Sarb cuts inflation forecast for 2018
SOUTH Africa is likely entering a rate cutting cycle, with this change in direction initially imbued by a notable downward adjustment to the Reserve Bank’s (Sarb) inflation forecasts in July to bring them below the consensus economists view.
Specifically, the Sarb has now dropped its 2018 forecast to 4.9 percent year-on-year (y/y), as it assumes lower oil prices, took into account recent rand strength, a lower electricity tariff than it previously expected for 2017 and the advent of recession.
While this has given the Monetary Policy Committee (MPC) confidence to cut, a cut which should have arguably occurred last year already as economic activity flagged heavily, July’s poll for CPI (consumer price index) inflation, at 5.3 percent y/y, is significantly higher than the Sarb inflation forecast for 2018.
The Sarb has communicated previously that inflation forecast towards the upper limit of its 3 to 6 percent target band in a twelve to eighteen month period did not bring it much comfort to cut. Pressure on Eskom’s finances, however, means a significantly higher electricity tariff could occur next year, with a figure of 20 percent y/y already suggested, but one of 8 percent built in by the Sarb for next year.
A 15 percent to 20 percent tariff increase in electricity prices could bring the CPI forecast of the Sarb closer to 5.5 percent for 2018, with double digits electricity price increases of these magnitudes having occurred before.
While the MPC has made significant changes in its inflation forecasts from one meeting to another before and the interest rate cut is very welcome, it is unlikely there will be much scope for cutting rates next year as pressure will be on for significant tariff increases from water as well as electricity.
South Africa risks severe rand weakness from potential downgrades to its Moody’s and S&P local currency.
And next year the Sarb will be eying its CPI inflation forecasts for 2019, which is currently 5.2 percent y/y (from 5.5 percent y/y previously, while the July poll is 5.5 percent y/y) and the outcome will likely be higher on a substantial electricity tariff hike.
Consequently, South Africa’s interest rate cutting cycle may prove short in duration, and shallow, given that the risks to future inflation are possibly more to the upside than outlined in the MPC statement.
But balance of risks on the future aside, the rate cut will be very useful to over-indebted consumers, with many financially vulnerable.
Annabel Bishop is Investec Bank’s chief economist in South Africa.