By Kevin Lings*
The South African Reserve Bank decided to cut the Repo rate (Repurchase Rate) by a further 25bps to 3.50% at its MPC meeting today. The decision was not unanimous. Three members of the MPC voted for a cut of 25bps, while two members wanted rates to remain on-hold. The Reserve Bank last adjusted interest rates on 21 May 2020, when they cut the Repo rate by 50bps. This followed a cut of 100bps in both April and March 2020, a 25bps reduction on 16 January 2020 and a drop of 25bps in July 2019. The latest interest rate decision was in-line with market expectations, although many commentators were arguing for a more aggressive cut in rates.
In announcing the decision to cut rates, the SARB made a number of important points regarding the outlook for SA economic growth as well as their inflation forecast.
In terms of inflation the Reserve Bank highlighted the following:
- The Bank’s headline consumer price inflation forecast averages 3.4% in 2020 and is marginally lower than previously forecast at 4.3% in 2021 and 2022
- The overall risks to the inflation outlook at this time appear to be balanced.
- Local food price inflation is expected to stay contained.
- Risks to inflation from currency depreciation are expected to be muted while pass-through remains low.
- Electricity and other administered prices continue to be a concern.
- Upside risks to inflation could also emerge from heightened fiscal risks and sharp reductions in the supply of goods and services.
- Despite sustained higher levels of country financing risk, the MPC noted that the economic contraction and slow recovery will keep inflation well below the midpoint of the target range for this year.
- Inflation is expected to be well contained over the medium-term, remaining close to the midpoint in 2021 and 2022.
In terms of the growth outlook the Bank highlighted the following:
- The Bank currently expects GDP in 2020 to contract by 7.3%, compared to the 7.0% contraction forecast in May.
- Even as the lockdown is relaxed in coming months, for the year as a whole, investment, exports and imports are expected to decline sharply.
- Job losses are expected to rise further.
- Easing of the lockdown has supported growth in recent weeks and high frequency activity indicators show a pickup in spending from extremely low levels.
- Getting the economy back to pre-pandemic activity levels will take time. GDP is expected to grow by 3.7% in 2021 and by 2.8% in 2022.
Once-again the SARB stressed that monetary policy cannot, on its own, improve the potential growth rate of the economy or reduce fiscal risks. These should be addressed by implementing prudent macroeconomic policies and structural reforms that lower costs generally, and increase investment opportunities, potential growth and job creation. Such steps will further reduce existing constraints on monetary policy and its transmission to lending. The MPC also highlighted that they have no intention of undertaking outright QE, but instead they see bond purchases as necessary to purely manage the liquidity within the bond market.
In conclusion, since July 2019 the Reserve Bank has cut the Repo by a total of 325bps, which amounts to a halving of the Bank’s reference interest rate within 12 months. That can be considered a fairly aggressive reduction in interest rates, especially since most the reduction in rates has occurred in the past five months. From our perspective, the policy response from the SA Reserve Bank has been entirely sensible given global and local economic developments.
It can be argued that the Reserve Bank has scope to cut interest rates further, especially considering the current trend in global interest rates (see chart attached), as well as the SARB’s expectation that inflation will remain largely under control in the short to medium term as well as the further reduction in the Bank’s 2020 GDP growth outlook. However, it also seems fair to argue that the Reserve Bank has already cut rates substantially in recent months and would clearly feel uncomfortable with a significant further reduction in rates (hence the split vote amongst the MPC members). Cutting rates further is not without risk, especially in terms of further currency weakness. This suggests that while the Reserve Bank may cut rates by another 25bps before year-end, a significant and aggressive on-going reduction in interest rates appears unlikely.
- Kevin Lings is chief economist at Stanlib.
