The Reserve Bank kept interest rates on hold on Thursday as expected, warning that the war in the Middle East and the subsequent surge in oil prices have created uncertainty for policymakers globally, raising upside risks to the inflation outlook.
The Bank said the latest forecasts from its quarterly projection model indicate rates will remain unchanged for longer, and cuts that had been projected at its first policy meeting of the year in January are likely to be postponed.
“Higher energy prices will raise inflation in the near term. We expect headline [consumer] inflation will soon accelerate to about 4%, with fuel inflation more than 18% for the second quarter,” governor Lesetja Kganyago said as he announced that the Bank’s five monetary policy committee (MPC) members had unanimously decided to keep the repo rate at 6.75%.
The benchmark is the rate at which the Bank lends money to commercial banks. It is used to determine the cost of funds for commercial banks, which directly influences the prime lending rate they charge consumers, currently 10.25%.
The rand firmed marginally and 10-year bond yields eased slightly soon after the announcement. After reaching an intraday low of R17.11/$, the rand recovered somewhat to R17.10 by 6.40pm. The yield on the 10-year blended government bond shed three basis points to yield 8.99%.
The rand has lost about 7% of its value to the dollar since the start of the war on Iran, while the 10-year yield has risen more than 100 basis points, significantly increasing the government’s borrowing costs.
The Reserve Bank expects a gradual unwinding of the shock from the turmoil in oil markets, taking inflation back to 3% late next year, in line with its new target, Kganyago said.
He added that conditions are still extremely uncertain and it is “obvious that global inflation will be higher in the near term, while growth will probably suffer from supply-chain disruptions and rising costs”.
The longer-term outlook is less clear, he said.
Economists expected a rate cut in March before the US and Israel launched attacks on Iran on February 28, sending oil prices above $100 a barrel in recent weeks. As a result, South Africans are bracing for a steep jump in fuel prices in April.
Labour, business and political parties have urged the government to provide relief for consumers by slashing fuel levies for the duration of the Middle East conflict.
Kganyago said the Bank considered two scenarios based on how long the Middle East might last, as well as the possible average oil price and the rand exchange rate.
“The first scenario assumes that the conflict lasts another two months or so, with oil prices averaging nearly $100 a barrel for this period and the rand about 5% weaker against the dollar,” he said.
“The second, more extreme, scenario has the war lasting more than a year, with oil prices staying above $100 a barrel and the rand 10% weaker. In both scenarios inflation is higher, exceeding 4% in the first version and 5% in the second. Both [scenarios] call for higher interest rates this year, with one hike in the first scenario and several more in the other.”
Asked whether the Bank has built in the possibility of the government pausing its fuel levies to ease the pressure on consumers, Kganyago said it has not.
Raymond Parsons, an economics professor at the North West University’s Business School, said business and consumers will inevitably experience concentrated cost challenges in the near future, not just a spike in fuel prices.
“The MPC already now sees inflation risks as being on the upside and interest rates are likely to remain higher for longer. Steps to mitigate the multiple cost escalations and soften their immediate impact on the economy — especially on the poor — do not in any event lie with monetary policy, but mainly with the government,” Parsons said.
“It is nonetheless likely that South Africa’s economic recovery will now be interrupted this year [and] disposable income is now likely to be diminished by highly elevated costs. The MPC now has to calibrate the risks of higher inflation in the interests of balanced growth. It can hit its new inflation target of 3% for the wrong reasons, as well as miss it for the right ones.”
For now, the Reserve Bank’s growth projections for GDP remain largely unchanged, with expansion seen at 1.4% this year and 1.9% in 2027 after a tepid 1.1% in 2025. The Bank then sees growth edging up to about 2% over the next few years, though there are downside risks to the outlook.
Kganyago said the coming months will be crucial for assessing the longer-term inflation consequences.
“Given current forecasts, we see inflation risks to the upside,” he added.
Would you like to comment on this article?
Sign up (it's quick and free) or sign in now.
Please read our Comment Policy before commenting.