EDITORIAL: Rate-setters will tread softly
Uncertainty about the new Trump administration’s economic policies as well as domestic inflation concerns suggest caution
After its last meeting in November, the monetary policy committee began its statement with the comment that the global economic and political landscape had changed significantly following the US presidential election.
As the committee gears up for its January meeting, which starts on Monday, US president-elect Donald Trump is being inaugurated and uncertainty about the new administration’s economic policies and what they might mean for the world is as great as ever. That suggests the committee will be as cautious now as it was then about the "elevated uncertainty" and the upside risks to the inflation rate because of possible shocks to the rand exchange rate.
Not only is there the issue of the "Trump" trade and its possible impact on emerging market currencies, including the rand, but there are the hawkish statements of US Federal Reserve chairwoman Janet Yellen, who in recent days has reiterated that the Fed could raise rates a few times in 2017.
The rand strengthened in 2016 for the first time in a while and, along with the prospect that SA’s drought would end, that raised hopes in the market of rate cuts.
But a cautious committee will be taking into account the possibility of shocks to the exchange rate in 2017, as well as of risks such as a rising oil price.
Quite apart from the question of where the rand is headed is uncertainty about how much it actually affects inflation. Reserve Bank governor Lesetja Kganyago noted in an interview with Bloomberg this week that the "pass through" effect from the rand to inflation had been muted lately, "so models have to be recalibrated".
Against all the negatives is the positive prospect that the end of the drought and a slowdown in food price inflation will pull down SA’s overall inflation rate. The inflation rate jumped to 6.4% in 2016, from 4.6% in 2015, and the committee’s last forecast was for a decline to 5.8% in 2017 — with a sustained return to the target range in the second quarter — and to 5.5% in 2018.
We will see next week whether the Bank has seen reason to change its forecasts. But while history is not always a guide to the future, the latest inflation figures from Statistics SA could give cause for concern, especially given some trends in food prices and a rise in core inflation to 5.9%. Consumer price inflation came in at 6.8%, which was well above the market consensus of 6.5%. Food price inflation is running at 11.7% for the year, with meat price inflation jumping to 4% for the month of December alone.
the committee will look carefully at the risks to the inflation outlook. It will no doubt continue to be concerned at inflation expectations, which have long been stuck at the top of the 3%-6% target range
This might be the food price story in 2017. Agri SA senior economist Hamlet Hlomendlini predicts the good rains that have fallen since October could see maize production for the current season reaching more than 12-million tonnes compared with 7.5-million tonnes in the previous season. That would probably see food prices drop in the third quarter.
However, the drought has almost destroyed SA’s livestock, so red meat prices could increase substantially in 2017, with herds taking up to three years to rebuild.
Domestically, then, the committee will look carefully at the risks to the inflation outlook. It will no doubt continue to be concerned at inflation expectations, which have long been stuck at the top of the 3%-6% target range.
And while expectations are that it might have space to start cutting in 2017 as inflation moderates, SA’s inflation is still stubbornly stuck nearer the 6% than the 3% and a big question that Nomura economist Peter Attard Montalto raises is whether the committee can or should start cutting when there’s no sign yet of inflation going below 5%.
The committee will and should hold on rates next week.
But — as always — what it says will be as interesting as what it does.