Africa-Press – South-Africa. South Africa’s interest rate and inflation forecasts have effectively flipped from the start of the year to the present day due to the ongoing conflict in the Middle East.
This has significant implications for the country’s economy, with rising inflation and interest rates set to constrain consumer spending and slow growth.
Old Mutual Investment Group (OMIG) senior analyst Sisamkele Isipho Kobus explained this as a flipping of the script or a switch from a sweet spot for the Reserve Bank to one of significant difficulty.
Kobus explained that the view on South Africa, pre-war, was “peak bullishness”. South Africa’s economic growth was broadly expected to accelerate on the back of lower inflation, falling interest rates, and structural reform.
However, four months later, the only element of this viewpoint still standing is the structural reform underway in South Africa, and even that has been called into question.
“I was one of the most bullish ones with regard to the Reserve Bank and monetary policy prior to the war,” Kobus explained.
“I thought the central bank could drop the repo rate to 6% by the end of 2026, with cumulative interest rate cuts of 325 basis points. That was my base case before the war.”
This would have continued the established trend in South Africa of consumer spending driving economic growth, with lower inflation and falling interest rates boosting disposable income.
The outlook on state finances was also broadly positive, with expectations of a further upgrade to South Africa’s credit ratings and the peak in the state’s debt burden as a share of GDP.
“We had this well-behaved picture in terms of both cyclical factors, such as inflation and interest rates, as well as structural factors, such as improving state finances and deepening reform,” Kobus said.
“We thought S&P would upgrade South Africa to BB+ by the end of the year and foreign capital would flow into local assets.”
This picture has been thrown out the window by the US-Israeli war on Iran, which began on 28 February. The tentative ceasefire, without a full peace deal, has done little to calm investors’ nerves.
Kobus said, despite analysis pointing to South Africa weathering the storm fairly well, with the country’s fiscal trajectory not being derailed, the positive newsflow on South Africa will pause for some time.
“I don’t think rating agencies will want to be making decisions in this kind of environment. Even if the debt-to-GDP picture holds for South Africa, agencies and investors will be on pause,” Kobus said.
The pre-war inflation expectations (gold line) can be seen in the graph below, compared to the post-war expectations (green line).
What will happen to interest rates?
Kobus laid out three scenarios that OMIG has produced as a result of in-depth work from its team of analysts following the outbreak of the war.
“The team was very quick to understand that this conflict was going to drag on a little longer than a couple of weeks and its impact was going to be more pronounced,” Kobus explained.
“So even though my individual assessment was that Trump would back down and normality would return quickly, the team’s view was that there was little chance of that.”
Kobus said OMIG’s view is that the impact of the conflict will last longer than what is generally expected, with oil unlikely to return to pre-war levels within the next year.
OMIG’s base case is for oil prices to remain between $90 and $100 per barrel, after spiking to $120 per barrel in March.
This is significant, as the asset manager accepts that oil prices will remain 50% above pre-war levels for a sustained period.
In the base case scenario, the sustained elevation of oil prices translates into inflation peaking at 5.1% in 2026, which is well above the Reserve Bank’s 3% target.
This inflation outcome has been helped by the National Treasury’s R3 cut to the General Fuel Levy, which Kobus expects to shave around 0.2 percentage points off inflation in 2026.
“The important number is peak inflation, and that will be 2.1 percentage points above target. That is significant and will push the Reserve Bank to act,” Kobus said.
“In that environment, the Reserve Bank will not look through it and assume it will be transitory. We have pencilled in 50 basis points of hikes, 25 in July and 25 in September or November.”
Kobus said the Reserve Bank is helped by it starting at a point where inflation is well behaved at 3.1%, and the policy environment is restrictive.
This gives it space to wait until July to hike rates, when it will have more data to inform its assessment of the impact of rising oil prices on inflation in South Africa.
The graph below shows the Reserve Bank’s hiking cycles, with the inflation gap indicating hikes are coming as it reaches levels typically seen during those cycles.
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