The rate hike of 25 basis points was fairly widely expected despite the fact that the economic growth forecast was reduced significantly from 2.1% to 1.7% for the year, along with lower longer term forecasts, since the last Monetary Policy Committee (MPC) meeting.
The South Africa Reserve Bank also clearly stated that the lack of economic growth needs to be addressed by implementing the National Development Plan (NDP), and that there is therefore not much the MPC can do to save the growth rate in South Africa at this point.
Given the deteriorating growth background, why did the MPC hike the rate? Another aspect that has changed since the last meeting is that there was a lot more emphasis on the risk of a wage price spiral emulating from the strike related wage increases or settlements that are becoming apparent.
Governor Gill Marcus also mentioned that the Andrew Levy Survey of collective bargaining wage increases has increased from 7.9% to 8.1% from the first quarter to the second quarter. In my opinion, this is one of the key elements that the MPC has taken into account, and is why they want to demonstrate that we are in an increasing rate cycle. They have stressed that we are still in a tightening cycle over the last couple of weeks, and that interest rates will continue to increase in future.
The second element that differed from the last announcement is that the MPC is more concerned that although inflation expectations are reasonably stable around the top end of the inflation target range, it could unravel as inflation remains above target and the MPC fails to continue hiking rates.
The decision to hike the interest rate by 25 basis points was made to emphasise that we are in a tightening cycle and that the MPC is serious that when confronted with the choice of looking at a weak economy or the inflation risks for the next 18 to 24 months – the inflation risks are more important. Although the MPC has an emphasis on growth as well, it has become clear that as the risk to inflation, from the wage increases and inflation expectation rising, has risen, and that the MPC needs to act to reinforce the credibility of the forward guidance that we are still in a tightening monetary policy cycle, although on a very gradual basis.