Sweeties next time

The Reserve Bank’s long-term view on monetary policy has important lessons for the Zuma administration

hen you have a 3½-yearold, you are tempted to placate in the short term instead of taking a longterm view on the behaviour you are condoning. The shelves at the Woolworths and Clicks till points, crammed with chocolates and sweets, are the stuff of nightmares.

Capitulating results in a quiet child — and whiny demands on every subsequent visit to the shops. Not capitulating means pain in the present, while the benefits accrue much later.

Most governments don’t have the wherewithal to take a longterm view. They avoid shortterm pain. In SA this is evident across the political spectrum, from e-tolling to absurd publicsector wage increases in 2009.

Fortunately, one of the pillars of SA’s macroeconomy, the Reserve Bank, is able to look beyond the short-term plunge in inflation that will occur in 2015. In its January statement, the monetary policy committee warned households, businesses, labour and financial markets that the “bar for further accommodation [rate cuts] remains high and would require a sustained decline in the inflation rate and inflation expectations”.

Since its last meeting in November 2014, the Bank’s forecast for average CPI in 2015 has dropped sharply from 5,3% to 3,8%. If the oil price falls further, this estimate could drop too. However, this is only a temporary fall in inflation driven by oil prices. The Bank believes CPI will be an average of 5,4% in 2016 — only marginally lower than its November 2014 estimate for the same period of 5,5%. Furthermore, the impact on general inflation is far less pronounced, as inflation excluding food, energy and petrol will still average 5,1% in 2016.

With growth forecasts being downgraded because of Eskom’s load-shedding, there have been suggestions that the Bank should consider rate cuts to boost SA’s lacklustre growth rate. The Bank is looking for GDP growth to average 2,4% in 2015.

A recent newspaper headline said: “Turkey’s central bank caves on interest rates.” This followed a barrage of verbal pressure from President Recep Erdogan, which included this gem: “If interest rates don’t fall, inflation doesn’t fall either.” In a surprise move, the Russian central bank cut interest rates by 200 basis points late last week.

While central banks in Russia and Turkey have had to fend off an onslaught of political pressure, there has been virtually no interference in SA’s monetary policy in the past 15 years. In the past five years this has meant that local interest rates have remained remarkably stable.

Despite a sharp deterioration in the inflation outlook in early 2014, the Bank responded with two interest rate hikes totalling 75 bps. It looked through the short-term factors and focused on inflation in the longer term.

The decision to “pause” at this juncture in the hiking cycle — instead of thinking about cuts — bodes well for future interest rate stability.

Bhanu Bawejua from UBS recently noted that while “there are strong signs of disinflation everywhere, there are some in emerging markets such as Turkey and Russia who, for different reasons, can’t afford to hasten towards aggressively looser monetary policy. The global backdrop for emerging markets is challenging enough without risking policy mistakes.”

There are clear risks to the rand (and the Russian rouble and the Turkish lira) when the US hikes rates. A weaker rand will lead to higher inflation. The Bank’s decision to eschew interest rate cuts now means that it should be forced to raise by less at that point.

The main macro question is whether government can deliver on its promise to control publicsector wage increases this year. Inflation’s tumble this year should give it grounds to deliver a CPI plus 2,5% wage hike while the unions save face. Unfortunately, President Jacob Zuma’s government has showed little appetite to take short-term pain, whatever the long-term gains. Moola is an economist & strategist

at Investec Asset Management