Rand’s Nosedive Foils Prospects for Rate CutAndres R. Martinez
The rand’s drop in the past two weeks, the world’s steepest after Syria’s pound, is foiling prospects for an interest-rate cut by South Africa’s central bank amid mounting concern inflation will accelerate.
The rand has plunged 7.2 percent against the dollar since reaching a four-month high on May 3, surpassed only by the Syrian pound’s 28 percent drop in the period among more than 160 currencies tracked by Bloomberg. Forward-rate agreements due as soon as three months rose 19 basis points this week to 5.07 percent, signaling the chances for a rate reduction this year are diminishing. Similar contracts in Turkey have risen 6 basis points and were unchanged in Poland.
South African Reserve Bank Governor Gill Marcus is set to keep the benchmark repurchase rate at 5 percent today, according to all but one of 20 economists surveyed by Bloomberg, as the rand stymies efforts to spur an economy threatened again by mining strikes. A government report yesterday showed consumer prices rose 5.9 percent in April, more than economists forecast, limiting Marcus’s room to follow policy makers from Australia to Turkey in lowering borrowing costs.
“The rand usually ends up being a potential game changer and this time is no different,” Carmen Nel, an economist with Rand Merchant Bank in Cape Town, said by phone yesterday. The rand “changed the market’s perception quite rapidly on the possibility of a rate cut.”
As recently as May 3, investors were predicting an 80 percent chance of a rate cut within 12 months, compared with less than 30 percent now. Marcus is due to announce the decision after 3 p.m. in Pretoria.
Wage negotiations in the mining industry have increased the risk of strikes, threatening the economic outlook after stoppages last year cut output by about 15 billion rand ($1.6 billion). Credit default swaps, which increase when risk perception deteriorates, have risen 22 basis points in the past two weeks, while the yield on rand debt due in 2026 rose 35 basis points, or 0.35 percentage point, in the period.
The rand weakened 0.3 percent to 9.5969 per dollar as of 2:12 p.m. in Johannesburg, extending its decline this year to 12 percent. The inflation rate rises as much as 0.2 percentage point for every 1 percent fall in the rand, according to estimates from Johannesburg-based Standard Bank Group Ltd., Africa’s biggest lender.
“The balance of inflation risks has become more negative over the past week as the rand has weakened significantly and the annual wage round got off to a worrisome start,” Matthew Sharratt, an economist at Bank of America Merrill Lynch in Cape Town, said in a note to clients yesterday. “Inflation expectations have yet to fully adjust to these negative developments, implying upside medium-term risks for inflation.”
Inflation was unchanged in April from the previous month, close to the top of the central bank’s target of 3 percent to 6 percent and above the 5.7 percent median estimate of 19 economists surveyed by Bloomberg. The Monetary Policy Committee forecast in March the inflation rate will peak at an average 6.3 percent in the third quarter, before slowing to 5.2 percent in the final three months of 2014.
The yield gap between the fixed-rate bond due in 2017 and similar-maturity debt tied to inflation widened to 6.32 percentage points, the most in about a month, signaling investors are predicting average inflation will exceed the target over the period.
Marcus may be persuaded to overlook the rand’s effect on inflation, given the weak outlook for exports and a slump in consumer confidence, said Charles Robertson, global chief economist at Renaissance Capital in London. He predicted a 25 basis point reduction today.
“The weaker rand will offer some benefit to the economy and an interest rate cut would offer some benefit to the economy,” Robertson said in a phone interview yesterday. “This is an economy that needs both.”
The government is forecasting economic expansion of 2.7 percent this year, less than half the 7 percent annual growth that’s needed to reduce the jobless rate to 14 percent by 2020 from 25.2 percent currently.
The cost to protect South African dollar-denominated sovereign debt against non-payment for five years using credit default swaps climbed to 167 basis points yesterday since reaching a four-month low of 145 on May 10. The swaps pay the buyer face value in exchange for the underlying securities or the cash equivalent if a borrower breaks debt agreements.
The rand’s depreciation will limit the room the Reserve Bank has to cut rates going forward, Stanislava Pravdova, an economist at Copenhagen-based Danske Bank A/S, said by phone yesterday.
“The domestic environment became a lot more negative,” she said. “When the rand is under pressure there are expectations that inflation could also accelerate.”