First published in the Daily Maverick 168 weekly newspaper.

Good economic prospects in the US saw the Federal Reserve keep rates on hold this week, which is good news for emerging markets and currencies. But eyes are on rising inflation, which could see monetary policy adjusted sooner than the Fed is predicting.

Global markets collectively exhaled this week after the chairman of the US Federal Reserve kept interest rates at close to zero and promised to continue supporting consumers and businesses.

This sparked renewed investor risk-taking, buoying both emerging market equities and currencies.

The rand rose against all of its major developed and emerging market rivals except the Brazilian real while the US dollar, American bond yields and safe-haven currencies like the Japanese yen declined broadly.

Driving this risk-on behaviour are positive GDP projections in the US as the economy gains speed thanks to vaccinations and nearly $3-trillion in fiscal stimulus so far this year – this week stimulus cheques of $1,400 were mailed to millions of US adults.

US unemployment is steadily decreasing and is expected to reach a low of 3.5% by 2023.  

Although it was expected that rates would be kept on hold, of importance was the Fed’s macroeconomic projections, which were last updated in December 2020. With rising employment and growth comes rising inflation fears and so markets this week were alert to any signals from the Fed that the days of easy money could soon be over.

But caution was the watchword. Policymakers on the Federal Open Market Committee kept the key borrowing rate in the range of 0% to 0.25%, its lowest level in history and where it has been since the Covid-19 outbreak first roiled financial markets.

US inflation may bounce this year to 2.4%, but this is not ringing any alarm bells. “The fundamental change in our framework is that we are not going to act pre-emptively based on forecasts for the most part, and we are going to wait to see actual data. I think it will take people time to adjust to that and to adjust to that new practice,” said Jerome Powell, chair of the Federal Reserve. “We have said we’d like to see inflation run moderately above 2% for some time. And we’ve resisted, basically, generally, the temptation to try to quantify that,” he added. Low-interest rates cannot persist indefinitely, however, and the committee has raised its interest rate forecasts significantly for 2023, says Investec economist Annabel Bishop. “Seven members expect the Fed funds target rate to be higher by then, versus five at the December meeting. Four members expect hikes next year compared to just one in December.”

Markets, however, chose to ignore this, she says, instead taking comfort from the rise in the growth forecast matching more closely to the steepening of the yield curve this year, which the Fed had been rationalising as a consequence of the improving economic outlook.

In the Q&A that followed the decision, Powell said that the Fed still saw current financial conditions as accommodative. In other words, they are not overly concerned about the current higher level of Treasury yields. “However, Powell mentioned that the Fed would be concerned by a ‘disorderly tightening’ of conditions, hinting that a further rise in yields would lead to some discomfort,” Stellenbosch’s Bureau for Economic Research (BER) added in a note.

This all helped the rand overlook lower-than-expected mining and manufacturing production data for January, in which mining output fell by -6.2% for the year to month-end, according to Stats SA, whereas the consensus looked for only a -1.9% decline. Manufacturing fell -3.4% whereas the consensus eyed a -1% fall.

“We’re hopeful that the global equities exuberance will filter through to the JSE Top 20, which registered its fourth consecutive decline, impacted by the negative feedthrough into Naspers from the offshore scrutiny of tech companies,” said Nema Ramkhelawan-Bhana, co-head of Institutional Sales and Research at Rand Merchant Bank.

Developing markets are holding the line on rates, but emerging markets are increasingly coming under pressure to respond to rising inflation, as is the case with Brazil and Turkey. Arguably, South Africa isn’t in that position. “Our inflation is far more benign, but we cannot ignore the systemic EM risk which is causing investors to become more discerning in their risk trades,” she adds.

Although global conditions are supportive of SA equities and commodity prices, local consumers remain cautious.

The FNB/BER Consumer Confidence Index (CCI) increased by another three index points to a level of -9 in 2021 Q1. Albeit still in negative territory, it is encouraging to see the CCI recoup some of the momentum lost due to the coronavirus pandemic. Yet “much of the recovery has been driven by consumption from low- and middle-income households,” said the BER.

“High-income consumers (with more spending power) are still very concerned about the outlook for the South African economy and are also considerably less optimistic about their financial prospects over the next 12 months.” DM168

This story first appeared in our weekly Daily Maverick 168 newspaper which is available for free to Pick n Pay Smart Shoppers at these Pick n Pay stores.