SA’s high risk premium is the major driver of a higher repo rate, Reserve Bank head of economic research Chris Loewald told MPs on Tuesday.
Loewald is also a member of the Bank’s monetary policy committee (MPC), which decides the repurchase rate. In January, the MPC decided to reduce the repo rate by 25 basis points to 6.25% and it foresees a second cut late in 2020.
“The higher SA risk premium creates upward pressure on rates,” Loewald told a joint meeting of parliament’s two finance committees. “The lingering problem is upward pressure on rates arising from rising country risk.”
In January, when the Bank decided to cut the repo rate, the global economy seemed to have derisked and it seemed that the SA sovereign risk was unlikely to generate an exchange rate and inflation response. The situation will be re-evaluated at the March meeting of the MPC, Loewald said.
The measures of SA’s sovereign risk rose due to the decisions by credit ratings agencies. Moody’s Investors Service is currently the only agency that retains SA on investment grade, while the others have assigned the country to junk status. Moody’s is due to review its rating in March after finance minister Tito Mboweni has delivered his 2020/2021 budget.
Loewald said the markets are already pricing SA as below investment grade as it is paying more on its sovereign debt. A higher sovereign risk generates exchange rate and inflation risk in the future, though this has not yet materialised. Loewald said lower inflation, together with lower sovereign risk, would mean lower interest rates.
He said SA has serious growth challenges but lower inflation and the improved credibility of policy has helped limit the risk of stagflation, which is the combination of low growth and high inflation. This has provided the space for monetary policy to provide more support to the economy by cutting the repo rate.
The Bank forecasts inflation to near 4.5% for 2020, 2021 and 2022. Loewald said inflation expectations are coming down and inflation is on track to be inside the target range for the longest ever period starting from April 2017. Inflation is, nevertheless, quite high compared with SA’s peers, which means the country will lose competitiveness unless there is a depreciation in the exchange rate.
Reserve Bank governor Lesetja Kganyago warned that the coronavirus will lead to a significant slowdown in the Chinese economy and this will affect both developed and developing countries that trade with China.
At the January meeting of the MPC, the Bank projected an inflation rate for 2020 of 4.7% and 4.6% for 2021, well within the inflation target range.
The Bank has forecast GDP growth of 1.2% in 2020, 1.6% for 2021 and 1.9% for 2022. Moody’s lowered SA’s growth rate forecast for 2020 to 0.7% compared with its previous forecast of 1%.
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