Repo rate spike – Bad for the indebted, good for those with cash to spare

The repo rate is up by 50 basis points to 4.75% as inflation bites, bringing the prime lending rate to 8.25%. Although this means that South African consumers will pay even more for their debt, it also ensures that those who managed to save will see better returns on their investments.

According to Lesetja Kganyago, governor of the South African Reserve Bank (Sarb), the Monetary Policy Committee (MPC) decided to increase the repo rate, with four members preferring the announced increase and one member preferring a 25 basis point increase in the repo rate

The increase was expected as a result of sharp increases in the price of food and fuel that forced the Sarb to revise its forecast of headline inflation for this year higher to 5.9% from 5.8%. He said while food prices will stay high, fuel price inflation should ease in 2023 and help headline inflation to fall to 5.0%, despite slightly higher core inflation.

“Core inflation is forecast lower at 3.9% in 2022 (down from 4.2%) due to lower services price inflation. Our forecast for core inflation in 2023 is slightly higher at 5.1% from 5.0% and 4.8% for 2024 from 4.7%.”

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Inflation risks and repo rate

The risks to the inflation outlook are assessed to the upside, with fuel price inflation revised higher at 31.2%, up from 26.1% while local electricity price inflation is unchanged at 11.0% for 2022, 9.2% in 2023 and 10% in 2024.

Due to higher global food prices, local food price inflation is also revised up and is now expected to be 6.6% in 2022 (up from 6.1%) and 5.6% in 2023 (up from 5.1%), Kganyago said.

“In the near-term, headline inflation has increased well above the mid-point of the inflation target band and is forecast to breach the target range in the second quarter of 2022. Headline inflation then returns closer to the mid-point in the fourth quarter of 2024, considering the policy rate trajectory indicated by the Bank’s Quarterly Projection Model.”  

China’s response to the new Covid-19 outbreak and Russia’s sustained invasion of Ukraine will weigh heavily on global economic growth and contribute to higher inflation. As a result, the International Monetary Fund (IMF) reduced its global growth forecast for 2022 to 3.6%.

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Economic growth

The Sarb’s forecast for global growth in 2022 is revised down from the March meeting to 3.5% (from 3.7%), and for 2023 is lowered to 2.7% (from 2.8%).

“Dramatically higher oil, commodity and food prices, additional constraints to trade and finance and rising debt costs, worsen economic conditions for most emerging and developing economies.”  

Kganyago said the ongoing recovery of the South African economy from the pandemic last year, saw it expanding by 4.9%, but now the economy is expected to grow by 1.7% this year, revised down from 2.0% at the time of the March meeting, due to a combination of short-term factors, including the floods in KwaZulu-Natal and the continued electricity supply constraints.

He pointed out that the risks to the medium-term domestic growth outlook are assessed to be balanced.

“Although important commodity export prices such as for coal, iron ore, platinum, and rhodium generally decreased in the latter half of 2021, they surged higher with the war. Oil prices spiked to around US$130 per barrel in the early days of the conflict. While oil prices currently sit at about US$110 per barrel, we expect them to stay higher than we did in March and to average US$103 per barrel for 2022, US$90 per barrel in 2023 and US$85 per barrel in 2024.”

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Depreciation of the rand

The rand has depreciated strongly from April due to the start of policy normalisation in major economies and the slowdown in China’s economy. The implied starting point for the rand forecast is R15.88 to the US dollar, compared with R15.41 at the time of the previous meeting.

“As the global economy rebounded from the pandemic, continued policy accommodation and supply shortages increased prices of many goods and commodities. These prices have been given fresh impetus from further transport delays, supply constraints and food export restrictions,” Kganyago says.

Economic and financial conditions are expected to remain more volatile for the near future and in this uncertain environment, policy decisions will continue to be data dependent and sensitive to the balance of risks to the outlook.

“The MPC will seek to look through temporary price shocks and focus on potential second round effects and the risks of de-anchoring inflation expectations.”  

Kganyago says current repo rate levels reflect an accommodative policy stance through the forecast period, keeping financial conditions supportive of credit demand as the economy continues to recover.

He also extended a bit of hope, saying that better anchored expectations of future inflation could support lower interest rates. This can be realised by achieving a prudent public debt level, increasing the supply of energy, moderating administered price inflation and keeping wage growth in line with productivity gains.

“Such steps will enhance the effectiveness of monetary policy and its transmission to the broader economy.”