S.Africa reserve bank holds rates amid inflation fears

Despite a bleak economic outlook South Africa's Reserve Bank opted to leave interest rates on hold on Thursday, fearing any move to stimulate the economy now could fuel inflation.

The bank left its key interest rate at 5.0 percent, underscoring a growing quandary facing policymakers in Africa's largest economy who expect inflation to continue to rise and growth to continue to slow.

Unpacking a litany of problems facing the economy, bank governor Gill Marcus acknowledged the economic outlook had "deteriorated" but said current level of stimulus was "appropriate."

"The domestic growth outlook has deteriorated, while the upside risks to inflation have increased," Marcus said.

The bank cut its growth outlook for 2013 dramatically from 3.4 percent to 2.9 percent, while predicting that inflation would peak at 5.7 percent in early 2013.

That is lodged at the very upper end of the bank's three to six-percent target for consumer price increases.

Despite the bleak outlook, the central bank as expected kept interest rates unchanged.

"The bank finds itself stuck in a deepening stagflation bind," said Bruce Donald, an economist with Standard Bank.

"We expect that, when the bank believes that it has the room to ease, it will cut" its benchmark lending rate, said Donald.

Many predict that the reserve bank could make a move to cut rates early in 2013, but it is far from clear when the economic situation will offer room to do so.

Consumer prices have been pushed higher by a weaker rand and higher food prices, which in October increased at a faster rate than at any time since 1994.

Marcus also said that a slew of generous pay settlements designed to end recent deadly strikes could push inflation up further and cause a "wage price spiral."

But, she said, "the impact will be moderated to some extent by the inevitable job losses that are likely to accompany such increases in the context of a slowing economy."

Marcus said the rand's rate against the dollar and other major currencies was also a worry.

Since the bank's rate-setting panel met in September the rand has depreciated by 6.7 percent against the dollar and by 5.8 percent against the euro.

"Risks to the inflation outlook have been increased by a further depreciation of the rand exchange rate," she said.

"The rand is expected to remain volatile and subject to overshooting."

South Africa is highly dependent on imports. A weaker currency increases the cost of many goods bought into South Africa, with the country effectively importing inflation.

Labour market malaise, weaker exports and a weaker currency were also likely to be felt in the government's efforts to put its books in order.

"Although the goal of fiscal consolidation is being maintained, the timing has been pushed out further," Marcus said, an acknowledgment that the target had been moved back slightly.

In addition to its domestic headwinds, South Africa's economy continues to be buffeted by the growth and debt crises in Europe.

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