Rating Inflation

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South Africa is facing another round of interest rate hikes as the central bank tries to rein in rising inflation, though the bank's policy of seeking to keep prices in check by curbing demand is increasingly coming under fire.

In a widely criticised statement in late May, Tito Mboweni, the governor of the South African Reserve Bank, said he was considering proposing a 2% increase of the key interest rates when the bank's monetary policy committee met on June 12. If implemented, it would take the bank's repo rate to 13.5%. The bank has raised rates by 450 basis points since June 2006.

Mboweni said drastic measures were required to halt the upward climb of inflation, which reached 10.4% year-on-year in April, up from 10.1% the previous month. The April results were the 13th month in a row that inflation had topped the central bank's targeted bracket of 3% to 6%.

On June 3, Mboweni said it would be at least 18 months before South Africa's inflation rate fell back into the targeted range and said there was a strong possibility that it would remain above 6% into 2010. He said that while rising food and fuel costs were the main contributors, hikes in the prices of electricity and commodities also added pressure.

"The road ahead is going to be bumpy," he said.

An indication of just how bumpy came later the same day, when data released by the National Association of Automobile Manufacturers of SA showed a 23.4% slump in vehicle sales in May against the same month in 2007, the largest single fall in nearly a decade and more than double market predictions.

According to Jean-Francois Mercier, an economist with Citigroup South Africa, the weakness in new vehicle sales indicated that the economy was increasingly responding to the higher rates.

"In time, we expect that this will mitigate inflation pressures," he told the local press on June 4. "However, prices of manufactured goods are already rising at a moderate pace and the key sources of inflation at present are not as directly responsive to weaker consumer demand as prices of goods."

Mercier's comments touch on the foundation of the criticisms being levelled at Mboweni. Increasing interest rates will not affect the price of fuel, power or food, and analysts have warned that such a move will reduce the ability of many citizens to pay for these essentials as more funds will have to be directed to meeting debt obligations.

Shaun le Roux of South African firm Alphen Asset Management went further, saying the central bank had failed to distinguish between inflationary pressures that are beyond its control and those that it can influence.

"When inflation originates on the supply side, the only way to suppress rising prices is to increase supply; interest rates can do nothing to deal with the source of the problem," he wrote in an article published on June 3.

Mboweni has since toned down his rate rise projections, indicating an increase of 1% is more likely to be decided on.

With a number of key indicators pointing to a slowdown in the South African economy, there are concerns that past rate increases have already cooled consumer demand and that with a global downturn looming, domestic growth is in danger of stalling.

Goolam Ballim, chief economist with Standard Bank, warned on June 1 that the central bank's efforts to curb inflation and reduce private spending would be felt by consumers at least until next year and in particular in the coming months.

"It is genuinely going to be one of the darkest winters for South Africa," Ballim told the local press. "People are going to lose their homes and cars."

Whatever the rate rise decided on by the Reserve Bank's monetary policy committee on June 12, South Africans may need to look to a broader solution to their economic worries.

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