Will South Africa's Cautious Rate Cut Cut It?

The South African Reserve Bank's recent decision to cut interest rates by just 0.25% signals a measured approach as the global rate-cutting cycle gathers momentum. As central banks around the world react to easing inflationary pressures and slowing economies, South Africa is navigating its own unique set of challenges. Portfolio manager RASHAAD TAYOB examines the implications of the SARB's decision and what investors can expect from future rate adjustments.

South Africa has arguably been behind the central bank rate-cutting curve. Even the European Central Bank has made two 0.25% interest rate cuts, while the US Federal Reserve recently cut rates by a hefty 0.5%. SARB's 25 basis point rate cut — as well as the tone of its statement and the Governor's delivery — stood out as mildly hawkish (see 'Did You Know?').

While the rate cut itself was welcomed, SARB’s message was clear: it aims to move towards a neutral rate above 7%, with the focus on inflation stability. This contrasts with the market’s pricing, which predicts interest rates falling below 7% by mid-2025. SARB’s press conference and statement also appeared to push back against expectations of aggressive rate cuts, indicating that the central bank remains cautious about overstimulating the economy.

The decision underscores SARB's traditionally conservative approach. While some observers, including me, expected a split decision with some voting members favouring a 0.5% rate cut — especially in the context of the US Fed’s larger reduction — the SARB committee’s unanimous vote for a smaller cut was surprising.

Looking ahead, we believe that SARB will continue its prudent approach to rate cuts. We are likely to see another 0.25% cut in November, which will take place after the Fed’s next decision. Heading into 2025, we anticipate two or three further cuts, but the bar to cut rates aggressively towards — or below — the 7% level will remain high. 

SARB is mindful that the spread between US and South African rates is historically narrow. The US central bank is also unlikely to repeat the extreme monetary easing seen in the aftermath of the 2008 financial crisis, when US interest rates were slashed to near zero. In my view, investors expecting steep cuts of 2.5% or more in either market in the next year will likely be disappointed.

The rating cutting cycle is well underway across the developed and emerging markets. South Africa is now belatedly following suit. The strong rand and lower oil prices mean the inflation outlook is benign, giving SARB the space to make cuts. We nevertheless expect SARB to remain conservative, balancing the need for economic stimulus with the risk of inflationary pressure.

South Africa's economic challenges — particularly its ballooning debt burden — remain a pressing concern. The country’s debt has skyrocketed from R1 trillion in 2011 to approximately R5.5 trillion today, driven by persistent budget deficits and weak growth, which has averaged less than 1% over the past decade. The country must boost growth to around 3% and curtail bailouts to state-owned enterprises if it hopes to stabilise its debt trajectory. The new Government of National Unity offers us a chance to change the country’s economic course. However, this will depend on stability within the coalition government and the continuation of structural reforms.

On the currency front, the rand has performed well — buoyed by improved political and economic prospects. Foreigners are again net buyers of South African bonds and shares, boosting the rand compared to its emerging market peers. However, further currency gains will depend on continued dollar weakness and the sustainability of South Africa’s economic recovery.

While rate cuts will help ease funding costs for consumers and businesses, SARB’s cautious stance means that rates are unlikely to dip below 7%, unless inflation moves firmly towards the lower end of the 3-6% target range. Even then, SARB would be reluctant to cut rates sharply unless the US central bank makes an equally aggressive move. Investors should therefore manage their expectations — sharp, deep cuts in interest rates are unlikely, and the path forward will most probably be slow and steady.

In conclusion, SARB’s recent rate cut reflects a cautious optimism about the future. While there is capacity for further reductions, the central bank is keenly focused on long-term inflation management and ensuring economic stability. Investors should anticipate a gradual pace of rate cuts as South Africa balances its domestic challenges with the realities of the global economic environment. Despite the rate cut, monetary policy remains restrictive.