December 10, 2003

By Vernon Wessels

Johannesburg - Interest rates have not fallen fast enough to match the decline of inflation, giving the Reserve Bank further room to cut rates aggressively following its two-day monetary policy committee meeting which starts today, according to Colen Garrow, an economist at Brait.

The market has priced in a cut of 150 basis points, although most economists expect the central bank to act prudently and reduce rates by only 100 basis points, or 1 percentage point.

Some economists have called for a 2 percentage point cut to cool the rand's appreciation.

The central bank's repurchase (or repo) rate has been cut by 500 basis points since June, to 8.5 percent.

Garrow pointed out that monetary conditions had tightened following the sharp fall in the targeted measure of inflation, CPIX (headline inflation less mortgage rates). After peaking at 11.3 percent last November, CPIX slowed to 4.4 percent in October.

Garrow said:

"If this is not enough to keep real interest rates high, CPIX is expected to fall further, troughing around 4 percent in the first quarter of 2004."

High short-term rates had contributed to erratic portfolio flows, particularly through interest rate markets, and had enabled the rand to maintain its firm footing, he added.

Time was running out for the Reserve Bank to move lower, as other central banks had started hiking rates, Garrow said.
Réjane Woodroffe, a portfolio manager and economist at Metropolitan Asset Managers, said a 100 point basis cut would be sufficiently aggressive as the rand looked stretched at current levels.

Iraj Abedian, the chief economist at Standard Bank, has called on the committee to cut rates by 200 basis points and by another 100 basis points in February, so the market can determine the true value of the rand.

An aggressive cut would damp the effect of portfolio flows and allow the market to concentrate on the fundamental value of the rand, he said.

The rand has appreciated by almost 35 percent against the dollar this year and by more than 20 percent on a trade-weighted basis.

Nazmeera Moola, an emerging market economist at Merrill Lynch, expected a cut of 150 basis points. The rand's rally in recent weeks was "overstretched" and the currency might edge back to about R6.65.

Moola adjusted her forecast for the rand to end at R6.90 to the dollar next year from R7.50 previously.

The rand would be stable until mid-2004 and would lose momentum with commodity prices and the narrowing interest rate differential with South Africa's main trading partners.