EDITORIAL: Crises outweigh benefits of weaker dollar amid dovish Fed

No promises, but the US Federal Reserve has signalled that last week’s 25 basis point (bps) interest rate hike might be its last. In theory that could be good for the rand. In practice it is sadly not that simple. 

The Fed has now raised interest rates by a cumulative 500 bps in 10 successive rate increases since the start of the hiking cycle early last year. At 5%-5.25% the benchmark Fed funds rate is now at its highest since 2007. 

US inflation has subsided to 5% — still well above the inflation target of 2%. But interest rate hikes affect the economy with a lag, and the Fed made it clear last week it wants to give the steep hikes time to play out.

It is also concerned about the turmoil in the US regional banking sector, which it believes will in itself tighten credit conditions and so help to lower inflation. And it sees labour market pressures moderating — even though the latest US jobs numbers, which came out after the Fed decision, put some question marks over that one. 

The Fed is widely seen as having acted too late to tackle inflation, but the dovish tone of last week’s meeting, and the comments by Fed chair Jerome Powell, suggested it feels it has done enough for now. “There is a sense we’re much closer to the end of this than to the beginning,” he told journalists.

As the Financial Times put it, last week’s meeting raised the bar for further “policy firming” — though without ruling it out. And though Powell made it fairly clear the Fed would want to see inflation slowing for a prolonged stretch before it considered a pivot, markets quickly began to anticipate the start of the rate cutting cycle.

Whether that is justified is the subject of some debate. On the one hand the Fed has hiked sharply. The US economy is already slowing and can be expected to slow further in coming months. Some economists still expect a recession. And though the Fed doesn’t seem to be among them, it clearly is worried about the risk of overtightening monetary policy.

Against this, some would argue that the big inflation drivers of the past couple of years — supply chain pressures and labour shortages — may be structural, because of a retreat from globalisation and changes in the workforce. That could make it difficult to get US inflation back to the 2% target soon, especially if Powell signals a halt too soon and doesn’t do enough to curb inflation expectations.

For better or for worse, most in the market now believe the next US interest rate move will be down, with timing the main question. But the risks, as economists say, are to the upside and there is no certainty the Fed won’t have to hike again.

The prospect of a pause, or even a pivot, helped to take the edge off dollar strength last week. A weaker dollar should be good for emerging market currencies, including the rand, and for riskier assets in general. The rand did bounce slightly immediately after the Fed’s decision. But it didn’t last long and the currency continues to be one of the worst-performing emerging market currencies for the year to date.

The trouble is that the rand’s weakness is as much about domestic crises as the global environment. SA’s worst year yet of load-shedding has weighed heavily on the currency in 2023; so has its ultralow growth outlook and the taint of crime and corruption. It is not helping that SA goes into next year’s general elections with the prospect that the outcome could be highly unstable coalition politics.

The rand’s steep depreciation this year has in turn been a key driver of inflation, including food inflation, which is now at 14%. SA’s inflation rate has not gone as high as that of the US, Europe or UK, probably because this economy has been so much weaker. But that consumer price inflation has been climbing in the past two months — the latest figure is 7.1% — when most expected it to continue the decline it started in the second half of last year, was not a good sign.

SA has seen a cumulative 425 bps of rate hikes since the Reserve Bank embarked on the hiking cycle in November 2021. In an economy so horrendously weak, one would certainly have hoped the Bank too could be looking to pause or even to pivot.

That should happen later this year. For now though, and with the rand as weak as it is, chances are there could be one more rate hike.