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IMF urges SA to delay rates rise

Johannesburg - South Africa’s economy will likely grow by 4% this year and next but faces significant downside risks from a slowdown in the developed world, the International Monetary Fund (IMF) said on Thursday.
 
In its Article IV report, the IMF said strong local demand will underpin growth in the economy, but given the uncertainties globally and locally, it would be prudent to delay interest rate increases.

On fiscal policy, the IMF said South Africa should stick to its plans on spending growth but warned of the sharp rise in the government’s wage bill, while adding investment spending has increased “only marginally”.
 
The IMF also said South Africa should focus on moderating real wage growth and increasing competition in order to reduce unemployment.

“(The IMF) favors waiting for clear evidence of a more pronounced increase in core inflation or inflation expectations before raising the policy rate.”

The consultations with South African authorities took place towards end of May to June 7, when the overriding view was that interest rates in Africa’s biggest economy would rise by the end of this year.
 
Analysts have since ruled that out, with some calling for another rate cut as the economy has proven to be much weaker than previously anticipated.

A ratings downgrade of the United States in August and the worsening of the debt situation in the euro zone have cast a cloud on the world economic outlook.

The IMF said South Africa would need to keep an eye on wage increases which could push core inflation higher.

Reserve Bank Governor Gill Marcus said while inflation was edging up, there were no obvious signs of demand pressures.

Data released on Wednesday showed annual inflation rose to 5.3%, wile core inflation rose to 3.9% year-on-year in July from 3.5% June.

The Reserve Bank has reduced rates by 650 basis points between end-2008 and end-2010 but has left the repo rate steady at a three decade low of 5.5% this year.

Fiscal policy
 
On fiscal policy the IMF said South Africa should stick to its plans on spending growth over the next three years but should increase its revenue growth by about 0.25 percentage points a year.

“Such policies would contain debt at around 35% of GDP. This would rebuild some of the buffers that helped protect South Africa from the worst of the global crisis.”

Currently the National Treasury plans to cut the budget deficit to 3.8 by 2013/14, with the debt to GDP ratio peaking at 43% from around 30% currently.

Finance Minister Pravin Gordhan has said tax revenue currently at around 25% of GDP would take up four years for it to recover to pre-recession levels.

The IMF warned on the rise of government’s wage bill, which has risen to 11.5% of GDP in 2010/11 from 9.5% of GDP in 2007/08 while investment spending has increased “only marginally”.

“Given the influence that the public sector wage agreement round seems to be having on private sector wage adjustments ... (there’s a) need for public sector wage increases to be kept to levels that can be justified by productivity improvements.”

This year, the government averted a strike in the public sector, with state workers agreeing to a 6.8% wage increase.

The IMF said in order to make inroads on reducing unemployment - currently at more than a quarter of the labour force - the country should focus on moderating real wage growth and increasing competition.

The IMF said labour market reforms were particularly essential, given that growth rate projections of the next few years are a fraction of the 6 to 7 percent required for job creation.

Rand
 
South Africa’s rand has gained 24% against the dollar since the beginning of 2009 mainly on a flood of capital inflows seeking higher yields not available in the ultra-loose monetary policy environment of developed nations.

The IMF said while there was arguably a case for using a small tax on inflows to curtail capital inflows, such a move would raise the government’s financing costs, a view in line with government’s.

South Africa has rejected the policy which has been used by countries such as Brazil, with authorities opting rather to gradually accumulate reserves and relax exchange controls further.

But the IMF warned on a further relaxation of exchange controls.

“The gradual liberalization of controls on resident financial institutions will need to factor in the capacity of the financial system to manage cross border risks,” it said.


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