Why the SARB is in a hik­ing cy­cle

We look at what the Re­serve Bank has in store for the lo­cal econ­omy in the com­ing months, and why.

Finweek English Edition - - NEWS - By Sizwe Nxed­lana ed­i­to­rial@fin­week.co.za Sizwe Nxed­lana is chief econ­o­mist at FNB.

the South African Re­serve Bank’s (SARB’s) pri­mary man­date is to achieve and main­tain price sta­bil­ity in the in­ter­ests of bal­anced and sus­tain­able growth. Price sta­bil­ity is a nec­es­sary but not a suf­fi­cient con­di­tion for eco­nomic growth that South Africa re­quires. To achieve price sta­bil­ity, the SARB has an in­fla­tion tar­get of be­tween 3% and 6%. The ad­just­ment of in­ter­est rates is the main pol­icy tool used by the SARB to en­sure that in­fla­tion stays within the stated tar­get.

Last year, SA’s con­sumer price in­fla­tion grew by 6.1% com­pared to 2013. It was a tale of two halves. In­fla­tion slowed in the lat­ter half of 2014 and slowed even fur­ther in 2015, av­er­ag­ing only 4.1% dur­ing the first quar­ter. This was on ac­count of the sig­nif­i­cant de­cline in the oil price, which led to a de­cline in the do­mes­tic petrol price. Af­ter bot­tom­ing at a rate of 3.9% in Fe­bru­ary, con­sumer in­fla­tion has in­creased to 4.6% in Septem­ber.

We ex­pect in­fla­tion to in­crease fur­ther in the com­ing months, peak­ing at around 6% dur­ing the first and fi­nal quar­ter of 2016. The main sources of the ex­pected ac­cel­er­a­tion in in­fla­tion are cost push in na­ture. They are a higher rand oil price, fur­ther in­creases in elec­tric­ity prices and higher food prices.

In con­trast, the South African econ­omy has de­liv­ered very weak growth in the last two years and we ex­pect this to con­tinue over the next two years. Last year the South African econ­omy grew by only 1.5% with con­sumer spend­ing only grow­ing by 1.4%. With gov­ern­ment making an ef­fort to rein in its bud­get deficit, weak growth in credit ex­ten­sion to house­holds and sup­ply side con­straints such as elec­tric­ity hold­ing back do­mes­tic out­put, we ex­pect the South African econ­omy to con­tinue to de­liver weak growth. As a re­sult there will be lim­ited de­mand-led driv­ers of in­fla­tion.

De­spite this we ex­pect the SARB to raise the repo rate by at least 50 ba­sis points (0.5 per­cent­age point) over the next 12 months for the fol­low­ing rea­sons. Firstly, as has al­ready been ex­plained, in­fla­tion is likely to in­crease some­what over the next few months. Se­condly, the risks to the in­fla­tion out­look are to the up­side. We are a small open econ­omy with a large cur­rent ac­count deficit. This means our na­tional spend­ing is sig­nif­i­cantly greater than na­tional in­come. The dif­fer­ence needs to be bor­rowed.

With the US Fed about to be­gin rais­ing in­ter­est rates for the first time since 2008, fund­ing for coun­tries that need it, like SA, will be­come more ex­pen­sive. This partly ex­plains the sig­nif­i­cant rand weak­ness we are cur­rently wit­ness­ing. The rand is likely to weaken fur­ther when the Fed does raise rates.

Rand weak­ness could place fur­ther up­ward pres­sure on in­fla­tion than is cur­rently an­tic­i­pated as sec­ond-round in­fla­tion­ary ef­fects, which have been largely ab­sent, come to the fore. There are also con­cerns about what a long pe­riod of high in­fla­tion will do to in­fla­tion expectations that are at the top end of the 3% to 6% tar­get and on the pric­ing be­hav­iour of both labour and firms.

We ex­pect the SARB to act against th­ese risks in a grad­ual man­ner and to do so pre-emp­tively.

We ex­pect in­fla­tion to in­crease fur­ther in com­ing months, 6%peak­ing at around dur­ing the first and fi­nal quar­ter of 2016. Last year the South African econ­omy grew by only 1.5% with con­sumer spend­ing only grow­ing by 1.4%.

The head­quar­ters of the South African Re­serve Bank in Pre­to­ria.

Newspapers in English

Newspapers from South Africa

© PressReader. All rights reserved.