LUKANYO MNYANDA: Bank misses show pitfalls of policy making in volatile world

Did the SA Reserve Bank miss the opportunity to give SA’s struggling economy and consumers some relief by cutting interest rates?

With the last monetary policy committee (MPC) rate-setting meeting of 2019 that starts on Tuesday unlikely to result in a change in the repo rate, it seems to be a foregone conclusion that this year will end without a cut in rates despite a sharp deterioration in the economy and much improved inflation outlook.

While governor Lesetja Kganyago may protest that policymakers did reduce the repo rate, in July, his detractors will argue that this did not count as it is merely a correction of the “mistake” it made by tightening policy on November 22 2018, just months before global central banks returned to an easing cycle.

Almost exactly a year later, the November 2018 MPC statement justifying that policy stance makes some interesting reading and gives a glimpse to the pitfalls that face central banks that have to make decisions, whose effect will be felt 18 months down the line, in an increasingly volatile and hard to predict environment. 

Take inflation. At the November 2018 meeting, the MPC acknowledged that the inflation outlook was improving and it adjusted its forecast for that year to an average 4.7%. The problem was 2019 and beyond, and hence its caution. It expected inflation to then shoot up to an average 5.5%, too close to the upper end of the 3%-6% target for comfort. 

That forecast has proved to be wildly off the mark, with inflation this year through September averaging 4.3%, below the 4.5% midpoint of the target range where the Bank wants it anchored.

If the modelling had indicated something closer to the outcome, would Kganyago have been more adventurous?

Perhaps it wouldn’t have mattered because an argument could also be made that SA, whose biggest trading partners have inflation rates closer to 2%, should be aiming for something closer to 3%. That is despite an entrenched view in the market that the midpoint is a de facto target.Another factor that might have influenced policymakers would have been the widespread expectation that the Federal Reserve would continue raising interest rates into 2019, with tighter monetary conditions globally putting upward pressure on our rates to prevent capital outflows that would weaken the rand and increase inflationary pressure. 

By December, the Federal Reserve had raised US rates four times despite loud protests from US President Donald Trump, with another two pencilled in for 2019. Even the European Central Bank (ECB) was seen generating enough inflation to be able to start tightening policy in 2019. 

That didn’t last long. After a sell-off that pushed US stocks down in December by the most in 2018, Fed chair Jerome Powell blinked and turned decidedly dovish. The ECB rate hike never materialised either and its former president, Mario Draghi, ended his eight-year term without ever having to raise rates.

In fact Draghi, whose first act when he became ECB chief in 2011 was to reverse hikes by his predecessor Jean-Claude Trichet, ended his term much the way he had started, cutting rates and expanding money printing. “Policy normalisation”, if it ever happens, will be left to his  successor, Christine Lagarde.

For the Fed also, 2019 didn’t pan out the way experts were expecting this time last year. The dominant theme of 2019 wasn’t the US increasing rates but trade tensions and a possible recession, with traders getting excited by the inversion of the US yield curve (that usually signals a coming recession because longer-term yields drop below shorter-dated ones, indicating that the worry is more about slowing economic growth rather than inflation). The expected Fed hikes ended up being cuts.

Here, the Bank came under some attack for not using that opportunity to loosen rates. That window has well and truly closed now. Powell has been talking up the health of the US economy, so much so that he indicated last week he sees no reason for more rate cuts. Soon we will start speculating about when the Fed will resume raising rates, and the implications for the rand. 

So here we are, having moved full circle to almost exactly the same position as a year ago. 

The domestic outlook is still dominated by collapsing state-owned enterprises, with SAA potentially on the verge of collapse. Inept management and unrealistic union demands may mean finance minister Tito Mboweni gets his wish to see the airline closed down.

Government finances are in an even more sorry state and we are again waiting for the next budget to offer some kind of salvation. At least we are not so cynical that we’ve lost the ability to cling to the slim hope that this time it might just be different.

Moody’s Investors Service has said Mboweni and the government have until February to show some sign that they have the political will and courage to take steps that they have said are needed to get the country back in the right direction. SAA might just have presented them with an opportunity to show their resolve, which would go some way to boosting confidence that they will do the same with the much bigger problem that is Eskom.

What we can predict with any certainty is that these aren’t the conditions in which Kganyago will be inclined to offer a year-end rate cut. As for 2020, who would be brave enough after the year we’ve had to make predictions? Unfortunately for the Bank, it will have to do just that and make policy on a set of assumptions that may well not be worth the paper they are written on.