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In recent months we criticised the South African Reserve Bank (SARB) with regards to their interest rate setting policy and their inflation forecasts (which came out far from actual measured and published inflation). And the concerning part about this is the fact that SARB uses the forecast as a guide as to where inflation is heading and they set actual interest rates of South Africa based on their forecast of inflation.
This article will focus less on SARB’s poor inflation forecasting but more on the potential benefit to South Africa’s economy if SARB cuts rates at today’s Monetary Policy Committee (MPC). The chances of the MPC cutting interest rates is next to none, and the majority of market commentators and economists expects interest rates to remain unchanged as SARB’s MPC committee takes a continued “wait and see” stance. |
What is SARB's expectation of SA's future inflation?
So what exactly is SARB’s expectation of South Africa’s inflation for 2017? The graphic below shows SARB inflation forecasts as made available at the various MPC meetings. And as one can see SARB’s long term expectation is for South Africa’s inflation to fall within the 3% to 6% range. So if inflation is expected to be within the target range, the argument for cutting interest rates to provide desperate consumers some much needed relief can be made. And with headline inflation published by Statistics South Africa (Stats SA) coming in at 5.3% it will be a lot harder for SARB to defend not cutting interest rates.
Now SARB might argue that recent exchange rate weakness will lead to higher prices as our import become more expensive. Sure that is a valid point, but when looking at official Import Price inflation as calculated by Statistics South Africa's UVI's the last recorded overall rate of inflation is -9%. Thats right -9% compared to 12months ago. And the reason for this isone of SA's biggest imports is crude oil prices and they remain depressed and this is keeping import inflation at levels SARB can not be worried about, or use as an argument for not cutting interest rates.
As mentioned in the introduction South African consumers are struggling. But not only consumers are struggling, South Africa’s whole economy has been stuttering along for years. The graphic below shows the annual growth rate of South Africa’s retail sales (after adjusting sales values for inflation) and the annual growth rate of South Africa’s economy, or GDP. And the story is pretty telling. The forecast for 2017’s retail sales do not look good (granted it’s based on first 3 months of 2017 and extrapolated from there and doesn’t take the Christmas sales boom into account), but still the picture for SA’s retailers and its economy is not looking rosy.
As mentioned in the introduction South African consumers are struggling. But not only consumers are struggling, South Africa’s whole economy has been stuttering along for years. The graphic below shows the annual growth rate of South Africa’s retail sales (after adjusting sales values for inflation) and the annual growth rate of South Africa’s economy, or GDP. And the story is pretty telling. The forecast for 2017’s retail sales do not look good (granted it’s based on first 3 months of 2017 and extrapolated from there and doesn’t take the Christmas sales boom into account), but still the picture for SA’s retailers and its economy is not looking rosy.
Those that argue that cutting rates will just lead to secondary inflation (I.e. consumers will just spend all the additional money and retailers will just push up prices to take advantage of this) should think about the following. The main drivers of inflation is Food and Fuel. Now will additional money available to consumers lead to consumers eating more and driving around more and therefore push up prices of these items and therefore overall inflation? Well fuel prices are regulated and driven by crude oil prices and the exchange rate. So demand pull inflation (inflation caused by increased demand pushing up prices) is highly unlikely in this driver of inflation.
As for food. The weather and the cost of fuel for transportation will play a far greater role in the prices of food than increased consumers spending on food (assuming people do actually spend more money on food as they have more money available for them).
So what impact would a cut of 25basis points have on ordinary South Africans? According to SARB’s own data Total Loans and Advances to households in South Africa sat at R1.48trillion by end of 2016. The bank also states that total spending on credit cards amounted to R321billion in 2016 (so roughly 21.6% of total loans and advances were credit cards). Why distinguish between credit cards and other loans and advances? The interest rates charged on credit cards is far higher than that of vehicles or homes. Thus to calculate an effective interest rate and expected interest to be paid per year by South African households we need to weight the interest charged on vehicles and homes vs that of credit cards. Assuming the following assumptions we get an effective interest rate on all loans and advances of 13.6%.
Now recalculating the interest on R1.48trillion using the new effective interest rate of 13.35% and interest repayment of R198.4billion is calculated. That gives consumers an R3.7billion per year (R309.6million per month) saving in interest repayments. To put that in perspective total retail sales in South Africa amounted to well over R700billion in 2016. So those arguing a mere R3.9billion will lead to demand pull inflation when R3.9billion is about 0.5% of total retail sales in South Africa should not be taken to seriously.
- Loans on homes ad vehicles and other loans: Interest Rate 10.5% (and weight of 78.3%)
- Credit cards: Interest Rate 25% (and weight of 21.7%)
Now recalculating the interest on R1.48trillion using the new effective interest rate of 13.35% and interest repayment of R198.4billion is calculated. That gives consumers an R3.7billion per year (R309.6million per month) saving in interest repayments. To put that in perspective total retail sales in South Africa amounted to well over R700billion in 2016. So those arguing a mere R3.9billion will lead to demand pull inflation when R3.9billion is about 0.5% of total retail sales in South Africa should not be taken to seriously.
But the saving to consumers however small it is will provide some much needed relief especially considering the increased taxes and fuel prices and electricity tariffs etc. that consumers have been facing recently. Any form of budgetary relief will be welcomed. Assuming there are 16million active credit consumers (around 16million people employed in SA according to the QLFS published by Stats SA) the interest saving per consumer per year will be R232. Now to most a R232 a year saving doesnt sound like a lot. That amounts to 16 Albany Superior white breads a year. Enough to ensure more food on the table for the poorest of the poor.
Now would SARB withhold immediately injecting R3.9billion of savings into SA’s economy by applying the “wait and see” approach? We think they will stick to the "wait and see", but we are quietly hoping SARB cuts rates to provide some much needed relief to already stretched consumers and with inflation published yesterday sitting at 5.3%, the arguments for cutting interest rates are starting to stack up against SARB.
Data sources:
www.statssa.gov.za
www.resbank.co.za
Now would SARB withhold immediately injecting R3.9billion of savings into SA’s economy by applying the “wait and see” approach? We think they will stick to the "wait and see", but we are quietly hoping SARB cuts rates to provide some much needed relief to already stretched consumers and with inflation published yesterday sitting at 5.3%, the arguments for cutting interest rates are starting to stack up against SARB.
Data sources:
www.statssa.gov.za
www.resbank.co.za