Reserve Bank governor Lesetja Kganyago. Picture: FREDDY MAVUNDA
Reserve Bank governor Lesetja Kganyago. Picture: FREDDY MAVUNDA

When the SA Reserve Bank’s monetary policy committee (MPC) last met in July, it delivered a rate cut that was the smallest since the Covid-19 outbreak hit the country, and two out of five members voted to keep the repo rate unchanged.

Having been one of the most aggressive rate cutters in emerging markets, a consensus started to build that it might pause after dropping the repo rate by 25 basis points to 3.50%, and give itself time to assess the effects of the stimulus on the real economy. Hence economists were divided going into this week’s meeting, though a majority thinks it will cut by another 25 basis points on Thursday.

Since July, a number of events have conspired to swing the balance in favour of another move by governor Lesetja Kganyago and colleagues on the MPC.

On the international front, the biggest story was the change in the US Federal Reserve’s approach to pursuing its 2% inflation target. While inflation is nowhere near there, the central bank made it clear that its policy will not just be aimed at hitting it, but would allow the level of price increases to stay above that for a period of time to make up for previous undershoots.

On employment, it wouldn’t necessarily hike rates when hiring increases, in anticipation of that translating to faster inflation. In essence, it upended the idea of policy being forward looking.

It may well end in tears but for now, the effect is to entrench the idea that near-zero US interest rates won’t be rising anytime soon. This helps our central bank in that it allows policymakers to cut rates without worrying about protecting the yield differential of SA’s assets.

The European Central Bank, worried about a strong euro putting its inflation target even more out of reach, is going to stay dovish, and the UK’s central bank has indicated that it’s willing to join the negative rates club.

External factors are therefore supportive, and with that you can also include an oil price that’s trading at about $40 a barrel — from $43.99 two months go, despite an increase this week due to a hurricane closing in US offshore oil and gas production.

Locally, the shocking second-quarter GDP number, which revealed a drop that translated to 51% on an seasonally adjusted annualised basis, showed that the economy is in even more dire straits. So it won’t be a surprise to see the Bank revise down its 2020 forecast of a 7.3% decline for 2020. The Organisation for Economic Co-operation and Development (OECD) on Wednesday said the economy would shrink by 11.5%.

That level of contraction almost definitely means that demand, and therefore price pressures, will remain subdued. Business and consumer confidence near historic lows and slower growth in demand for credit also support that hypothesis.

Another factor favouring a cut is the rand’s recent resilience, which has seen it among the best performing emerging-market currencies over the past month.

In any case, the rand’s 14% drop in 2020 so far, which saw it head towards R20/$ at the height of the Covid-19 induced volatility, hasn’t stopped inflation slowing to the lower-end of the 3%-6% target range. In July, the Bank forecast inflation averaging 3.4% in 2020 and 4.3% in 2021 and 2022, and it wouldn’t be a surprise to see that downgraded, strengthening the case for the MPC to announce a rate cut.

What could work against a cut is that the Reserve Bank, unlike Jerome Powell’s Fed, is still a forward-looking central bank. Policymakers might not like the idea of negative real rates when SA is desperate to attract capital and is facing a fiscal crisis that's likely to get worse as growth disappoints. Pushing rates too low now could result in them rising faster than the Bank would like in 2021.

As economists at BNP Paribas put it, “the committee [is] likely cognisant of the need to try and keep rates as stable as possible next year amid still-large fiscal risks”.

But the rationale to act now will probably win over the majority of the MPC. And that will be the correct call.

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