Time for the SARB to throw petrol on the fire

The South African Reserve Bank’s (SARB) Monetary Policy Committee (MPC) meets this week and will render its judgment on interest rates on Thursday, 19 March. This is an event that is always keenly watched by markets and economists, even in times that are normal by South Africa's often abnormal standards. 

The background to this MPC is anything but normal. Covid-19 is wreaking havoc on the global economy and no one can forecast the long-term consequences. From the dramatic shutdown of Chinese factories to the virtual closure of Italy – a G7 economy – to US President Donald Trump’s suspension of travel between Europe and America, events are fast spinning out of control. 

South Africa’s relatively open and small, yet in many ways sophisticated economy, is extremely vulnerable. Total confirmed cases on the African continent are in double digits, but remain lower than the US. But as John Ashbourne, senior economist with Capital Economics, points out, the crisis in Africa could prove difficult to manage if it breaks out. Most African countries have three to 10 hospital beds per 10,000 residents, compared to 30-60 in Europe.

But the health issues are different from the economic ones, which could turn out as bad or worse than the health crisis itself. It's distinctly possible the virus will bankrupt more people than it kills.

President Cyril Ramaphosa acknowledged in his national address on Sunday night that the virus will have a “potentially severe impact on production, the viability of businesses, job retention and job creation”.

He said Cabinet was in the process of finalising a “comprehensive package of interventions to mitigate the expected impact of Covid-19 on our economy”.

“This package, which will consist of various fiscal and other measures, will be concluded following consultation with business, labour and other relevant institutions”, Ramaphosa said.

SA’s economic problem is that the two regions worst hit are also the biggest trading partners. China is a key trading partner, consuming much of the iron ore that South Africa produces as well as coal and platinum group metals (PGMs). Much of South Africa's trade is also with the European Union and Great Britain. Europe could be on the verge of a recession – Italy is probably in the grips of depression – and forecasts for global economic growth are steadily being slashed as policymakers scramble to contain the economic fallout from the virus. None of this is good for South Africa's economy, which ended 2019 in recession and may still be in the throes of contraction.  

On the domestic front, South Africa will certainly see a sharp fall in foreign tourists and the tourism sector is a key source of foreign exchange and a generator of jobs, many of which are low-skilled and held by people with several dependants. So the effects will ripple through and infect the economy widely, denting consumer demand. 

A quarantined workforce is also a very real prospect. Think of the mining industry. Hundreds of thousands of miners go underground every day and many individual mines have hundreds or thousands of employees beneath the surface daily. This workforce gets to the stope in crowded “cages” that descend to depths of up to 4km.

It is hard to imagine a more fertile environment for a virus to spread, especially as much of this labour force is still migrant in nature, with a steady stream of travel between the mines and Lesotho, Mozambique and the Eastern Cape. Yet closing down South Africa’s mining industry will shave off at least 7% of gross domestic product every day and more from multiplier effects. Such a scenario is not a dystopian fiction, but a sobering reality.  

Mining production actually increased 7.5% year-on-year in January 2020, Statistics South Africa said on 12 March 2020, largely driven by PGMs and iron ore, which have been boosted by rising prices. But this party could come to an end just as it really gets going, and Anglo American Platinum has already slashed its production guidance for the year by a fifth because of the unexpected closure of one of its plants for emergency maintenance. 

Central banks elsewhere have recognised the urgency and unprecedented nature of the threat posed by Covid-19. The US Federal Reserve has made an emergency cut to almost 1% and could bring its key lending rate to 0%. Emergency rate cuts have also been implemented by the Bank of England and Norway’s central bank. The European Central Bank decided last week not to loosen monetary policy yet, but events may soon force its hand. 

Cuts elsewhere give the SARB room to reduce its repo rate by at least 50 basis points from 6.25% and maybe more. There is still a huge gap between rates here and the developed economies, which lends support to the rand. Oil prices have crashed, relieving pressure on inflation, which is relatively muted anyway, with CPI in January at 4.5%.

At the moment, economists broadly expect the SARB to cut its key policy rate from 6.25% to 6.00%. Previously, the consensus was that policymakers would hold off until May 2020, but more recently, economists are betting looser monetary policy from a broad range of other countries, which will provide the SARB with the opportunity to cut sooner.

But there is an argument about whether a 25-basis point cut will be enough, even if it is followed by another in May. “The cut is, however, unlikely to provide much of a boost to South Africa’s moribund economy, which is being held back by both structural factors and – more recently – increasingly negative sentiment,” Ashbourne says.

There is a good argument for a larger cut. The virus has the potential to fan the flames of social unrest in South Africa, where income disparities are so glaring and unemployment so high. 

If parts of the economy begin to slow down significantly or shut down, then a sharp economic contraction will almost certainly be the order of the day. And this leaves Finance Minister Tito Mboweni's budget dead in the water, as tax revenue expectations will also have to be scaled back. This leaves the government with virtually no fiscal space to address the challenge, one of the many legacies of the lost Jacob Zuma years. That leaves only monetary policy. 

Against this backdrop, the prospect of a Moody's downgrade is a sideshow. The time to act decisively is now. BM