OSAGYEFO MAZWAI: Reserve Bank holds firm as last line of defence

Last week the SA Reserve Bank’s monetary policy committee (MPC) opted to hold its benchmark repo rate at 8.25%, in what should on the balance of evidence have been a welcome decision.

The unanimous decision should also be welcomed since it implies there was broad consensus that the most material of risks to inflation have moderated — in particular, exogenous shocks — though Brent crude approaching $90 a barrel unsettles the nerves.

The key risk that’s rearing its ugly head is the continued buoyancy of the US economy. It is becoming incrementally more likely that the US Federal Reserve’s federal open market committee will keep interest rates higher for longer, which could influence the domestic interest rate trajectory over the coming months.

That said, tight financial conditions in the US should at some point lead to some economic deterioration, but the typical monetary policy transmission mechanism has proved evasive. Yes, inflation in the US (and globally) has dissipated, but it’s been driven by a normalisation of conditions that had been caused by post-pandemic supply-side dislocations.

Still, economic activity remains healthy and we haven’t seen the archetypal downturn that usually follows a sharp rise in interest rates. As the US continues to grapple with robust economic activity, it has become challenging for the Fed to justify cutting interest rates in the absence of some economic deterioration. And for as long as the US doesn’t cut interest rates, the Reserve Bank is likely to stick to its current course.

Steady hand on the tiller

The current course of action is premised primarily on the protection of capital flows (preserving capital in SA), and maintaining the spreads on yields that ensures the purchasing power (value) of the rand doesn’t deteriorate (cognisant of the risk premium in SA bonds due to factors beyond the Bank’s control).

A freshly criticised enabler of capital outflows is the amendments to Regulation 28 of the Pension Fund Act, notably the lifting of the offshore threshold for assets to 45% from 30%. Suggestions of revisiting the amendments should be carefully considered. While protecting capital flows should be of utmost importance, we should steer clear of treating a symptom instead of an underlying cause.

Putting SA on a firmer economic path is arguably the more appropriate lever to pull. In such an environment, domestic investors logically wouldn’t maximise offshore asset allocation thresholds, and the appetite for increased international asset allocation by foreign investors would increase as the relative attractiveness of investing in SA increased.

Equally, a more conducive business environment with greater confidence would attract foreign direct investment, drive economic growth and incrementally unlock greater capital and tax revenue for the purposes of infrastructure investments (among other positive effects).

It is true that the high level of interest rates is having a detrimental effect on the cost of living in SA, particularly on those households exposed to interest rates through debt, such as home loans, credit cards and other interest-bearing facilities. One indicator is vehicle sales statistics, which are showing a significant deterioration.

Other indicators include retail sales and household final consumption expenditure, which have been similarly weak. High interest rates manifest in many ways, including restricting the economic potential of SA as household consumption expenditure weakens, while also impeding the relative opportunities for businesses to invest more in productive capital due to higher costs of capital.

Social support or social protection?

However, in assessing how consumption is affected by high interest rates, it’s also important to consider the social support programme embedded in government policy, which is considered among the most expansive in the world.

Social grants, among other forms of grants, have played an important role in driving domestic consumption. Among the less obvious considerations as far as price stability is concerned is how taxpayer money is put to better use once inflation is contained, and how those who are funded by taxpayer money through grants can be better protected.

Time and time again South Africans complain about corruption and the inefficient allocation of resources, but persistently high inflation is to our collective peril. Irrespective of the indigenous/exogenous drivers of inflation, demand destruction of any form that contains prices should be a positive. This is particularly true in a low-growth environment where jobs aren’t being created or protected. The final lever (or final line of defence) is defending the purchasing power of the rand, such that the most destitute are protected.

This article doesn’t seek to absolve the state from putting increased effort into economic reform so that the requisite job creation occurs and fewer people are reliant on grants. However, it would be remiss not to acknowledge the extensive strides being made by the state in driving economic reform — the three primary reform workstreams comprising logistics, energy security and crime and corruption are showing signs of progress.

But more needs to be done to contain producer inflation and its volatility. Producers should have certainty around their relative ability to produce and move goods, and do so in cost-effective conditions.

The Bank deals with complex matters and considerations when making interest rate decisions. As the holder of this proverbial “last line of defence” its commitment to price stability is in all of our interests.

• Mazwai is investment strategist at Investec Wealth & Investment International.