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

Two important decisions loom towards the end of November: whether the Reserve Bank will hike interest rates; and whether S&P Global Ratings will downgrade SA’s ratings outlook. These actions could put a damper on the country’s nascent economic recovery.

Economists are not too concerned about S&P’s review on November 23. The ratings agency already has SA two notches into junk status on a "stable" outlook, which likely allows for the degree of fiscal slippage contained in the October medium-term budget policy statement. More concerning is the prospect of a rate hike at the next monetary policy committee (MPC) meeting on November 22.

Nedbank chief economist Dennis Dykes thinks the committee will try to keep rates on hold for as long as possible given the absence of second-round effects from the rand’s depreciation. Other reasons for not hiking are the pullback in oil prices and the weak state of the SA consumer’s finances. "A hike now would hurt the economy and could help stifle the very weak recovery," he says.

Of course, a central bank’s job is not just to offset second-round effects — when, in this case, higher petrol prices lead to higher prices for other goods and services — but to keep monetary conditions at an appropriate level.

Citibank economist Gina Schoeman says: "It’s very important to realise how toxic inflation is to the economy and that if the Bank is able to anchor inflation expectations at lower levels over a reasonable period, this will have long-term benefits for GDP growth."

She is expecting a 25 basis point rate hike, in line with the Bank’s recent messaging around refining its inflation target.

 If the Bank is able to anchor inflation expectations at lower levels over a reasonable period, this will have long-term benefits for GDP growth
Gina Schoeman

SA and Israel are the only two emerging markets that still have an inflation target range. The others have moved to point targets with tolerance bands. In SA, there is discussion over whether the Bank should do the same (target 4.5% but allow a 1.5% tolerance on either side), or stay with the target-range mandate (3%-6%) in which 4.5% is only an implicit target.

The Bank’s new macroeconomic model already assumes that 4.5% is the target. Even if this is not a realistic near-term goal, it suggests the Bank is no longer targeting 5.9%.

Further evidence of this was apparent at the September MPC meeting. This was the first time in Bank governor Lesetja Kganyago’s term that any member, let alone three members, voted for a rate hike when the long-range forecast was for inflation to remain within the target range.

"In the past, we’ve only ever seen members vote for a hike when inflation was expected to hit 6% or higher at some point in their forecast horizon," says Schoeman.

Moreover, in the October Monetary Policy Review the governor refers to the fact that the Bank now sees inflation accelerating "above 5%" throughout 2019 and 2020. In the past, "above 6%" would have been the relevant benchmark.

For Schoeman, this confirms the Bank’s reduced tolerance for inflation settling at the top end of the range.

All this suggests that the Bank will start a hiking cycle on November 22, particularly if the inflation risk has risen.

Inflation risk has to do mostly with the behaviour of the rand.

The currency has been pulled in opposite directions in recent weeks. It weakened after the disappointing medium-term budget policy statement but strengthened briefly to below R14/$ on the outcome of the US midterm elections last week.

At the September MPC meeting, the rand was trading at R14.20/$. So recent rand strength, if sustained, will complicate the MPC’s decision.

Another complicating factor is that with MPC member Brian Kahn’s recent retirement, the committee will have only six members. Assuming that Kahn (a suspected dove) did not vote for a hike in September, when the vote was 4:3 in favour of staying put, the MPC split would be 3:3 this time around, unless the remaining members have changed their views. Kganyago (a notable hawk) will have the deciding vote if the committee is deadlocked.

What it means

The Reserve Bank has less tolerance for inflation settling close to 6%

But expecting the Bank to hike rates is not the same as believing it should do so.

Schoeman says it should hike rates, as it’s important for any central bank’s credibility that it acts in line with its mandate and own communication.

If it does hike, the MPC will no doubt stress that this removes only a little accommodation from the economy and that, in real terms, it won’t make much difference, as inflation is rising. (When inflation rises the real policy rate falls.)

Intellidex’s Peter Attard Montalto expects a hike, but says it would weigh only slightly on SA’s recovery, as tighter monetary policy is "vastly outweighed" by a host of other factors that limit growth.

Dykes makes a similar point, saying that the added costs and risks that have been layered onto businesses over the past two decades have stifled activity and made the economy a lot less responsive. Therefore a more comprehensive review of the overall policy environment is needed to reignite growth, something that is far beyond the purview of the Reserve Bank.