The proverbial...

On the one hand, says Shaun le Roux at Alphen Asset Management, the imported inflation component is being kept nicely suppressed by the rampant rand...

This isdemonstrated by reductions in the prices of clothing, food, equipment and even petrol.

The relentless march by the currency is crying out for intervention to take the wind out of its sails. Here, the Reserve Bank has two options: to build reserves, as they are currently doing, or cut interest rates further.

If you look at current levels of inflation and the impact the currency is having on important parts of our economy in isolation, you could make a strong case for further cuts in interest rates. However, on the other side of the equation, local demand is running very strongly.

The high levels of demand, growing appetites for credit and expanding money supply would under normal circumstance not bode well for the prospect of interest rate cuts. Surging local consumption builds inflationary pressures, which, though masked by the strong rand in the short term, generally lean towards a need for tighter monetary policy.

So, here is the problem. How do you take the fizz out of an overvalued currency with its negative growth implications without over-stimulating demand in the local economy?

The unfortunate position is that interest rates should already be lower than where they are currently, but to be cutting now is dangerous in that inflationary pressures are building locally and credit bubbles are not unknown to South Africans. Accordingly, we view a December rate cut as unlikely.

We have long commented on our belief that the MPC has been well behind the curve in their implementation of monetary policy, with interest rates being hiked unnecessarily in 2002 and too slow in coming down thereafter.

Ask yourself the question about how the credibility of the Reserve Bank would be viewed in the event of inflation undershooting the lower level of the targeted 3% to 6% range, and with the rand currently nudging under 5.70 to the US dollar this outcome starts to look feasible.

In the meantime, a combination of ego and ignorance has given rise to some of the role players talking up a strong rand.

I fear such rhetoric will come back to haunt them. Of course you have to take the levels of the currency into account when you are targeting inflation. In the South African situation, inflation levels have proved to be a direct function of the movements in the currency rather than the other way around.

The only obvious option is a continuation of an aggressive reserve build-up. This will happen.

The other shift in policy that cannot be discounted is an acknowledgement by policy-setters that the rand is overvalued, together with a move towards talking the rand down rather than up, though whether this would have any effect is debatable.