Macro Pulse Episode 19

Hello and welcome to Macro Pulse. This week we’re going to look at monetary policy and look at some of the extraordinary developments we’ve seen both in local and global central bank policy. But first, why is monetary policy important? Well, it says interest rates, which influences the cost of capital, credit conditions and the flow of money between savings, consumption, investment between different countries around the world. So, monetary policies are key variable in analysing macro trends.

Let’s start with the US. The US typically follows a dual mandate between price stability as well as maximum employment, meaning inflation and growth. On the growth side, the US economy has weakened to below trend. When we look at recent consumer numbers, they’ve weakened. That includes the most recent jobs number, the monthly jobs number that we saw for the month of July.

It showed that due to some really big downward revisions, the three-month average job gain over the last three months now is 33,000 jobs per month, which is the weakest level. It’s been since the pandemic. These numbers were so bad that Trump labelled them rigged, and he fired his head of the rule of labour statistics, and the person that’s supposed to replace her has said that he will stop producing the monthly job numbers until they’ve been corrected.

So, this obviously brings in some complications for the fed, which has become increasingly more data dependent. But the fed is also fighting fights along independence in the sense that Fed Chair Powell continues to be criticized by President Trump, is now a lawsuit, potentially, that will go after, Fed Chair Powell for his role in the increasing cost of the renovation of the fed building.

Scott Pearson, the Treasury Secretary, has also called for, Powell to reduce rates by 50 basis points. At the next meeting. During the last FMC meeting, Jay Powell indicated that the reason for not cutting interest rates is because of the uncertainty that has come along with the trade tariffs. And so, putting the blame to some extent on the Trump administration, if you look at the inflation numbers, they are around 3%.

And when you look at the most recent print, it does look like core goods inflation continue to rise as the import prices continue to increase from these increased tariffs. However, the pass through has been fairly slow and fairly weak. And so, some of the fed members are willing to look through these increases and are starting to talk about rate cuts.

The market now prices in the 25 basis points rate cut at the next meeting in September. But if we indeed see a little bit more weakening in the US data, we could see the market starting to call for 50 basis points at the next meeting. And in September. However, what we have learned from the central bank history is that central banks, and particularly the fed, typically waits too long before they start cutting interest rates.

And then ending up having to cut faster and deeper than initially anticipated. One central bank that has been proactive has been the ECB. They’ve cut rates now to 2%. Inflation has come down to around 2%. And along with the increased certainty now that tariffs have been set at 15%, some of the sentiment has improved. And you see that in some of the economic data points.

That has also improved. This weekend they will be meeting between Putin and Trump in Alaska. And that could still have an impact on European assets. So, one that we watch closely. The Bank of England also had a very interesting meeting. They voted twice. The first time that a split vote of four for one, which means four members voted for hold, four for a 25 basis points cut, and another member voted for 50 basis points cut.

It kind of shows you the uncertainty even within the central bank, is that typically, since with exposure to many economists around them, in trying to figure out what is happening from a growth and inflation perspective in these respective countries, after the second vote, they voted for 25 basis points, cut. But Governor Bailey has been quite hawkish in indicating that they can’t be premature in cutting interest rates.

And it is still a lot of uncertainty around the inflation outlook locally in South Africa. We also receive the 25 basis points cut the market expected to 25 basis points cut. That was less of a surprise but was a surprise. However, was the announcement by the governor that the Salt will, in the future conduct monetary policy in a way that targets the lower end of the inflation band, the inflation band sitting between 3 and 6%, and so they will target 3%.

Now this is not an official announcement of the change in the inflation target. That has to come from the finance minister, which hasn’t indicated yet when he will do so and what the new inflation target will be. They are still looking at achieving political consensus at this stage, implicitly. The Sarb is targeting 3% as an inflation target, which does bring in some complications in that bond, your policy in fiscal policy is not aligned in terms of the inflation outlook, fiscal policy. Think about setting wages, for instance, and making adjustments for wage growth is now still looking at a 4.5% fall. Monetary policy is looking at 3%. This is unsustainable for a prolonged period. And so we expect the finance minister to come in in the next few months to also, adjust the inflation target officially to the lower end.

We think with inflation still low but slightly rising, there’s still scope for the Sarb to cut interest rates maybe once more in this cycle before it starts with a pause to see if inflation expectations and inflation indeed comes down as they would want. Finally, the in China there’s the central Bank of China. The PBoC is also still set to lower funding costs.

The recent Politburo meeting in July indicated that authorities still look to reduce funding costs. Now the economy is soft, but it’s not terribly weak, and therefore authorities does have some time to use targeted policies to improve growth, and to support the local consumer. In summary, central banks could therefore be categorized in one of two camps the first camp and predominantly the fed, maybe also the UK to some extent, but the fed where inflation is still fairly sticky at around 3%. Fighting the central bank independence. But ultimately growth is slowing down from a higher level, and the fed and the UK will have to cut interest rates. The second camp is more that of the ECB. Some emerging market central banks, including the PBoC in China and this African Reserve Bank, where inflation is low. We have seen some rate cuts already taking place, but there’s potentially more scope for easing to support growth from a low level.

And we believe and we want to favour more cyclical exposure in those countries, we central banks said in camp two, where inflation is low, we could potentially see a little bit more from an easing perspective to support growth. All of these dynamics also mean that the US dollar is weakening, as real rates in the US is coming down as a result.

But also, we said with increased policy uncertainty in the US relative to other markets, this has been favourable for emerging market currencies, including the South African rand, which is one of the best performing currencies. Over the last month and over the last year, along with many emerging market currencies, has appreciated by between 5 and 15%, which is also driven down inflation dynamics.

This improvement in rand is largely being driven by an improvement in terms of trade, the prices of goods that we export, predominantly commodities. 50% of our exports as commodities, they are rising in price, while the prices of the goods that we import, in particular energy, 20% of our imports is energy. They are falling in price or the prices remains fairly low.

And that positive terms of trade, leads to an improvement in the rand. This improvement in the rand also has got implications for South African assets. In particular, African equities have been a defensive play relative to global markets over the last one year, two year and five years, South African equities have outperformed US and global equities in rent terms.

That’s all for this week. Thank you for watching.