The monetary policy committee (MPC) of the SA Reserve Bank will conclude their latest interest rate meeting on Thursday afternoon with the usual press conference and repo rate decision.
The July MPC meeting occurs within a highly fluid economic environment characterised by the third wave of Covid-19 and the unrest that has inflicted economic damage in KwaZulu-Natal and parts of Gauteng.
Severe economic impact
According to Investec chief economist Annabel Bishop, the past week of “extreme looting and purposeful destruction” will probably see the economy contract in quarter three of this year, delaying the progress of the vaccine drive. Bishop added that the situation in the two provinces has driven an increase in Covid-19 cases.
“South Africa is administering just under 200 000 vaccines a day, with the recent unrest having disrupted a number of vaccination sites and slowed government’s efforts; and with GDP growth currently likely to come out at 3.9% year-on-year this year on the hit to the economy in quarter three of this year,” said Bishop.
She added that business and consumer confidence has been severely decimated.
“Not all companies damaged by the riots had insurance protection and the loss of their goods and premises could see these companies close forever, while attacks on key strategic sites of the country continue to be at risk from the insurgents,” she said.
According to PWC, the coastal province is home to the Durban port that handles 65% of the country’s container traffic.
“The two provinces account for more than half of South Africa’s GDP. The retail and transport industries were the hardest hit. With dozens of shopping malls and smaller retail outlets closed and a multitude of trucks burnt, forcing a closure of the important N3 route, it was not business as usual,” said PWC partner and chief economist Lullu Krugel.
Interest rate expectations
Nevertheless, some analysts still expect the MPC to keep the interest policy rate steady at 3.5%.
“This is in line with the Bloomberg consensus,” said FNB economist Siphamandla Mkhwanazi.
He said that, at the previous MPC meeting, the Reserve Bank’s quarterly projection model had portrayed an interest rate path of two 25 basis point hikes this year, “one in quarter two of 2021 and another in the fourth quarter of this year”.
“While we had previously expected the first hike to be in the second half of 2022, we recently moved it forward to the fourth quarter of this year,” said Mkhwanazi. “Still, this was before the unrest, which now poses downside risk to our already below-consensus 4.1% growth forecast.”
FNB economist Thanda Sithole said, even though the pricing decisions and mechanism are arguably complicated, FNB suspects the unrest could be inflationary,
“And, if so, it is unclear whether this will be once-off or more pervasive,” said Sithole, adding that this makes the call for the timing of the first interest rate hike more challenging. “There are compelling arguments for both stances. The MPC can either hike interest rates now or at a slightly later stage.”
The Bureau for Economic Research (BER) said they also do not expect the repo rate to change.
“Our expectations are in line with analyst consensus forecast. However, it will be interesting to see the [Reserve] Bank’s commentary on the impact on the economy and inflation of last week’s developments,” said BER chief economist Hugo Pienaar.
He said the BER expects the MPC to communicate that their contribution to the economic recovery is to keep the policy interest rate “accommodative” for the time being.
“Given the still fairly benign domestic inflation outlook, this would be the appropriate response to last week’s events. On the international front, the European Central Bank makes its monetary policy announcement on the same day as the Reserve Bank.
“Arguably, the Reserve Bank would also be justified in delaying interest rate hikes until at least the second half of 2022.”
Pienaar explained that the recent rise in inflation is broadly seen as being driven by transitory factors related to last year’s pandemic-induced low base. “Our view is that inflation peaked at 5.2% in May, and we expected June’s inflation to print at 4.8% year-on-year.”
Pandemic-induced structural weaknesses
The BER’s June inflation expectations are comparable with the 4.9% June inflation released by Stats SA on Wednesday.
Pienaar added that there were still pandemic-induced structural weaknesses in the economy and significant slack in the labour market, further exacerbated by the unrest. And the fiscal space to support the economy is minimal and the future path of the pandemic is unknown – which is why he expects the rate to remain unchanged.
FNB’s Mamello Matikinca-Ngwenya said a rise in the country risk premium following the recent civil unrest may place some pressure on a neutral interest rate stance.
Matikinca-Ngwenya said this may place the Reserve Bank in a difficult position and, in the context of imminent global interest rate increases, the global situation strengthens the case for the Reserve Bank to avoid falling behind the curve.
“Under these conditions, there is an argument for the Reserve Bank to start gradually hiking rates and building some policy space,” she said.
At the same time, as shown in the April 2021 Monetary Policy Review, the Reserve Bank’s core model elasticities indicated that the peak impact of reduced rates on credit would have materialised in the second half of this year, added Matikinca-Ngwenya.
The BER said it was difficult to make the call on whether the MPC would hike rates or not today.
“But, more importantly, regardless of when the imminent hiking cycle starts, the policy rate will still be below pre-lockdown levels by the end of our forecast horizon,” said Pienaar.
He added that the BER expects the repo rate to be at 4.25% by the end of 2023, “meaning that the policy rate will be 2% below the pre-lockdown level of 6.25%”, he said. “And this still continuously reflects a moderately accommodative MPC stance.”