Sarb hike: 50bps or 25bps?

The South African Reserve Bank (Sarb) will hike the repo rate for the last time in the current cycle on Thursday, then hit the brakes.

But with the bank’s hiking cycle not expected to turn anytime soon, consumers can expect interest rates to remain at the current high level for some time.

That’s the expectation of most economists who spoke to Moneyweb ahead of this week’s Sarb Monetary Policy Committee (MPC) meeting.

The majority forecast an increase of 25 basis points (bps) but say a bigger move of 50bps may be on the cards.

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Ongoing upward trajectory

The Sarb’s hiking cycle has delivered a combined 425 bps increase in the repo rate since November 2021 a massive upward swing from the pandemic lows of 3.5% in 2021.

Its policy-tightening action mirrored the moves of central banks across major economies as they staged a ferocious attack on stubbornly high inflation.

As the MPC reaches the end of its hiking spell a pause rather than a cut is necessary to allow the effects of the increases to start reflecting in the economy, says Chantal Marx, head of investment research and content at FNB Wealth and Investments.

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Diving rand partly to blame

Marx, along with several other market analysts, projects that the Sarb will tighten interest rates further, albeit moderately, by announcing a 25bps increase on 25 May – the 10th consecutive hike in 18 months.

“However, the risks to inflation are to the upside because we still have sticky food inflation and the rand is quite weak and you also have a situation where some of the major central banks are still hiking,” says Marx.

“But there are indications from the US Federal Reserve that they may be done and will support us being done as well.”

At the last policy meetings of the Bank of England (BoE) and the US Federal Reserve, both increased rates by 25bps, helping strengthen the case for the Sarb to hike rates again to protect the rand.

Following the moves of the BoE and the Fed, South Africa can ill afford to not follow suit, says Professor Andre Roux, an economist at Stellenbosch Business School. He is also pricing in an increase of 25bps.

“We hope we’re reaching the upper end of the hiking cycle,” he says, ruling out any possibility of cutting action in the near future.

“We will remain at these levels for quite some time.”

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Case for bigger rate rise

But Miyelani Maluleke, an economist at Absa Corporate and Investment Banking, thinks the increase will be bigger at 50bps given the weakening of the rand in recent past weeks.

“The MPC has been concerned about upside risks to the inflation outlook for some time now and the big exchange rate move that we’ve had presents strong adverse risks to the inflation outlook,” says Maluleke.

However, he also believes the next hike is likely to be the last in the cycle.

“We expect them to remain on hold until March next year. But it’s important to stress that the environment remains highly uncertain. What is clear is that the Sarb takes its fighting credentials very seriously so you cannot rule out further tightening if further upside risks to the inflation outlook manifest.”

And while Nedbank’s economic unit expects a 25bps raise, it’s not ruling out the possibility of a 50bps hike.

It lists among some of the risks that have worsened since Sarb’s last meeting in March surging food inflation and load shedding, with no relief in sight during the peak demand winter season.

The bank’s economists say a 25bps hike will be sufficient to tame inflation “given that domestic demand is faltering and pockets of financial strain are emerging among consumers”.

However, the bank adds that due to uncertainties posed by load shedding and the tumbling domestic currency it is leaving space for the possibility of a 50bps increase.

“The weaker rand is undoubtedly fuelling price pressures. While a 50-bps hike could help stabilise the currency, this would likely be short-lived given the country’s elevated risk profile.”

Consumers taking strain

Lourens Pretorius, a fixed income portfolio manager at Matrix Fund Managers, says an increase of more than 25bps would be unsustainable, given South Africa’s low-growth environment that is also contending with high unemployment and worsening rolling power cuts.

“It’s not necessary to tighten much beyond 8%, I’ll be somewhat surprised if we were to get another 50 basis points clip this meeting, [and] I would be similarly surprised if they would keep interest rates unchanged.

“Severe further interest rate tightening, I think would be untenable, I don’t think our economy can afford that … people on the street are struggling,” says Pretorius.

Marx agrees, saying that while there should be an interest rate hike to rein in inflation, which is currently above the Reserve Bank’s 3-6% target band, South Africa is a “very low growth economy”.

“We won’t be as pressured in the relative sense to continue raising interest rates. We still want to bring inflation under control but also have to be cognisant that we’re a very low growth economy. I think that this will relieve a little bit of pressure on the MPC.”

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Get the balance right

In future meetings, the Sarb will likely attempt to strike a balance between fighting inflation and considering the realities of the economy, says Roux.

His comments come as the Sarb introduces a host of changes to its Quarterly Projection Model, the MPC’s forecasting model.

Its new forecasting mechanism seeks to account for fiscal policy actions such as those linked to government debt.

Roux says the Reserve Bank seems to be saying that it need not be “overzealous” in raising interest rates, given that a lot of inflationary pressure facing the economy does not stem from monetary factors.

“That’s what interest rates address, but the Reserve Bank has no control over – through interest rates policy – things such as the international price of oil, rapid increases in international food prices, or the cost of electricity,” says Roux.

“It seems they want to build into the model factors that will accommodate that – at the same time … the Reserve Bank governor in particular is hawkish and is hinting that he would perhaps want to see a decline in the inflation target range.”

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Bank mulls lower inflation target

In a recent address at the Peterson Institute for International Economics, Reserve Bank Governor Lesetja Kganyago said structural reforms in South Africa are critical, including a shift in fiscal policy back to predictable and transparent rules that would improve the country’s credit quality, among other factors.

He said a lower inflation target of 3% would help dampen exchange rate volatility and sovereign risk, and lower debt servicing costs.

“Which is suggesting that interest declines into the future will be fairly moderate,” says Roux.

This article originally appeared on Moneyweb and was republished with permission.
Read the original article here.