Rate hike unlikely in sluggish economy
The highest inflation rate in 10 months will not be enough for the Reserve Bank to consider raising interest rates any time soon, as a sluggish economy constrains the ability of businesses to pass on extra costs to customers and fuel future price increases.
That will come as a relief for consumers who have been hit by a slowing economy, record petrol prices and the first VAT increase in a quarter of a century. Higher fuel prices were the main driver for acceleration in consumer inflation in July to an annual rate of 5.1%, the highest since September 2017, and up from 4.6% the previous month, according to figures released by Statistics SA on Wednesday.
The rate is still comfortably within the Bank’s 3%-6% target range. Governor Lesetja Kganyago and his deputy, Daniel Mminele, said recently the Bank’s monetary policy committee (MPC) would not be swayed by short-term swings in the rand.
With an economy that may still swing into recession in 2018, and an unemployment rate near 30%, a rate increase by the Bank would create a political headache for President Cyril Ramaphosa, who has seen the optimism that accompanied his election evaporate.
Economists said the rand’s 13% drop against the dollar to date in 2018 could cause the Bank, which next decides on rates in September, to adopt a more hawkish tone.
"While we don’t believe the higher print will create too much discomfort among the MPC members, it may well necessitate bringing forward rate-hike expectations to the first half of 2019 rather than the second half," said FNB senior economic analyst Jason Muscat. The rand gained 1.3% against the dollar on Wednesday, its biggest jump in more than a month after President Donald Trump’s legal drama hit the US currency.
The MPC left the repo rate unchanged in July at 6.5%. Its last cut was in March, a 25 basis-points reduction.
While interest-rates risks are now more firmly to the upside, especially in an environment of raised emerging-market volatility, the Bank will probably take action only in 2019.
"The Reserve Bank will increasingly signal their concern about inflation and highlight that if there is evidence of second-round effects of the recent rand weakness developing in the economy, they will raise interest rates," said Stanlib chief economist Kevin Lings.
In a sign of retailers struggling to pass on rising costs as consumer confidence flounders, food inflation was 3% on an annual basis, while the fuel component of the price index surged more than 25%.
That was also evident on Tuesday, when Shoprite, Africa’s largest food retailer, cited low food inflation in SA among the major factors in its first earnings drop in 20 years.
"Markets are currently pricing a rate hike in the fourth quarter of this year. We think that this is unlikely as the pass-through from the weakness in the rand is not very strong," said Capital Economics economist John Ashbourne. He said the sharp fall in the rand demonstrated the currency’s vulnerability to external shocks.