Reserve Bank Governor Tito Mboweni has reiterated that South Africa's inflation outlook is bleak, a signal that the repo rate could be hiked again, when the Monetary Policy Committee (MPC) meets again next month.
"We have taken steps in the past [to deal with demand side inflationary shocks], and the possibility of us taking further steps cannot be ruled out," said Mr Mboweni, Thursday.
Speaking at a conference themed "Challenges to economic growth in South Africa" hosted by the Stellenbosch-based Bureau for Economic Research (BER), the governor said things are likely to get worse before they get better.
Consumer Price Index, excluding interest on mortgage bonds (CPIX), for March 2008 came in at 10.1 percent year-on-year (y/y), breaching the Reserve Bank's inflation targeting band of 3 - 6 percent for the 12th consecutive time.
March's CPIX figure was up 0.7 of a percentage point on February's figure of 9.4 percent (y/y).
Many economists believe that the Reserve Bank's inflation targeting methods are not working as interest rates have been raised a cumulative 450 basis points or 4.5 percent, yet inflation is still on the increase.
Speaking to BuaNews recently, economist George Glynos from Econometrix Treasury Management (ETM) said: "We could be looking at inflation peaking at about 11.4 percent by September 2008, and only trend down gradually to within the 3 - 6 percent inflation target band by about 2010."
March's CPIX figure, he believes, has "sealed the case for the Reserve Bank's MPC to raise interest rates in June," adding, it has also upped the chance of another interest rate hike in August 2008.
Mr Mboweni said it looked like the Bank's monetary policy was under greater scrutiny than it might have been before, and that monetary policy was facing a severe challenge that the country hasn't seen since the adoption of inflation targeting in 2000.
"Of great concern to us is the inflation expectation for South Africa.
"We have now observed the biggest jump in inflation expectation since 2000, and this together with rising fuel and food prices does not bode well for the inflation outlook.
"Many have called the Reserve Bank's monetary policy excessive, too strict and insensitive to the plight of the poor, and that monetary policy, it would seem, has been rendered ineffective in the face of demand side shocks.
"Any bank worth its salt will aim for low and sustainable inflation targets coupled with price stability," he said.
The United States Federal Reserve and the European Central Bank (ECB) will not tolerate inflation above 2 percent, said the governor, and with inflation consistently above the 3 percent mark, it is unlikely the ECB will cut interest rates.
"I have a strong suspicion that interest rates are unlikely to come down anymore [in the US and Europe]," he said.
Many argue, he said, that the Bank's inflation targeting is like a straight-jacket, however, the governor objected strongly to this idea.
"We fall squarely within the group of central banks that deal with inflation targeting in a flexible manner, "said Mr Mboweni.
Any central bank is unlikely to act or raise interest rates when food or energy prices rise at first, in what is referred to as first round shocks.
However, he said, what the Reserve Bank is witnessing is stubborn, persistent and exogenous inflationary pressure with inflation continually on the upside.
"The role of the central bank is to react when those price shocks become more generalised [as they have become]," he said.
There are calls for the inflation target band to be shifted to what some would call more realistic levels considering the continual rise of inflation, but shifting the target band, he said, would not help South Africa.
"Some say we must change the target band to between 10 and 15 percent, but once you shift the target band you open the door for inflation to spiral out of control.
"And, what stops us from then just shifting the target band to 20 percent if inflation rises and so," he said.
The key objective of the Reserve Bank at present was to get inflation to return to within the target band as soon as possible.
Rising interest rates might affect South Africa's output capacity or growth potential, "but we will have to deal with that.
"The economy has been growing quite robustly at 5 percent [despite fears that the increased interest rates would dampen South Africa's economic growth]," the governor concluded. - BuaNews