Downside inflation surprises
Expectations of an interest rate cut at least by late this year are building
By Arthur Kamp, investment economist at Sanlam Investments.
At the conclusion of its Monetary Policy Committee Meeting on March 30, the South African Reserve Bank (Sarb) left its repo rate unchanged at 7% per annum, amid heightened uncertainty surrounding the tenure of the Minister of Finance, Pravin Gordhan. As it turns out, President Jacob Zuma replaced Gordhan later that night with Malusi Gigaba.
The Sarb did, nonetheless, indicate at the time that “we may have reached the end of the tightening cycle”. Five committee members supported the unchanged stance, while one member would have liked a 25bp interest rate cut. Ostensibly, the MPC members would have been wary of potential rand weakness and its impact on the inflation outlook should political tensions escalate. South Africa is a small, open economy so the currency can be expected to play a central role in the inflation process. Also, given an inflation rate above the 6% upper limit of its inflation target range at the time the Bank probably wanted to see a sustained improvement in the inflation data before acting.
But, here’s the thing. The last two headline consumer price inflation (CPI) prints have surprised on the downside with CPI advancing just 5.3% in the year to April 2017, down from 6.1% in March 2017. Admittedly, this partly reflects lower food price inflation. However, core CPI advanced by a mere 4.8% in the year to April 2017. Meanwhile, at its current level, the rand is firmer than a year ago, implying it is likely to be a force for disinflation. Considering these developments, inflation forecasts are likely to be lowered. A case can be built for an average headline inflation rate of close to 5% next year – comfortably within the Sarb’s inflation target range.
The consensus expectation is for no interest rate cut at this meeting, partly because of worries that the current level of the rand is not adequately pricing in the heightened level of political risk (or possibly further sovereign debt rating downgrades). There may also be some uncertainty as to the likely path of monetary (and fiscal) policy in the US. Admittedly, nothing is guaranteed in forecasting and a sharp currency depreciation in a short space of time can change the inflation and interest rate outlook materially.
But, that said, given currently available information the question is when and not if the Sarb should cut its repo rate – especially since real GDP growth is still below potential with the Sarb signalling downside risk to growth in its March 2017 statement due to the potential adverse impact of political uncertainty on private sector fixed investment spending.
In the end, given the concern that rand volatility could return, thus posing inflation risk in an environment where inflation expectations are sticky at an elevated level, the Sarb seems set to leave its repo rate unchanged. But, given an improving inflation outlook in a forward looking monetary policy regime, expectations of an interest rate cut at least by late this year are building. Here’s hoping the rand can hang in there.
Share On:
Comments are closed.