Interest rate outlook

On Thursday the MPC produced its second set of inflation and repo rate forecasts after July’s switch to a 3.0% y/y inflation target from 4.5% y/y, indicating fewer cuts as it forecasts the repo rate at 6.88% by the end of the year now, versus July’s 6.69%.

With the repo rate unchanged in September at 7.00%, and only one further MPC meeting this year, in November, the SARB now indicates close to a 50% chance of a -25bp cut at that meeting, and near three -25bp interest rate cuts next year. 

However, the CPI inflation outlook is now for likely lower inflation for Q3.25, at 3.4% y/y after August’s 3.3% y/y outcome, with only September outstanding for the quarter, but seeing little change in the fuel price and demand price pressures weak.

In contrast, the SARB’s CPI inflation forecast of 3.6% y/y for Q3.25 means CPI inflation has to come out at 3.9% y/y in September, from 3.3% y/y in August, an unlikely outcome as the CPI would have to rise 0.7% m/m, with fuel prices flat.

The large jump up in CPI inflation forecast by the Reserve Bank in September, to 3.9% y/y from 3.3% y/y, does not have any noticeable drivers, with no administered prices surveyed, the typically other large, once off, driver of inflation, besides fuel

In the CPI, the largest individual driver is food and non-alcoholic beverages, accounting for close to 1.0% of the 3.3% y/y inflation outcome, but having seen a recent moderation in price pressures in a number of food price categories.

The previous sharp elevation in meat prices ceased in August with the arrival of necessary vaccines, the bumper maize harvest has assisted in lowering cereal product (grain) prices, and processed food prices fell m/m on weak demand.

The other large component is the housing and utilities category, with rentals surveyed four times a year (along with transport and domestic services), with September one of the months, but an extraordinary price jump is not expected.

There is currently little to warrant a 0.7% m/m jump in CPI inflation to reach the 3.9% y/y in September needed for a Q3.25 average of 3.6% y/y in the SARB’s forecasts, and as such a likely much lower CPI outcome should aid a November rate cut.

Absent a large jump up in September’s CPI inflation outcome, to 3.9% y/y from 3.3% y/y in August, which appears very unlikely on current information, the fourth quarter of this year would see a lower inflation outcome than the SARB’s 4.0% y/y forecast.

Instead, with CPI inflation likely closer to 3.3% y/y in September and averaging 3.4% y/y in Q3.25, the lower starting point for Q4.25 would then result in an average of near 3.4% y/y for Q4.25, instead of the 4.0% y/y the SARB raised its forecast too.

The SARB notes, “(m)oving to prices, headline inflation has picked up in recent months ... The pressure is coming mainly from meat and vegetables, as well as fuel prices, which have been declining at a slower pace than they were before”.

However, inflation has fallen recently, to 3.3% y/y in the latest print on Wednesday for the month of August, and not risen, and is unlikely to jump up severely in the September reading noted above, but the SARB is seemingly treating it as an outlier.

Food prices inflation fell, from 5.7% y/y to 5.2% y/y and dropped -0.1% m/m. Overall the Reserve Bank has clearly not included the latest inflation figures published this week by Stats SA in its forecasts, and so does not provide clear future guidance.

This is key, as the future interest rate and inflation rate trajectories cannot be run without the August data going into the forecast process given the large movements in the data back towards the trend for the year, with July’s 3.5% y/y an outlier.

Looking forward, the outcomes of CPI inflation for the rest of the year will feed into the SARB’s models, but not necessarily the latest release as has been apparent from the MPC meeting this week, with the SARB then seeing delayed reactions. 

While inflationary pressures are very subdued from the demand side, which interest rate changes seek to influence, the supply side continues to see pressure from administered prices, although these have not caused second round effects.