By Maura Feddersen, Economist at Strategy&, PwC.
Currency weakness amid emerging market turmoil and disappointing domestic growth outcomes are set to feature prominently in this month’s Monetary Policy Committee (MPC) at the South African Reserve Bank (SARB). The three-day MPC meeting from 18 to 20 September will determine a suitable interest rate policy that will keep inflation inside the target range of 3-6% annually, ideally anchored towards the middle of the target range.
At the last two MPC meetings, the SARB raised its inflation expectations. SARB Governor, Lesetja Kganyago, noted in July that headline CPI inflation was expected to edge closer towards the upper end of the target range to 5.6% and 5.4% in 2019 and 2020, respectively. In July, the SARB expected headline inflation would peak around 5.7% in the first and second quarters of 2019.
SARB inflation expectations edge towards upper target limit of 6%
Source: SARB MPC statements, March, May and July 2018
Since the July meeting, renewed rand weakness materialised as emerging market pressures mounted, with the currency losing around R2 in value against the US dollar. New data also revealed that the South African economy entered its first technical recession since the global financial crisis of 2008/09.
Furthermore, rising oil prices continued to spur local fuel prices, adding to consumer woes. The price per barrel of Brent oil climbed 25% since July. In combination, these developments explain the increase in petrol prices of over 17% since September last year. The price of 95 petrol, for example, increased from R13.72/litre to R16.08/litre, while diesel prices increased 23%.
At the beginning of the month, the Department of Energy decided to absorb part of September’s petrol price hike in a once-off effort to provide consumers some reprieve in an otherwise difficult economic environment. Nonetheless, future petrol price hikes remain on the horizon and would contribute to higher inflation outcomes in coming months. Indeed, the national energy utility CEF anticipates petrol price increases of as much as R1.14/litre in October.
Rising oil prices and weaker currency put pressure on local fuel prices
Double-digit fuel and transport inflation lift headline CPI inflation in July
Source: Statistics South Africa
In addition to a decision on interest rates, the SARB will likely indicate a slight upward adjustment in inflation expectations, as well as a downward revision of economic growth for 2018. To achieve the SARB’s July expectation of economic growth of 1.2% in 2018, South Africa’s economy would have to expand by an unrealistic 1.8% on average in the second half of the year. In light of recent economic data, including sharp contractions in business and consumer confidence, the SARB is likely to make a notable downward revision to economic growth to reflect current economic conditions and sentiment.
In spite of expectations of rising inflation in coming months, the SARB is unlikely to hike interest rates in this month’s meeting, albeit warn of a possible hike in November – the last MPC meeting of 2018. It is likely that the SARB will aim to look past short-term volatilities in the rand exchange rate to focus on longer-term developments associated with developed market monetary policy tightening and domestic economic conditions. However, if there are indications that recent currency vulnerability will significantly drive up inflation outcomes, the SARB may consider a 25 basis point increase, although current weak economic growth outcomes might keep the SARB from embarking on its hiking cycle just yet.