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Kganyago warns of ‘exaggerated’ rand reaction to likely Fed hike

South African Reserve Bank governor Lesetja Kganyago
South African Reserve Bank governor Lesetja Kganyago

27th November 2015

By: Terence Creamer
Creamer Media Editor

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South African Reserve Bank governor Lesetja Kganyago believes the reaction of the rand to a possible hike in interest rates by the US Federal Reserve (Fed) in mid-December could be “exaggerated”, but says the bank has no plans to intervene in support of the currency.

Speaking to editors on Friday, Kganyago said he anticipated that the Fed would begin raising interest rates following the Federal Open Market Committee (FOMC) meeting, which is scheduled on December 15 and 16, even though he was of the contrarian opinion among emerging market central bankers that the “Fed should keep things the way they are”.

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“When [the hike] takes place, we expect that there should be some return of flows to the US out of emerging markets – there is always a debate about how much of that move has been priced in, but I think that, while a significant part of it is priced in, it is not fully priced in.”

The “joker in the pack” for South Africa related to the timing of the hike, which would be at the start of summer holidays “when South Africans will be either in the villages, or on the beach or in a game park somewhere”. Trade in the currency is likely to be “thin”, which could translate into an “exaggerated” weakening.

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Nevertheless, the bank had no intention of intervening in support of the rand after the Fed’s announcement. “Let’s suppose we were all here, what would we really do about it. If the rand falls and never comes back, then I think we should worry, but if it goes and it comes back, why should we worry.”

The bank had indicated previously that it might intervene to smooth out short-term fluctuations, but that its focus was to ensure that inflation was contained during periods of rand weakness to sustain country competitiveness.

The governor also warned of ongoing uncertainty even in the wake of the first Fed hike, quipping, “there will always be a FOMC meeting coming”. However, once the Fed started raising rates, he was of the view that future hiking would be in line with its communication of a gradual upward movement in the rates.

The bank dismissed the suggestion that its November 19 decision to raise the repo rate by 25 basis points to 6.25% was designed primarily to pre-empt the Fed’s decision, noting that domestic interest rates decisions had, historically, not always moved in sync with the Fed.

“Any reaction that we would have to the Fed is to the extent that we think that it may impact on the exchange rate and the impact that would have on South Africa’s overall inflation outlook,” Monetary Policy Committee member Brian Kahn explained.

Consumer price inflation rose to 4.7% in October, from 4.6% in September, while producer price inflation rose to 4.2% in October from 3.6% in September, with food prices underpinning the increase.

“If our inflation trajectory was comfortably inside the target range [of 3% to 6%] and the Fed was increasing and it was likely to have negative implications for the rand and it pushed us from 4.5% to 5% inflation, we wouldn’t react. But because we are sitting so precariously at the top of our inflation target range over the forecast period, we think the risks are there.”

Kahn said the bank expected “more action” on the rand, but was uncertain as to whether it would result in sustained weakness, or whether it will just create short-term volatility.

“It may well turn out that the Fed hikes and it’s all priced in and the rand comes back. But our assessment at this point is that the risks are to the upside.”

The rand had declined by nearly 30% against the US dollar over the past year.

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