Reserve Bank to adjust interest rate models

Lesetja Kganyago

South Africa’s central bank will probably introduce a raft of changes to modelling that informs monetary policy decisions, including a measure to better anchor inflation expectations.

The first major improvement to the so-called Quarterly Projection Model in six years should enhance its forecasting ability “while reducing the application of judgment and thus potential sources of bias in forecasting,” the South African Reserve Bank said Tuesday in its six-monthly Monetary Policy Review.

The new model will be used as soon as it has been approved, most likely from the bank’s July rate-setting meeting, it said in a response to emailed questions.

The central bank prefers to anchor price-growth expectations close to the 4.5% midpoint of its target range. It sees inflation averaging 6% this year, 0.3 percentage points lower than estimates in a survey of analysts, labour groups and households.

The Reserve Bank has delivered 425 basis points of tightening since November 2021, with March’s bigger-than-expected 50 basis-point move surprising financial markets, in response to the worst global inflation shock in a generation.

Forward-rate agreements used to speculate on borrowing costs show traders are pricing in the possibility of another rate hike at its next meeting on May 25.

Rate decisions by the MPC have veered from the path implied by the model over the past year, “reflecting the extraordinary uncertainty prevailing during this period,” the central bank said.

Under normal economic conditions, it adequately captured inflation risks, resulting in a close alignment of the implied rates path and MPC decisions, it said.

Changes to the model will include:

  • A mechanism to account for fiscal policy actions in a systematic manner
  • Distinguishing between private and public wages
  • Augmenting the Phillips curves for the various consumer price index components to include nominal unit labour cost growth, along with the current real unit labour-cost gap
  • Accounting for changes in fuel and electricity costs that often spill over into core and food price inflation
  • Reflecting the state of the real economy by using the output gap along with a growth gap.


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