EDITORIAL: Solid cases for 50 and 25 basis point hikes

The consensus going into this week’s meeting of the Reserve Bank’s monetary policy committee is a 50 basis point hike in interest rates. But almost as many economists expect a hike of just 25 basis points. A solid case can be made for either one. It should make for an interesting meeting. And as always, what the committee says will be as important as what it does.

SA didn’t move quite as early to contain rising inflation as did some of its emerging market peers such as Brazil, but the Reserve Bank intervened fairly early. It has raised rates by a cumulative 350 basis points since the start of the hiking cycle in November 2021. The recent hikes have been 75 basis points. Now at last it can start to taper off the increases — though when it can pause, and when it can start cutting rates again are questions that are the subject of hot debate among economists.

Inflation is expected to slow down this year; so is the economy, with forecasts getting ever gloomier amid sustained load-shedding. The committee will be weighing up those dynamics, as well as the important issue of the US Federal Reserve’s likely next moves and the impact those could have on the dollar and on global financial markets and so ultimately on the rand and SA’s inflation rate.

The rand’s recent rally is one of the key reasons that 25 basis points is looking feasible, but it’s not the only one. Inflation came in slightly below expectations for December, at 7.2% compared with the 7.3% consensus forecast. A particularly good sign was that core inflation (excluding the volatile fuel and food components) also came in lower, thanks in part to slowing housing costs.

But the headline picture is that the spikes in fuel and food prices that over the past year have been the big factors driving global and local inflation way above target ranges are starting to come off. That’s particularly the case for fuel, where SA has benefited from lower global oil pricing and a stronger rand. December’s figures reflect that; January’s will do it again. And while food inflation is still well into the double digits year on year, it is starting to slow as global food prices moderate.

Load-shedding

The bleak economic outlook has also prompted calls for the committee to opt for 25 basis points, and possibly stop there. Surprising, good third-quarter growth is likely to mean economic growth for 2022 will come out comfortably over 2%, even if the fourth quarter is negative, as it might well be. But the most pessimistic forecasts for 2023 are as low as 1%. In theory that might mean very little pressure on prices, creating space for the Bank to take it easy on rates, especially if it wants to avoid economic overkill. In this context it is tempting to back a 25 basis point hike over a 50 point one.

The trouble is, though, that the electricity crisis means the economy can’t grow much faster anyway, so low growth doesn’t necessarily help at all to contain inflation. And there are growing signs that load-shedding itself could exert price pressures, disrupting supplies and raising costs for producers and retailers. That’s without even factoring in the 18.6% tariff hike the regulator has granted Eskom that could add 0.3% to the inflation rate.

Clearly businesses and trade unions are not expecting inflation to fall to within the 6%-3% inflation target range soon. The Bureau for Economic Research’s latest survey shows those two groups’ expectations have risen well above 6% over the one, two and five-year time horizons, after a brief decline. Businesses and trade unions are the most important price setters in the economy and if they are expecting high inflation, they will adjust their wage demands and pricing behaviour accordingly. That is the biggest risk the committee has to be concerned about — that core price pressures become entrenched. If the committee wants to issue a clear signal that this will not be allowed to happen, it has to look at a 50 basis point hike.  

It may need to do so too in a global context, which poses some big risks. China’s unexpectedly early reopening is good for growth, and for commodity prices, and that should be good for SA’s economy. But the reopening could well also stoke global inflation again. That could make it even harder for the Federal Reserve to get a grip on inflation, possibly causing continued steep rate hikes, a stronger dollar and a weaker rand. The committee must manage that risk too.