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Tuesday, August 12, 2014 - 12:41
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The outlook for South African inflation and growth (with upside risks to inflation and downside risks to growth in the coming year) has a major bearing on local investment returns. Rising inflation and interest rates impact negatively on economic growth and corporate profits, thereby constraining the performance of local bonds, property and equities.

At the latest Monetary Policy Committee (MPC) meeting, the South African Reserve Bank (SARB) downgraded its real GDP growth forecasts for South Africa by 0.5% to 2.1% in 2014. Against the backdrop of an expected SARB inflation profile that stays above the target range for the next year, this poses a dilemma for monetary policy making.
“The SARB revised growth forecasts lower given the on-going labour tensions in the platinum mining industry, where protracted strike activity continues,” says Sanisha Packirisamy, economist at Momentum Asset Management. “To date, employees have lost nearly R8 billion in wages, whilst the industry has lost around R18 billion in revenue. Although mining only constitutes around 6% of total real GDP, mining exports account for nearly half of South Africa’s total exports, while related downstream sectors such as manufacturing and retail are also negatively impacted by the strikes. The extended strike action therefore exerts broad pressure on economic growth and the already-extended current account deficit.”
Although the SARB slashed its 2014 growth forecasts, the committee only marginally downwardly revised the 2014 inflation forecast to 6.2% (previously 6.3% at the time of the March MPC meeting), thereby exacerbating the low growth-high inflation policy conundrum. Packirisamy expects inflation to remain sticky in the short term as the lagged impact of a weaker currency exerts upward pressure on both headline and core measures of inflation.
Since 28th April 2014, when it became apparent that the US sanctions on Russia were not going to be as severe as originally anticipated, emerging market currencies took a breather from Ukrainian geopolitical-related concerns. The rand has appreciated by almost 3% against the US dollar since then, but remains over 10% weaker on a one-year rolling basis. Although an improvement in global risk appetite in the local currency is evident, the rand remains vulnerable given weak domestic macro fundamentals and global risk factors.
A more benign global monetary policy environment, on the back of weaker-than-anticipated global economic data in the first quarter, coupled with disappointing high-frequency data in the domestic market, kept the SARB from hiking rates at the May MPC meeting, the continuing pressure on the economy saw a 0.25% increase in July.
“The door for further rate hikes remains open given that the SARB reiterated that monetary policy accommodation remains high in the context of negative real interest rates while inflation risks remain uncomfortably high.”
To date, inflation expectations have remained close to the upper band of the 3% to 6% inflation target, but have not breached the target markedly. It is likely that the SARB will keep a watchful eye on whether inflation expectations increase meaningfully as this is likely to have a further negative impact on core inflationary measures.
“We expect a further two hikes of 50 basis points each this year due to mounting inflationary pressures and an elevated current account deficit. A rising domestic interest rate cycle, against the backdrop of global policy normalisation, should constrain South African asset class performance, particularly local bonds and listed property, while increasing the relative attractiveness of risk-free cash in a generally low-return environment.”

Copyright © Insurance Times and Investments® Vol:27.8 1st August, 2014
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