Should the recent sell-off in the rand and local bonds remain at present levels, the Reserve Bank will have to deliver a higher-than-expected interest rate hike and keep the cost of borrowing high for longer, warn analysts.
The rand weakened more than 5% last week because of higher load-shedding stages and US ambassador to SA Reuben Brigety alleging that the SA government supplied arms to Russia.
Rand weakness caused local-currency bond yields to rise, with the 10-year yield approaching 11%, not far off its highs at about the middle of last year. Rising bond yields indicate unwillingness among investors to own the debt, as buyers demand a lower price to buy.
A weak rand usually adds pressure to the inflation outlook as SA imports most of its fuel, which could lead the monetary policy committee (MPC) to hike interest rates again.
Jason Duvey, deputy emerging-markets economist at London-based Capital Economics, said the US ambassador’s allegations come while SA’s economy struggles with an electricity crisis and fiscal strain.
“We had thought that a 25 [basis point] interest rate hike to 8% later this month would mark the end of the tightening cycle.
“But if the recent sell-off in the rand and local bonds is sustained or even escalates, the [Bank] may feel compelled to deliver a larger hike, extend the tightening cycle or keep rates high for longer,” Duvey said.
“At the same time, there seems to be growing concern that the recent improvement in the public finances is stalling. The budget in March had already outlined a higher path for the public debt ratio over the coming years after the government agreed to take on a part of the debt of ... Eskom.
“And preliminary data shows that the government is likely to have missed its primary budget balance target [of a 0.1% of GDP surplus] for the [most recent] fiscal year. The target of a 0.9% of GDP surplus in the current fiscal year is ambitious.”
The inflation rate is still well above the 4.5% midpoint of the Bank’s target range. March’s annual inflation print rose to 7.1% from 7% in February.
“The rand’s marked weakness, if sustained, will add to inflationary pressures, which have already been building on the increased pass-through effect, in turn increasing the likelihood of a 50 bps, instead of a 25 bps, interest rate hike this month,” said Annabel Bishop, chief economist at Investec.
The Bank was ahead of the curve relative to its peers when it embarked on a tightening cycle in November 2021 to manage inflation and inflation expectations. It has increased rates a cumulative 425 bps to bring the repurchase rate to 7.75%.
The central bank’s 50 bps increase in March was the ninth successive rate hike, bringing borrowing costs to their highest level since May 2009.
“Financial markets are already pricing 50 bps (and even more) in, so we expect limited market impact,” said Nolan Wapenaar, co-chief investment officer at Anchor Capital.
“Instead, we believe this is a case of the risk premium investors demand for SA increasing to reflect the circumstances on the ground. In the longer run, the remedy is that the country addresses the structural shortcomings in electricity supply and other state services.”
Sunday Times reported on Sunday that Washington and Pretoria are scrambling to patch up diplomatic relations after last week’s flare-up. International relations minister Naledi Pandor has met Brigety, who tweeted: “I was grateful for the opportunity to speak with foreign minister Pandor this evening and correct any misimpressions left by my public remarks.”
UBS Switzerland analyst Tilmann Kolb said domestic challenges in the form of electricity shortages, combined with the alleged delivery of weapons to Russia, are forming a vortex for the rand.
“We continue to see global dynamics and an easing of electricity limitations over the medium term as drivers for the rand to recover at least partially, but they are unlikely to outshine domestic travails in the near term,” Kolb said in a note.
“Accordingly, we no longer advise taking outright long positions in the rand against the US dollar or euro. Investors should use intermittent periods of ZAR recovery to reduce exposure.”
With Andries Mahlangu
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