SIMON BROWN: I’m chatting now with Dr Adrian Saville, an investment specialist at Genera Capital. Adrian, I appreciate your early morning time. Going back to the MPC, the Monetary Policy Committee, (decision) on Thursday – [interest rates were left] unchanged. I think that certainly was expected. It was a consensus vote. [There was] an increase in expectation for GDP for this year, that’s nice, but for the next two years not so much. The key point I want to touch on is when do we start to see local rates move higher?
The US has kicked that can a hundred miles down the road, but there seems to be a bit of consensus around perhaps a November rate increase. Do you buy into that?
ADRIAN SAVILLE: Simon, great to be with you. The bond curve is, I think, a really good place to go to get direction or clues from what capital markets are saying about interest rates. South Africa’s bond curve has been indicating for some time that rates have to rise. You say the can has been kicked down the US road not to the same extent, but that certainly applies in the case of South Africa. If we rewind to the earlier parts of this year, there was an overwhelming expectation that we would have, by this time in 2021, experienced the first rate hike after the substantial cutting of 2020.
That has been delayed because of the weak economic environment, the ongoing absence of hiking pressure in the leading global markets.
But it is the case that South Africa’s inflation is running ahead of yields, and that the so-called Taylor Rule, which is a cocktail of inflation and economic activity components, points to the need for a rate hike in South Africa.
SIMON BROWN: Talking of that, to slightly change track, [there was] a great speech from the governor earlier this month in Stellenbosch University where he talked around inflation targeting. I didn’t attend the speech, I read it. He lays out the whole story of the rand and the Sarb and 21 years of inflation targeting. What he is saying is that we have had the current 3% to 6%, and he always refers to that 4.5%. He mentions that repeatedly. We’ve had it for 21 years. He says it’s time to pull our target down.
ADRIAN SAVILLE: Well, if you look at the record and the incredible discipline of the South African Reserve Bank in breaking the pattern of the double-digit inflation that characterised South Africa’s economy in the 1980s, 1990s, even into the early noughties, there were episodes of double-digit inflation. But it has now become very much the norm to expect that midpoint 4.5%. We’ve hung around there for a number of years. You’re going to get, I think, substantial pressure from certain sectors or segments if you try to tighten that band or lower that band because of the perception that the discipline on inflation keeps interest rates above where they otherwise would be. As a result, that makes for tough times for consumers and it keeps investors out of the frame.
Now, I don’t think that the evidence squares up to that claim, but it won’t take away from the fact that you are going to have substantial social and political opposition to any proposals to lower the inflation bands or target.
SIMON BROWN: The target he’s proposing is a 3% band, 2% to 4%, which means –rudimentary (to me) as a novice here – last week they would have raised interest rates. That’s partly it. We would have seen the higher rates. Of course, no one doesn’t like low inflation, but there is going to be some short-term pain, perhaps.
ADRIAN SAVILLE: I think that that’s where the evidence needs to be – really translated into a social conversation about what the advantages are of low and stable inflation rates. If you want to see social pain, let’s go to a world in which you’ve got double-digit inflation. If you look at South Africa’s inflation attribute, it is particularly pronounced in administered prices and food prices, and that impacts lowest-income consumers far more than higher-income consumers.
The other aspect that is also lost in this conversation is the suggestion that interest rates are starving the economy, or interest-rate discipline is starving the economy of investment spending. There’s little evidence of that.
We can’t find any evidence in the work we’ve done over many years to evidence a relationship between interest rates and investment spending.
SIMON BROWN: We’ll leave that there. Listeners can find the speech if you are interested [here]. It is well worth the read. It’s a great history lesson with some great thoughts.
That was Dr Adrian Saville, investment specialist, Genera Capital.