South Africa Lifts Key Rate to 10.5% to Cut Inflation

Oct 11, 2007 - South Africa's central bank raised its benchmark interest rate by half a percentage point, the third increase this year, as it struggles to bring inflation back within the target range.

The repurchase rate was increased to 10.5 percent, Governor Tito Mboweni said in a televised speech from Pretoria today. That was in line with the forecast of 12 of the 28 economists surveyed by Bloomberg last week. The others expected rates to be left unchanged.

Inflation, which has exceeded the central bank's 3 percent to 6 percent target band since April, may continue to accelerate, fueled by rising food and gasoline costs. The Reserve Bank has increased its key rate by 3.5 percentage points since July 2006, to crimp consumer spending and head off higher inflation.

"If we allow the inflation genie to get out of the bottle, which it's threatening to do, then they run the risk of having to raise rates even more," said Rudolf Gouws, chief economist of Rand Merchant Bank in Johannesburg. "It's a brave decision, but a correct one."

The rand strengthened to 6.743 against the dollar as of 4:30 p.m. in Johannesburg from 6.835 before the rate decision. The yield on the R153 bond, due 2010, rose 8 basis points, or 0.08 percentage point, to 8.88 percent.

Inflation Outlook

The inflation rate, which reached 6.3 percent in August, will probably peak at 6.8 percent in the first quarter of next year and drop to the upper limit of the target range in the second quarter, Mboweni said today. At the last monetary policy committee meeting in August, the central bank forecast the inflation rate would drop below 6 percent by the second quarter.

The Reserve Bank is concerned that price pressures are spreading beyond food and fuel, threatening to keep inflation above the target for longer.

"Even when we exclude food and energy from CPIX, one still finds pressure is on the upside," Mboweni said today. "There is a more generalized set of pressures on inflation, which must be contained, otherwise we run into many problems."

While the Reserve Bank was aware that raising interest rates today won't bring inflation back within the target range in the next few quarters 'at least we are doing something' to curb inflation, Mboweni added.

Unexpected

The monetary policy committee couldn't properly assess, with the data available, if the slowdown in consumer spending will be sustained, Daniel Mminele, a member of the committee, said in a televised interview today.

More than half of the economists surveyed by Bloomberg didn't predict today's rate decision as higher interest rates crimp consumer spending and threaten to undermine economic growth.

"A lot of people never expected the interest rate hike," said Asief Mohamed, chief investment officer of Aeon Global Capital, a Cape Town-based hedge fund. "The increase in interest rates will have a continued negative impact on consumer spending. This is probably the final hike" in rates until at least the end of next year.

Vehicle sales fell an annual 12.9 percent in September, an industry body said on Oct. 2, while retail sales growth slowed for a second month to an annual 4.9 percent in July from 7.1 percent in June, the statistics office said on Sept. 20.

The slowdown in consumer spending has hurt manufacturing, which accounts for 16 percent of the economy, causing economic growth to slow to an annualized 4.5 percent in the second quarter from 4.7 percent in the previous three months.

"It's gone a bit too far now," said Rejane Woodroffe, an economist at Metropolitan Asset Managers in Cape Town. "To have gone a full 50 is a bit too stringent. The economic turndown is worrying."