Inflation fall bolsters rate cut case

Surprise inflation figures – one of a series of lower-than-expected numbers reported recently – have stoked speculation about a cut in interest rates. Statistics SA said yesterday that inflation fell to 5.7 percent last month from 6.1 percent in April.

The figure is safely below the ceiling of the Reserve Bank’s 3 percent to 6 percent target range and the 5.9 percent forecast by economists polled by Bloomberg.

Yields on forward rate agreements, a litmus test of market expectations, are now signalling a 76 percent chance of a 50 basis point cut in the bank’s repo rate by year-end, according to Henry Flint at Thebe Stockbroking. The repo rate has been at 5.5 percent since November 2010.

Andre Roux at Investec Asset Management said rand-sensitive goods “were surprisingly well behaved” in May. The currency weakened from R7.7 a dollar early in May to peak at R8.6 at the start of June, raising costs of imported products and inputs to local manufacturers.

Despite this, the Reserve Bank has cut its inflation forecast. At last month’s meeting of the bank’s monetary policy committee, governor Gill Marcus said inflation had peaked at 6.1 percent in the first quarter. This compared with the March forecast that it would peak at 6.5 percent in the second quarter. Marcus also cut her economic growth expectations for the year to 2.9 percent from the March prediction of 3 percent.

Since then, the global economy has deteriorated further and expectations about both growth and inflation are being revised downward.

Kevin Lings of Stanlib highlighted a 0.3 percent fall in food prices – deflation – month on month in May as among the factors responsible for the lower inflation rate. Year on year, food inflation declined to 6.8 percent from 9.1 percent in April.

While petrol inflation continued to add upward pressure in May – 19.4 percent year on year – the June and July inflation figures will reflect the recent fall in the oil price. The price of Brent crude has tumbled from $124 a barrel in mid-March to $95 yesterday.

At the start of the month, the price of 95 octane petrol in Gauteng fell 55c from a peak of R12.22 a litre, and a further 70c cut is likely next month.

Flint said if oil and food prices continued to soften, inflation would ease “more aggressively” in coming months. “We have therefore changed our view that interest rates would remain flat. We now expect an interest rate cut before the end of the year.”

Despite the inflation figure, Razia Khan of Standard Chartered did not expect a further cut in the repo rate “outside of a major global economic shock that alters the external environment meaningfully”.

But she noted the International Monetary Fund was urging accommodative monetary policy to give a boost to South African growth. “And, indeed, whatever sign of a consumption recovery we thought we were seeing earlier, now seems to have dissipated almost entirely.” This development “would delay” the rate-hiking cycle.

Local markets continue to respond to international events. Roux said two key domestic bonds – the R157 and the R186 – rallied about 3 basis points and 2 basis points, respectively, yesterday when the inflation data was released.

He said this was “not much of a rally. Global factors are currently far more important”.