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Balance of risks in favour of Sarb rate hike

Cape Town - The SA Reserve Bank (Sarb) will most likely hike the repo rate by 25 basis points when its Monetary Policy Committee (MPC) meets next week, according to Jean-Pierre du Plessis, fixed interest strategist at Prescient Investment Management.

This is because, in his view, much stronger than expected non-farm payroll data in the US has resulted in a much larger probability that the US Federal Reserve will raise rates at its next meeting.
 
“This has led to widespread weakness in emerging market currencies versus the US dollar, and the rand has declined over 10% in the last two weeks," said Du Plessis.

"Concerns over the impact of the weakness in the currency and the resultant inflation impact have led to the market pricing in a 25bps hike at next week’s meeting,” said Du Plessis.
 
“However much of the currency weakness has been dollar driven, and in fact, we are not at the weakest levels of the rand on a trade weighted basis."

The difficulty for the Sarb, in his view, is that inflation is not as a result of demand driven over-heating, which can be resolved by higher interest rates, but is rather the result of supply driven pressure.
 
What is also unclear, he pointed out, is whether higher interest rates will result in stabilising the currency given the general concerns over emerging market growth, and in particular, commodity producing countries that have resulted in the rand weakness.
 
"The balance of risks are now clearly in the favour of another rate hike and some may even argue for more aggressive action given the currency weakness we have seen," said Du Plessis.

"However, excessive rate hikes may lead to a more marked slowdown in the economy, which is both unwanted, and may in fact lead to further currency weakness."

READ: Expect 2 interest rate hikes in 2016 - economists

Emerging markets economist Peter Attard Montalto of Nomura also expects the Sarb to hike by 25bp at its meeting on Thursday next week.

"But do not think it is a done deal," he cautioned.

"We think it will be very much 'external factors' rather than domestic factors that drive the move. Our wider framework remains firmly rooted and we still see rates at 7.50% in November of next year," said Montalto.

"We think the first quarter will be a cross-over quarter of domestic and external drivers, while the second to fourth quarters will be focused on domestic factors - especially expectations and core inflation."

ALSO READ: Rate cycle doesn' mean hiking every time - Sarb

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