New target still leaves cuts on the cards, says Godongwana

Finance minister Enoch Godongwana says there is room for multiple rate cuts in the future, despite a tighter inflation target.

This week, he announced a downward adjustment to the official inflation target and expressed confidence that the South African Reserve Bank (Sarb) had room to implement repo rate cuts going forward.

Godongwana told MPs the new official inflation target of 3%, announced in his medium-term budget policy statement (MTBPS) on Wednesday, does not necessarily mean the Bank will raise rates higher for longer but would reinforce progress already made in slowing inflation.

“There’s a mistaken economic argument, and assumption… that [a lower] inflation target, of necessity, will generate high interest rates, and therefore, higher costs, which isn’t true. Because what we have said currently, [is that] as things stand, inflation is already at around 3%,“ he said.

“We’re just reinforcing that. And our projection is that interest rates, as a result of a lower inflation [target], are also going to come down, which will cushion the impact on the poor and their cost of living …

“In case of shocks, to cover a tolerance band, we have allowed for that. But it cannot be true that [the new] inflation target means that there will necessarily be an increase in interest rates.”

The minister was updating the standing committee on finance, the standing committee on appropriations, the select committee on finance, and the select committee on appropriations in parliament on Friday.

He said the new inflation target — the first adjustment to the target in 25 years — comes at a time when the Sarb has already achieved success in taming inflation. “In the macroeconomic stability this year, we have introduced the 3% inflation target. By the way, the inflation is already at the [bottom end of the target band].

“The Reserve Bank has done some numbers on it, and we know that…[this data from the Reserve Bank] shows that in the long term, the benefits we’re likely to realise outweigh the structural challenges.”

The Bank’s Monetary Policy Committee (MPC) will meet in Pretoria this week, with the report rate announcement expected on Thursday. Stats SA will also release the consumer price inflation data for October on Wednesday morning.

The central bank’s inflation target policy uses the repo rate as a tool to protect the value of the rand and maintain consumer price inflation. The outgoing inflation target band stood between 3% and 6%, with 4.5% previously serving as the target.

Boipuso Modise, head of the National Treasury’s economic policy and international co-operation division, told the committee the inflation outlook will be aided by a lower inflation target with a band that will allow the MPC to respond to shocks.

Inflation expectations are adjusting downwards … This policy step that we take now provides a lot more clarity and addresses any uncertainty that there might be with regard to the target itself. It’s a 3% target with a tolerance band that allows for shocks and for … monetary policy to see through shocks

—  Boipuso Modise, head of National Treasury’s economic policy and international co-operation division,

“Inflation expectations are adjusting downwards … This policy step that we take now provides a lot more clarity and addresses any uncertainty that there might be with regard to the target itself. It’s a 3% target with a tolerance band that allows for shocks and for … monetary policy to see through shocks,” she said.

Tertia Jacobs, Treasury economist at Investec, said the adjusted inflation target had the potential to give the Sarb more space to cut the repo rate and revise the inflation outlook lower over the next six months.

“We expect the Reserve Bank to cut the repo rate by 25 basis points on Thursday,” she said. “Our thinking was that if the minister of finance announced a lower inflation target, the Reserve Bank would support it. So, we will see more policy co-ordination from here on.”

She said the September CPI print presented a downside surprise, and the Rand has strengthened. This, along with other positive data, strengthens the case for the Sarb to announce a rate cut this week, she added.

Bianca Botes, director at Citadel Global, said a lower inflation target directly benefits bond investors, whose biggest enemy is inflation.

“By anchoring inflation expectations at 3%, South African bonds become more attractive to both local and international investors, as the real returns are more predictable and protected. This increased demand for bonds helps keep bond yields lower, which translates into reduced borrowing costs for the government,” she said.

The ripple effects would extend throughout the economy as lower interest rates reduce the cost of capital for businesses, making investment projects more viable, thereby supporting job creation, she said.

There are allegations that Godongwana’s decision to adjust the official inflation target was influenced by international institutions like JP Morgan and Goldman Sachs.

Deputy finance minister Ashor Sarupen slammed allegations that Godongwana did not meet with the institutions while in Washington recently. “There were no meetings with Goldman Sachs in Washington. So, it was impossible for a secret meeting in Washington to have set the inflation target,” he said.

“The conversation with JP Morgan revolved around our sovereign credit rating and the impact of trade issues and trade imbalances, and the global trade rebalancing on our economy, and how that would impact our credit rating. There was no discussion at all in that meeting on the inflation target.”

On Friday evening, S&P announced that it upgraded South Africa’s foreign currency long-term sovereign credit rating to BB from BB- and local currency long-term sovereign credit rating to BB+ from BB. The outlook remains positive.