Hawkish Reserve Bank sees South Africa edge towards a rates hike

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Inflation edged slightly higher in September, marking its fifth consecutive month above the midpoint of the South African Reserve Bank’s target range.

With inflation pressures mounting, the central bank — under its seemingly intractable governor Lesetja Kganyago — will likely soon begin the process of tightening monetary policy, analysts say. 

This will put an end to South Africa’s record low interest rates, initiated to support recovery from the ravages of Covid-19, even though the economy remains below pre-pandemic levels and unemployment continues to deepen.

Earlier this month, the Reserve Bank’s monetary policy review hinted that rates could be hiked as early as next month. 

In multiple instances, the review states that the Reserve Bank’s quarterly projection model suggests normalisation of monetary policy should begin this quarter with a 25-basis points hike. The next monetary policy committee meeting is in November.

Hawkish

Annual CPI quickened to 5% in September, off the back of higher fuel and food costs. This is in line with expectations and affirms the Reserve Bank’s hawkish stance on tightening, Citibank economist Gina Schoeman said.

The central bank has hinted more and more throughout the year that there will be a need to normalise rates, Schoeman said. 

“They’re not talking about hiking cycles, they are talking about the normalisation of rates. In other words, removing some of the accommodation from the pandemic from last year … Also, reminding us that rates will still be accommodative thereafter. They’re not planning to total the economy.”

Razia Khan, chief economist at Standard Chartered, said she expects a rate hike from early next year. 

“Should the Sarb [South African Reserve Bank] decide not to move to start normalising monetary policy … South Africa would look increasingly out of sync with those emerging market central banks that are tightening,” she said.

An earlier tightening at the November meeting “is certainly at play”, Khan said, considering greater inflation pressures from fuel and food prices. “We will have to watch for it …. If, for whatever reason, the Sarb points towards inflation becoming more of a problem, it would have to have a really good justification for why it chose not to move at the November meeting.”

Investec chief economist Annabel Bishop said the Reserve Bank could begin normalising monetary policy this quarter by delivering a 25-basis point hike to start the process of eventually raising rates by 3.5% in total over the next few years. 

In a note from earlier this month, Bishop pointed out that monetary policy authorities are generally sounding more hawkish, with the Reserve Bank indicating it could hike rates by November  — even though the economy has not recovered to 2019 levels and unemployment is very high.

Flexible

Bishop said the Reserve Bank under Kganyago has not displayed much flexibility in its approach to monetary policy by communicating the need for higher interest rates increasingly frequently in the second half of this year. 

These pronouncements have come even as upward pressure on CPI has become more likely and despite still extremely weak economic growth and a likely contraction in GDP in the third quarter of 2021, Bishop added.

Kganyago’s Reserve Bank has been seemingly less flexible than it was under Tito Mboweni and Gill Marcus, Bishop said. “The current governor has worked CPI inflation down to 4.5% while the previous two were satisfied if it was between three and 6% the majority of the time,” she said. 

“Lower inflation has meant lower salary and wages. Importantly, lower real salary and wage increases have seen downward pressure on household consumption expenditure growth over the past few years, contributing to more moderate GDP growth.”

Cosatu’s parliamentary officer, Matthew Parks, said the trade union federation would not support the Reserve Bank raising interest rates, especially with the economy still in a recession.

The Reserve Bank has focused on managing inflation at the expense of its other key mandates, namely to support economic growth and job creation, Parks said. “These are all equally important, critical and complementary mandates. None should be sacrificed for the other.”

The Reserve Bank should be looking at how it can support economic growth and job creation, he added. “Key to this is to provide further relief to consumers and the economy by lowering the repo rate. There is space with the current levels of inflation to do that.”

In a public lecture he delivered in September, Kganyago said the Reserve Bank’s inflation-targeting is more flexible than critics claim. “It doesn’t require the central bank to cancel out every price shock using interest rates, or to have perfect forecasts,” he said. 

“Shocks are inevitable and so are forecast mistakes. What central banks need to do is convince people that they will do what it takes to steer inflation back to target, over a realistic time frame.”

Kganyago also cautioned about keeping interest rates low to stave off the country’s unemployment death spiral, saying it would be the “easiest way to destroy price stability”. 

“Our labour market is so dysfunctional, this excuse would rule out ever raising rates — a policy that would leave us in the worst-case scenario of high unemployment and high inflation.”

Schoeman echoed this sentiment after the release of the CPI figures this week. “Yes we have an unemployment problem. We’ve had it for 25 years,” she said. 

“If anything, trying to manage price stability in any economy with high unemployment is what protects any of the income that exists, especially for low-income individuals. Because they do not have much exposure to credit and therefore what really impacts them is inflation.”

The Reserve Bank’s 4.5% midpoint target is not low compared to the targets of its emerging market peers, Schoeman noted. 

It is difficult to compare Kganyago’s flexibility to his predecessors, Schoeman said, especially considering they governed during different economic cycles. Kganyago has also anchored inflation expectations from the top of that range at 6% all the way down to 4.5% or lower.

“In a way you would look at moving the target from 6% to 4.5% during Lesetja Kganyago’s years and suggest that he was less flexible. Because, by moving his target down, it meant they had to be more hawkish — both in their communication and, of course, in their actions,” she said.

“But by getting inflation down that much, he has actually created more flexibility in the economy.”

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