Interest Rates on the Rise

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Less than a week after raising its repo rate, the Reserve Bank told South Africa the country could see another increase in interest rates before the end of the year.

South Africa's high levels of consumer spending and upwardly mobile inflation rates have yet to respond to the reserve's series of interest hikes and the bank's governor, Tito Mboweni, warned there could be another round of increases aimed at ensuring long-term economic gain.

The reserve raised its base lending rate to banks to 10.5%, an increase of 50 basis points, on October 11, with major commercial lenders lifting their own prime lending rates to 13.5% to 14% the following day. This has brought the cumulative rise in rates to between 3.5% and 4% since June 2006.

Inflation hit a four-year high of 6.5% in July before trending down again. While rampant consumer spending, high household debt levels and pressure due to increased rates were a matter of concern, the bank's priority was to get inflation back into the optimum 3% to 6% range, Mboweni said, even if this caused short-term hardship for some.

"If people don't feel the pinch in their pockets they won't respond appropriately," he said during an address to the Rand Club in Johannesburg on October 16.

Rate reductions between 2003 and 2005, which in total slashed 6.5% off interest payments, had sparked a boom in demand the economy was not able to meet, fuelling inflationary pressures, according to Mboweni.

Though the latest rate increase had come under fire from business leaders fearing a too-rapid deceleration of the economy and unions concerned about growing hardship for the debt-paying public, Mboweni said the move had been a responsible one.

"We focus on what would be good for the country - this adjustment in the repo rate was good for the economy," he said.

Not everyone is in agreement with the reserve chief. The Congress of South African Trade Unions (COSATU) had called on the bank to focus instead on policies that would target poverty and unemployment.

Following the October 11 rate increase, COSATU spokesperson Patrick Craven said the union group was angered that the bank's monetary policy committee had ignored their appeal. He said the group would be working to prod the government into following a policy acknowledging that "job creation now has to be made a more important priority than fighting inflation".

Another to criticise the increase was Colen Garrow, an economist with private equity firm Brait South Africa.

"I'm surprised and disappointed that the bank has raised interest rates once again," Garrow told local press on October 12. "I think it's one hike too many and is a bit of overkill - it also means the economy will have a much harder landing."

However, those advocates of a steady approach to interest rates wouldn't have been pleased with the latest retail sales figures data released by Statistics South Africa on October 17, which showed a sharp rise in consumer spending. The August retail trade sales showed a year on year increase of 6.9%, well up on the more modest 5.2% of July.

Even though earlier interest rate rises had made it harder for consumers to pay for expensive goods, the August figure was still higher than expected, said Nico Kelder, an economist at Efficient Research in South Africa.

"This indicates that the consumer shrugged off the rate hike in August - indicating that the South African Reserve Bank's decision to increase interest rates last week was the correct one," Kelder said in an interview with local media.

The South African economy's rate of expansion is slowing somewhat, even if the retail trade figures don't reflect it. The growth rate eased to an annualised 4.5% in the second quarter, down from the 4.7% of the first three months of the year and well off the 5% recorded for the past three years. This could be an indication that the reserve's policies are taking hold, though tightening interest rates can have little impact on one of the prime underlying problems fuelling inflation, high international oil prices.

In his speech at the Rand Club, Mboweni predicted inflation would peak at around 6.8% in the first quarter of 2008. He also suggested that the October 11 rates rise might not be the last for the year.

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