THE South African Reserve Bank’s monetary policy committee (MPC) took a "finely balanced" decision to hike interest rates 25 basis points on Thursday, raising the question of what its next move would be as it flagged numerous risks to inflation.
A weaker rand and the electricity price were its key concerns and it expected inflation to breach the 6% target range in the first half of next year.
The inflation outlook had deteriorated slightly since the committee last met in May but the Bank has also revised its economic growth forecast down slightly, from 2.1% to 2% for this year and 2.1% next year.
Reserve Bank governor Lesetja Kganyago said SA faced the typical monetary policy dilemma of slow growth with rising inflation. He said monetary policy would be sensitive to the fragile state of the economy, but the MPC was concerned that failure to act against heightened inflation pressures and risks "will cause inflation expectations to become entrenched at higher levels".
The MPC started a gradual upward cycle in January last year but paused after a July hike as the oil price plunged. However, since March this year it has signalled a hike as the oil price accelerated and inflation started to climb.
Though the inflation rate for June was lower than expected, the MPC’s decisions are based on the future and it now expects inflation this year to average 5% (up from its previous forecast of 4.9%), with fuel prices rising and food prices still expected to feel the full effect of the drought.
Electricity prices are expected to rise 13% again next year.
The committee pointed to the rand exchange rate as a particular risk to its inflation forecast, saying it and other emerging market currencies were expected to be affected when the US Federal Reserve hiked rates later this year.
The rand has already fallen 5% against the dollar since the May meeting.
Economists had been divided ahead of on Thursday’s meeting, and the decision was welcomed only by some.
"They did what any inflation-targeting central bank should do," said Standard Chartered economist Razia Khan, adding that the hike now might have averted the need for an even sharper rise later this year.
But Nedbank economists Isaac Matshego and Dennis Dykes said that although the MPC had signalled its intention to raise ahead of an expected Fed increase in September, the decision was "disappointing in logic and probable effect". Risk factors for inflation had abated, and by moving now the MPC would almost certainly have to raise rates again when the US started to tighten but off a higher base.
Mr Kganyago emphasised that the Bank’s next move would depend on the data.
Barclays economist Peter Worthington expects the Bank to implement another 25 basis points hike by the end of this year and 75 basis points next year. He has the next hike pencilled in for November but sees some risk it could come at the September meeting if the Fed does so then and the market reacts badly.
Source: BD Live