OSAGYEFO MAZWAI: Receding inflation highlights changing macroeconomic winds

Ahead of this week’s inflation data release and the SA Reserve Bank interest rate decision, it is worth reflecting on the previous inflation print released by Stats SA, which gave a clear indication on how improving SA-specific sentiment can result in improving living conditions for South Africans.

The inflation data suggests that the Reserve Bank can begin to cut interest rates at the next monetary policy meeting on September 19. For July inflation was marginally above the midpoint of the target range and current currency dynamics suggest it should remain at a similar level for the next while.

Should the Bank decide to cut, this could result in the beginning of a cyclical economic upturn, which, if supported by the in-motion structural economic upturn, would be further good news for all South Africans.

Sentiment has been improving over the past few weeks. As we went into the elections there was some pessimism over whether the absence of load-shedding would persist. Some believed it to be a last-ditch attempt by the sixth administration to arrest the decline in voter support for the governing party, which was believed to be directly linked to the electricity situation. However, it is now clear that this was not the case, and that the lights staying on is a result of work by the Eskom management team to improve energy security.

Energy is a fundamental pillar of our structural economic capacity and ecosystem. For instance, as company results come in there has been anecdotal evidence that the cost of doing business has improved due to better energy security. As the cost of doing business recedes, corporates can invest in projects that can grow their companies and grow the economy. Our recent employment data highlight how important it is for business to operate in a conducive environment to create employment.

In addition, as margins normalise after the energy crisis this creates an environment in which disinflationary pressures are created, as can be seen in the recent inflation numbers. Companies need not pass on the costs arising from energy insecurity, such as diesel for generators. It similarly appears that companies may not need to invest much further in alternative sources of energy as had been widely expected when we were experiencing high levels of load-shedding.

There should also be higher taxable revenues for the SA Revenue Service to benefit from, given the normalisation of margins. which would be excellent for the fiscus. Eskom’s debt burden should similarly improve due to improved local sentiment, which has seen a sharp rally in the rand-dollar exchange rate (in particular the trend away from R19/$, though some of the gains have unwound recently). 

This should be good for Eskom’s dollar-denominated debt — though the power utility has various hedging instruments to cushion against volatile currency movements. The improving sentiment explains falling sovereign bond yields and lower Eskom bond yields, which means interest expenditure should become less of an issue (all things constant, post-2026 under Eskom’s debt relief programme when they can begin to reissue debt). This implies that as the cost of debt falls, Eskom will be able to spend more on infrastructure maintenance projects, expanding the grid and/or on performance incentives for employees.

The most important aspect of the improving inflation environment is the freeing up of disposable income for consumers. For example, in the UK a 25 basis point cut in interest rates results in a drop in average monthly mortgage payments of about €28 (R552). This amount will obviously be higher for higher value mortgages. Importantly, this amount essentially drops straight to the bottom line as disposable income.

The cause and effect of interest rate cuts would be the same for an SA mortgage holder. In the context of consumption, this would result in material gains for economic growth as people spend more, bearing in mind that South Africans tend not to save. The recent SA GDP data released by Stats SA showed some improvement in consumer spending, and this bodes well for overall economic activity going forward.

That said, the stronger currency in itself does not directly result in more robust economic activity, as highlighted by Business Day columnist Duma Gqubule last week (“GDP will languish despite positive right-wing GNU vibes”, September 10). It is true that there are different causes and effects of a strong/weak currency, and Gqubule makes the point on the influence of the currency on imports and exports.

However, in the context of this article, a strong currency does go a long way towards helping catalyse consumption expenditure as it transmits its way through the inflation and interest rate channel. This is particularly true in SA, where the primary mechanism for the Reserve Bank to achieve its primary mandate of maintaining price stability is through the adjustment of interest rates. 

Another important consideration is SA’s imported inflation, which is directly linked to the rand-dollar exchange rate as well as commodity prices. For poorer households, 35% of income is spent on food and another 12% on transportation, while for middle-income households 9% is spent on food and 14% on transportation. The poor are heavily exposed to nondiscretionary items, which are the more volatile components of the consumer price index basket. SA imports most of its fertiliser and petrol, which are sensitive to changes in the currency. Shocks to the currency tend to erode the incomes of low-income households more than middle- or high-income households.

In the context of the rand, one concern — particularly for offshore earnings-exposed companies such as our minerals and agricultural exporters — is the stronger currency and the subsequent effect on revenues. Transnet continues to slowly recover, but incremental volume movement on our logistics network should mitigate against the revenue impact through higher volumes. It is vital that Transnet keeps improving its efficiency, to offset the forex losses as a result of stronger currency. 

There are multiple moving parts to SA’s macroeconomic trajectory, but at the core is the improving living conditions for the people, as seen in the latest inflation data. The confidence is underpinned by progress being made with Operation Vulindlela, particularly in energy security. The progress achieved thus far has been good for the economy and the expected cutting cycle would be another propeller of growth.

Another source of optimism has been the formation of the government of national unity (GNU), and the stable and relatively certain environment that has ensued. We made this bold assertion during the formative stages of the GNU, and it is encouraging to see the story unfolding. 

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