SA Reserve Bank: Monetary Policy Statement

Nedbank: Economic Commentary

Another rate cut on a subdued growth outlook and further moderation in the inflation outlook

• The MPC has reduced interest rates by another 50 basis points, taking the repo rate to 5,5%.
• In another dovish statement, the Reserve Bank asserted that the domestic growth outlook remains subdued, while the inflation outlook has moderated further.
• The rand’s persistent strength, subdued economic growth on both the global and domestic fronts, as well low global inflation have kept inflationary pressures under control.
• Risks to the domestic inflation outlook are posed by cost-push factors, mainly wage trends and administered prices.
  

The MPC’s action was in line with our expectations following recent data, which pointedtowards the domestic recovery losing some momentum and inflation falling further thanwas initially expected. Indications are that the SARB has reached the end of its cutting cycle. Another cut would require negative growth surprises both globally and locally or perhaps significant further rand appreciation.

Comment
As expected, the SARB’s MPC reduced the repo rate by another 50 basis points to 5,5%. The prime rate therefore falls to 9,0%, its lowest level since May 1974. The MPC presented another dovish statement. The growth outlook remains subdued and the SARB’s growth forecasts remained unchanged, while the inflation outlook has moderated further.

Domestic gdp growth is projected at 2,8%, 3,3% and 3,6% for 2010, 2011 and 2012 respectively. The SARB’s inflation projections have been revised downwards, with inflation remaining within the target band throughout the forecast period to 2012. CPI averaged 3,5% in the third quarter of this year, lower than the SARB’s projection of 3,7% at the time of the 9 September meeting. The SARB now projects CPI to average 4,3% per annum in both 2010 and 2011 before increasingly slightly to 4,8% in 2012. CPI is expected to average 4,8% in the fourth quarter of 2012, slightly lower than the 5,1% expected at the time of the last MPC meeting.

Inflation expectations have also moderated further. The Bureau for Economic Research’s third quarter Inflation Expectations Survey indicates that CPI is now expected to average 5,7% in 2010 but remain outside the target band in the next two years, averaging 6,1% and 6,4% in 2011 and 2012, respectively. These expectations are down on the 6,3% in 2010, 6,5% in 2011 and 6,8% in 2012 in the second quarter survey.

Other key points highlighted by the MPC were:

• Global economic developments, particularly in Europe, pose a downward risk to the domestic growth outlook and global financial stability.
• Economic growth is expected to moderate further in the second half of 2010 following slower growth in the second quarter, as indicated by the SARB’s leading indicator.
• Household consumption expenditure seems to be recovering and it will be supported by positive wealth effects from higher asset prices and lower interest rates.
• Consumer spending remains relatively high.
• Demand for credit has continued to recover, although at a moderate pace.
• The inflation outlook remains evenly balanced.
• Key risks to the inflation outlook remain cost-push factors, mainly wage trends and administered prices.
• The rand has strengthened further despite the SARB continuing to accumulate foreign exchange reserves. It has appreciated by 3% against the US dollar since the last MPC meeting, while it has remained steady on a trade-weighted basis over the period.

Implications
The strong rand was probably instrumental in the MPC’s decision to cut interest rates once more. Not only has it kept inflation in check, it has also exposed weaknesses on the supply side of the economy. At the same time demand pressures remain moderate. Households are still labouring under high debt and a weak labour market and growth in credit is very weak for this stage of the recovery, not least because of the changes in the regulatory environment.

This will probably be the last cut in this cycle, although there is still a chance of further easing early next year if the economy remains weak and the rand strong.

SA Reserve Bank: Statement of the Monetary Policy Committee