South Africa: Cost of living crisis raises risk of social friction

By Xolisa Phillip, in Johannesburg
Posted on Thursday, 30 June 2022 15:23

IMF and World Bank hold Annual Meetings in Washington
South Africa's Reserve Bank Governor Lesetja Kganyago, who is also International Monetary Finance Committee (IMFC) chairman, makes remarks as IMF Managing Director Kristalina Georgieva listens during a closing press conference for the IMFC, during the IMF and World Bank's 2019 Annual Meetings of finance ministers and bank governors, in Washington, U.S., October 19, 2019. REUTERS/Mike Theiler

The rapid rise in the cost of essentials will heighten social friction in South Africa while increasing the probability of an interest rate hike when the central bank’s monetary policy committee (MPC) meets in July, analysts predict.

The latest figures from Statistics South Africa (Stats SA) show that annual consumer price inflation (CPI) increased to 6.5% in May from 5.9% in April. That is the highest recording since January 2017 and the first time in five years the reading has breached the central bank’s 3-6% inflation target band.

Stats SA will release the June CPI figures on 20 July, a day before the South African Reserve Bank’s (SARB’s) MPC is scheduled to meet to announce its next interest rates decision.

Zahabia Gupta, S&P Global Ratings’ primary sovereign analyst on South Africa; Martyn Davies, MD of emerging markets and Africa at Deloitte; and Christie Viljoen, a senior manager and economist at PwC, forecast another 50 basis points hike to the SARB’s key policy rate.

Says S&P’s Gupta: “While the cost of essentials has increased, unemployment is higher than before the pandemic. Labour-intensive sectors, such as tourism and hospitality, are trailing others in the recovery. This creates an environment vulnerable to unrest as there are lower incomes to pay for more expensive essentials.”

Gupta says S&P expects higher inflation to dampen real household incomes and demand, weighing on real GDP growth. S&P estimates South Africa’s economy will grow 1.8% in 2022, compared to the 4.9% recorded in 2021.

“Tragically, inflation impacts the poorest people in society,” says Davies. “You will see increased social friction. Poorer people know what percentage of their income is spent on food and transportation.”

Says Viljoen: “We are all feeling this [inflation] in South Africa in the prices that we pay.”

“Because of inflation, the next round of pressure will be on employers when people start demanding higher salary increases,” says Viljoen.

“We are now in a period when many companies are in salary and wage negotiations. … People will be demanding a lot more when it comes to wages and salaries,” Viljoen says.

Pressure to hike

At its May MPC meeting, the central bank lifted the repurchase (repo) rate by 50 basis points to 4.75%.

Economic and financial conditions are expected to remain more volatile for the foreseeable future,” said the central bank’s governor when announcing the May interest rates decision.

S&P’s Gupta says rising domestic inflation and global monetary tightening will place increasing pressure on the SARB to raise interest rates further. “We expect the key policy rate will be raised by at least another 50 basis points by the end of this year.”

For Davies, too, “there is only one way” for the SARB’s interest rates trajectory – “it’s up”.

In a developing economy context, says Davies, there is an inextricable link between interest rates and inflation.

“We can’t get away from that cycle. To kill inflation, you’ve got to put the handbrake on the economy through interest rates,” Davies says.

Viljoen also agrees that the latest CPI figures “probably mean … [the SARB is] going to lift interest rates by another 50 basis points”.

“High interest rates mean it’s more expensive to borrow money, to buy equipment,” says Viljoen. “High interest rates are bad for economic growth.”

According to Viljoen: “In the case of South Africa, we switch to talk about employment growth. If the economy doesn’t grow, then employment doesn’t grow; and our unemployment problem will continue to be a big issue.”

Viljoen says higher interest rates also count as a negative for consumer confidence.

“One of the elements of the measurement in South Africa is the outlook for household finance. When interest rates go up then the outlook for household finance looks worse. That’s bad for consumer confidence,” Viljoen says.

Although inflation is a big concern, “in the South African context interest rates are not our biggest concerns,” says Viljoen.

“We are more worried about electricity – load-shedding. The change in interest rates will have a small effect on the economy compared to our electricity problems,” Viljoen says.

Outflows volatility

In terms of global developments, the US Federal Reserve’s May rate hike means the differential in real interest rates between South Africa and other emerging markets and advanced economies is narrowing, according to Gupta.

“This could potentially lead to sharp and sudden portfolio outflows,” Gupta says. “The volatility in flows could, in turn, add to depreciation pressure on the rand.”

“As more non-residents exit the South African bond markets, domestic financial institutions will likely demand higher yields to absorb the additional funding. This could worsen the government’s high interest burden of around 17% of revenue,” says Gupta.

During the May MPC rates announcement, the SARB governor said: “… [Policy] normalisation by major central banks and higher yields have tightened global financial conditions. Investor appetite for riskier assets is weaker and asset values in major markets have declined sharply.”

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