Daily Equity Report

Stats SA today released the February inflation figure, with the 12 month figure not only higher than January, but also some 0.4% above consensus. The Reserve Bank now targets headline inflation, as opposed to the previously targeted CPI-X (inflation less mortgage payments), and this was measured at 8.6% for the 12 months ended 28 February 2009.

We all now know that the repo rate (the rate at which the Reserve Bank lends to banks, and to which the prime lending rate is linked) was dropped by 100 bps (1%) yesterday, after Tito Mboweni earlier in the month announced that MPC meetings will be happening more frequently this year.

Assuming that Mr Mboweni was informed by Stats SA that inflation was going to increase (and be higher than consensus) it might confuse the general population that rates were cut in light of them having been told ad nausea over the last 30 months or so that rates were rising due to the increasing rate of inflation. Remember rising interest rates typically reduces the public’s ability to borrow, which in turn generally cools spending.

Below is a chart of how inflation and the repo rate move in tandem:

We are, as you are well aware, living in extraordinary times, and with the economy contracting in the 4th quarter of 2008, and looking likely to do the same in the first quarter of 2009, the governor needs to attempt to stimulate the economy, and this is down through dropping rates to encourage borrowing, and hence spending.

During the course of the increasing interest rate cycle there were economists who were saying that growth was being killed purely to get inflation back into the 3 – 6 % target range. During this period there was still buoyant growth in the economy, and the SARB steadfastly stuck to its inflation targeting mandate. The economists argued that economic policy takes a while to be felt in the economy, and that despite to economy continuing to grow the potential for a slow down was evident.

Now that we’ve had a quarter of a contracting economy, it makes it more palatable for the MPC to pursuer policies that will encourage growth, while not focussing exclusively on inflation.

Investors will naturally continue to monitor these and other economic indicators as they are released to gauge how the economy is doing, but they must be wary of totally relying on these indicators to time their entry into the market, and the market typically turns before the economy.

Take care,

Mike Browne
info@seedinvestments.co.za
www.seedinvestments.co.za
021 9144 966