There remains considerable uncertainty as to where
interest rates will be heading next. Even so, the cycle has its own inner
logic, aside of any policy fine-tuning driven by the state of the economy,
inflation performance and political considerations.
With past cycles for inflation and growth in mind, we
can reasonably assume such forces to repeat themselves over time, given a
fairly stable structural context.
We are currently in low performance territory for both
growth and inflation. We will eventually recover and peak out anew, after
which a new subsidence will occur. If driven by moderate forces, this suggests a prime
rate range of 10%-15% as a standard cyclical expectation.
Only exceptional dislocation (weak currency, high oil
price, drought-related food price increases, disastrous public sector
charging, strong labour action or any combination of such lethal
developments) would suggest renewed inflation momentum making for an upside
breakout, prime possibly exploring 15%-18%.
Similarly, different global forces making for a much
stronger Rand and subdued commodity prices, with local factors more benign,
could see resumption of our convergence with low OECD inflation below 2%,
creating potential for a downside breakout, prime potentially exploring
7%-10%. These tail conditions (prime rate of 15%-18% and
7%-10%) may have a lower probability than the standard range (10%-15%), but
for that one is relying on institutional continuity. Yet the world is hardly
stable. Instead it is evolving, gradually in an underlying sense, but at
times also shock-like.
That makes the whole outlook unpredictable, and makes
every cycle unique, except in one respect. There will be a cycle. There will
be ups and downs. It is only timing and amplitude that are up for discussion.
But will the amplitude stay within the standard range to which we have
recently become accustomed (10%-15%) or will the tail risks be visiting us
anew ere long?
The most recent ‘long' global cycle (1960-2010) was
characterized by a long buildup and blowout of inflation (1960-1980) followed
by a persistent long disinflation globally converging on 2% inflation. This latest disinflation started at the peak of the
inflationary excesses following the 1970s decade of major dislocations. At
its tailend today we are exploring the deflationary excesses and implications
of the ‘bubbly noughties' (2000s) decade. Having successfully succeeded in undoing the inflation
excesses of the 1970s, today's global determination is to prevent deflation
from taking hold (Japan so far being the only mild exception).
Does this mean the only way for global inflation is now
back up, considering the supposed irresponsible vigour of central banks and
governments supporting their financial systems and economies these past two
years? For some this can be the only outcome. Yet global
policymakers remain grimly focused on re-establishing their long cherished
goal - inflation expectations of near 2% stretching out over time (even if
periodically threatened by events). So the immediate outlook remains for a global inflation
norm of 2%, policy-driven. Even so, not everyone agrees. Alan Greenspan in
his book Age of Turbulence foresees an end to easy assists such as the huge
reservoirs of underpriced Asian labour and facilitating globalization. And
there is resource nationalism, consolidated global mining companies and the
effects of climatic change, between them potentially keeping global commodity
supply tight relative to demand, forcing further relative changes in
commodity prices (upwards).
Countering such disruptions are strong productivity
gains and restraining central bank monetary policy stances.
While many abroad fear general deflation, it is
unlikely to be on the cards. The great disinflation of the past three decades
is certainly at an end, having reached the vicinity of 2%. Only time will
tell whether a new inflationary age lies ahead, or whether the balance of
global forces will allow a benign 2% inflation environment to persist, at
least for the time being.
If that fundamental question wasn't difficult enough,
the other fundamental question for us is where South Africa fits into this
situation? Are we still converging with the rest of the world,
having not quite completed our disinflation (which started late, in 1986,
also because of our institutional disruptions over this period)?
Institutionally we seem to be at least partially
marching to our own drummers, thinking public sector charging, labour union
demands and a skewed skills market. And we fear commodity price resurgence.
Far at the back of beyond lurks another major Rand decline (cyclically).
But like globally, these factors must not be seen in
isolation. We are an open economy, with sizeable import penetration. We are
at present importing low global inflation AND our currency is in a firming
phase. We are currently economically underperforming and are unlikely to
outperform again soon (going by the daily omens), suggesting lingering
resource slack, while we also benefit from productivity gains. These forces
are all anti-inflationary.
Yet for many South Africans it is an open-and-shut
case. We are a high-inflation country, unable to restrain our inflation, and
therefore saddled with a depreciating currency over time.
But try telling this to the government and the SARB,
whose inflation targets and inflation-targeting policy suggest something
different.
It may well be that institutionally we have difficulty
in converging quickly with global inflation norms. Such shortcomings are the
same as those that keep our growth shackled at relatively low
underperformance levels when judged by modern global standards, limiting the
pace of our structural change and general uplifting. There is nothing new in any of this. But sometimes one
has to restate the obvious in order to draw the logical conclusion as to why
a cyclical prime interest rate range of 10%-15% is so standard for us while
most of the world sits at half that level.
As to short-term considerations, the SARB's Monetary
Policy Committee will be meeting shortly, no doubt taking into account recent
inflation trends, current (and future) risks thereto, the cyclical
performance of the economy, and political issues (if any). Technically, the SARB may not be finished easing, a
view expressed by a number of foreign banks. But it will be up to the
Committee to take all risks into consideration and to decide what's best.
That, after all, is its role.