downgrade.

“It will show that South African authorities are prepared to act in a responsive and responsible way to avert trouble ahead of us,” he said.

The current level of the exchange rate and domestic bond rates suggested that the market had already priced in a ratings downgrade, he said. If that could be averted, the exchange rate could improve.

But other experts were not as positive. Raymond Parsons, an economist at North West University, said inflation was the “consequence of forces not responsive to interest rate discipline”.

Much higher borrowing costs were “not the best medicine in these economic circumstances”, he said, and the increase would “unavoidably further dent business and consumer confidence”.

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