Lesetja Kganyago, Governor of the South African Reserve Bank.
Waldo Swiegers / Bloomberg via Getty Images
The South African Reserve Bank has given the go-ahead for normalization of monetary policy, but economists do not expect the migration cycle to go smoothly.
The SARB raised its main repo rate 25 basis points to 3.75% on Thursday from its record low amid growing concerns about inflationary risks. The central bank has raised its forecast for the consumer price index from 4.4% to 4.5% in 2021 and from 4.2% to 4.3% in 2022.
The hike is the first step in reversing 275 basis points of the cuts made since the Covid-19 pandemic began, but the Monetary Policy Committee split its vote 3-2, indicating conflicting sentiments within the SARB leading the recovery to go seems to address inflation fears.
Headline inflation in the consumer price index was a modest 0.2% in October compared to the previous month, an annual increase of 5%.
In his statement, SARB Governor Lesetja Kganyago noted that increased oil and energy prices pose upside risks to the near-term inflation outlook.
Jeff Gable, Head of Macro and Fixed Income Research at South African bank Absa, told CNBC on Friday that the repository hike had come a little earlier than many economists expected, highlighting the bank's concern over upside risks to inflation. For the time being, however, the projections remain around the center of the SARB target.
"We know that in South Africa we have tens of millions of vulnerable South Africans who cannot really protect themselves from inflation, so (we have) a reserve bank here that has had to talk hard about inflation all along." the cycle, "said Gable.
"So this signal, this first rate hike a little earlier than we expected, is certainly a sign, I think, that they want to stay up."
A step-by-step hiking cycle
Gable said it remains to be seen whether the dissolution of the SARB's accommodative position will come in successive policy meetings or whether the market will be in tension every time the MPC meets over the next several years.
Virag Forizs, emerging markets economist at Capital Economics, said in a statement Thursday that the decision indicates a slower tightening cycle than markets had expected.
Kganyago said the MPC believes that "a gradual increase in the repo rate will be enough to keep inflation expectations well anchored and moderate future interest rates."
"This subdued bias probably helps explain why the rand was initially weakened against the dollar after the decision," Forizs said.
"In addition, MPC members will likely want to keep monetary policy as expansive as possible in order to continue to support the economy."
Capital Economics has planned an increase of 150 basis points over the next two years, with the repo rate increasing to 4.5% by the end of 2022 and to 5.25% by the end of 2023.
In contrast, Forizs emphasized, the market is calculating around 250 basis points over the next 18 months.
Growth prospects clouded
The economic recovery has so far been rocky. Covid lockdown measures and civil unrest have weighed on activity in various places over the past two years.
While the SARB expects annual GDP growth of 5.3% for 2021, it has lowered its forecast for 2022 from 2.3% to 1.7% and for 2023 from 2.4% to 1.8%.
In addition, after years of sluggish growth, the country is fighting for fundamental economic reforms. Education, infrastructure, work, public sector wages and the privatization of state-owned companies are on the table.
South African President Cyril Ramaphosa visits the coronavirus disease (COVID-19) treatment facilities at NASREC Expo Center in Johannesburg, South Africa on April 24, 2020.
Jerome Delay | Reuters
Gable noted, however, that divisions within the ruling ANC party had created a “traffic jam” that made progress difficult.
"A South Africa that is growing by 1.75 to 2% in the medium term is not a South Africa that is growing fast enough to sensibly change the social challenges in the country, the inequality in the country," he said.
"So we would probably expect an increase in tension, an increase in the pressure to change, but still this concern about where there is agreement about the direction in which this broader change must go."
Conflicting views over the edge
JPMorgan trimmed its position in the South African rand from “middleweight” to “underweight” on Friday as it is vulnerable to rising core bond yields.
"In South Africa 2021 was a year of mostly 'good news" – we see more risk in 2022, with foreign exchange being the most exposed, "said JPMorgan's emerging market strategists.
They found that weakened terms-of-trade support – a measure of a country's export prices versus its import prices – has pushed the dollar back against the rand to annual highs. As of Friday afternoon, the dollar would buy around R15.73.
JPMorgan sees scope for further weaknesses as the current account – which represents a country's imports and exports of goods and services – is expected to deteriorate in 2022.
In September, South Africa's current account surplus widened to an all-time high of R343 billion ($ 21.8 billion) on the back of a stronger trade balance and record exports of goods.
However, Gable contradicted that forecast, suggesting the tailwind from the country's current account surplus will be more lasting than expected.
"Part (of the surplus) is due to the fact that commodity prices have been cheap. The mix of commodity price movements over the past few months has been a little less helpful for South Africa, but it doesn't diminish the surplus we expect to run forward," said Gable.
"That should by and large support the fringes even in an environment in which the world is turning a little more globally against the emerging markets."
Absa expects the margin to gradually weaken on a trend basis over the next two years, starting from "somewhere in the early 15's against the dollar" in late 2021.