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Navigating Economic Headwinds: Awaiting the Fed's Cue for SA's Economic Trajectory

20 February 2024 Sanlam Investments

As we progress steadily into 2024, the global economic landscape is poised for change, with disinflation and slower real GDP growth influencing the trajectory of interest rates.

Anticipation was high for the US Federal Reserve to lead the charge in rate cuts this year, prompting expectations for a ripple effect on central banks across emerging markets, including South Africa.

However, recent macroeconomic indicators suggest a delay in the eagerly-anticipated rate-cutting cycle, pushing the timeline from March or April to mid-year. Arthur Kamp, Chief Economist at Sanlam Investments, shared his insights during the business’s latest fund update webinar held on 19 February 2023. He remains confident that the Fed will eventually cut interest rates, citing disinflation as the primary driver.

U.S. Growth and Inflation Outlook
The intricate dance between U.S. GDP growth and inflation paints a complex picture. The effects of high interest rates are gradually filtering through the economy, manifesting in a strained housing market and rising credit card delinquencies. Despite the resilience of corporate and household balance sheets, concerns linger about the artificial support created by fiscal and monetary interventions during and after the pandemic.

Encouragingly, the latest core PCE deflator data suggests the Fed has achieved its inflation mandate, potentially paving the way for rate cuts in the second half of 2024. The European Central Bank (ECB) and Bank of England (BOE) are expected to follow suit, triggering a global shift in financial conditions. Kamp predicts that if the U.S. economy remains robust in the first half of the year, the Fed could initiate cuts as early as June, possibly up to 150 basis points.

Global Implications for South Africa
As developed market interest rates decline, global financial conditions are expected to improve, offering support to selected emerging market currencies and interest rates. The South African Reserve Bank (SARB) may find room to act on interest rates shortly after the Fed, though the exact timing and depth of domestic cuts remain uncertain.

Domestic Economic Challenges
South Africa faces economic headwinds, with concerns over fiscal constraints, high unemployment, and stagnant growth dominating the narrative. Despite 2023 GDP growth exceeding expectations, the country still grapples with a downward trend since the Global Financial Crisis (GFC). Kamp underscores the need for government to create conditions conducive to attracting capital, focusing on fixing electricity and transport infrastructure, and implementing reforms outlined in Operation Vulindlela, the joint initiative of the Presidency and National Treasury aimed at accelerating the implementation of structural reforms and supporting economic recovery.

SA National Elections and Fiscal Landscape
The upcoming 2024 National Elections add a layer of complexity, with the current ruling party expected to retain dominance. However, potential coalition-led changes in key provinces could introduce uncertainties. Fiscally impractical promises during the election could strain an already challenged fiscal outlook, prompting concerns about inflation and currency stability.

The Rand's Outlook
Despite the challenges, Kamp sees the rand as undervalued, projecting a potential rebound once the SARB cuts interest rates and inflation expectations are anchored. Improving commodity prices, driven by heightened demand for metals in the energy transition infrastructure, could further bolster the rand.

In closing, Kamp highlights South Africa's strengths, including a robust debt maturity structure, inflation-linked bonds, and an independent central bank. While challenges persist, these factors serve as mitigating elements, instilling confidence in South Africa's fiscal position.

As we await the Fed's move, the intricate interplay of global and domestic factors will shape South Africa's economic trajectory in the months ahead.

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