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Cape Town - Compared to many of its international counterparts (some of whom have traditionally been regarded as trendsetters, e.g. the US Federal Reserve, the European Central Bank, and the Swiss National Bank), the South Africa Reserve Bank (SARB) has been able to quietly go its way as if nothing has changed fundamentally.
Inflation targeting remains the policy framework; the inflation target has been unchanged for 15 years at 3% to 6% and the challenge still is to prevent a sustained breach of the upper limit rather than to battle the risk of deflation.
The SARB continues to live with a freely floating currency and has not really been challenged to manage rand volatility, with the market sorting itself out in moving from one equilibrium to another.
It is only in the area of the regulation of the banking system and the wider financial system that it has had to adjust to the post-crisis changes in international best practice, with the adoption of macro-prudential supervision and the alignment of the latter with monetary policy being the biggest change.
So far the bank has escaped the institutional tinkering that has beset the public sector in recent years, perhaps because it is not a major source of rents to be claimed. The biggest risk to the institutional integrity and independence of the SARB is if in conducting its regulatory and supervisory duties, it clashes with the interests of politically connected interest groups.
However, below the uncannily calm surface the SARB has had to deal with the fallout of South Africa's political crisis and the effect it is having on the risk scenarios confronting the monetary policy committee (MPC). As in so many other policy areas, the normal conduct of monetary policy has been disturbed.
The repo rate is currently at 7%, unchanged since March 2016. It is interesting to compare current economic conditions relevant to the deliberations of the MPC with those prevailing when the repo rate was last at 7%, viz. between August 2009 and March 2010.
At that time the repo rate was in a rate-cutting cycle, backed by sharply declining inflation, which lasted until January 2014, reaching a low of 5% in July 2012.
Compared with the latest CPI inflation number of 5.3%, inflation was running at 6.3% in August 2009, declining to a low of 3.1% in September 2010. According to the surveys done by the Bureau of Economic Research at Stellenbosch University on behalf of the SARB, composite inflation expectations were at 5.9% one year out and 6% two years out in the first quarter of 2017.
The comparable numbers in August 2009 were 7.5% for both periods. (Admittedly, expectations for financial analysts were approximately 2 percentage points lower.)
Nominal unit labour costs, one of the drivers of inflation mentioned regularly by the MPC, increased year-on-year by 5.8% in the third quarter of 2016 (the last available number), compared with a rate of increase of 8.7% in the third quarter of 2009 and 6.7% in the third quarter of 2012.
Furthermore, in August 2009 the economy was on the brink of an expansionary phase that was later confirmed by the SARB to have started in September 2009, lasting until November 2013.
Economic growth indeed accelerated to 3% in 2010 and 3.3% in 2011 from -1.5% in 2009 (a swing of between 4.5% and 5%). On the other hand, the economy is currently stuck in a downward phase of the business cycle that started in December 2013.
According to the SARB's own forecasts, growth is expected to accelerate to 1.5% in 2018 and 1.7% in 2019 from an expected 1% in 2017 (viz. a swing of between 0.5% and 1%). The expected "recovery" (if one can call it that) in growth this time round is therefore much less robust than in 2009.
This comparison suggests that the repo rate could have been lower now compared with 2009 - by at least, say, 1 percentage point in my view. Bear in mind that the increased capital requirements for banks and tightened lending standards in their own right justify a lower repo rate than in 2009.
Reading through the Monetary Policy Statement of May 25 2017, one is struck by the number of times the MPC refers to factors that should indeed have caused it to reduce the repo rate. These include the following:
•"domestic growth prospects have deteriorated;
• the output gap is estimated to have widened;
• consumer demand has weakened;
• the (global) trend growth rate is expected to be lower than that experienced before the global financial crisis;
• global inflation remains relatively benign;
• emerging-market economies have displayed a loosening bias;
• at current levels the rand is still more appreciated relative to rates prevailing at this time last year;
• the rand has been supported by a more favourable current account outlook;
• credit extension to the household sector in particular remains weak; and
• nominal salary and wage increases have continued to show signs of moderation."
But then the MPC still opted to keep the repo rate unchanged at 7%. In justifying its decision, the MPC refers to the still elevated level of inflation expectations for the next two years. Although it states that "the MPC assesses the risks to the inflation outlook to be more or less balanced", it nevertheless highlights the risk a weaker rand would pose to the inflation outlook.
It clearly seems to fear a possible blowout of the exchange rate in a worst-case scenario - the probability of which is too high for comfort.
The MPC states the reason for its fear in no uncertain terms. According to the statement "the outlook for the rand, and therefore the risks to the inflation outlook, will be highly sensitive to unfolding domestic political uncertainty, as well as decisions by the credit ratings agencies". This will remain the case for some time to come.
South Africa is paying a high price for the political crisis in which it finds itself. The normal conduct of economic policy, including monetary policy, will only resume once the political clouds have cleared.
* Jac Laubscher is economic adviser for Sanlam Limited. Opinions expressed are his own.
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