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A worldwide race to reach the terminal rate … and full-blown economic recessions?


Economic growth will be the victim of aggressive interest rate increases across the globe as central banks upped their efforts to contain high consumer price inflation (CPI). An approach of gradualism made way for front-loaded hikes, which may see many countries reaching terminal rates by end 2022.

The US entered a technical recession in Q2 2022 (a technical recession occurs when production contracts for two consecutive quarters), but this will not deter the Federal Reserve from being aggressive. Economic growth contracted by 0.9% in Q2 2022 (from Q1 2022), following a contraction of 1.6% in Q1 2022 (from Q4 2021). Less investment and government spending were the main causes of the contraction in Q2 2022. However, household consumption expenditure grew at a brisk pace, which makes it easier for the Fed to follow its previous two rate hikes of 75 basis points each with another large increase (75 or 50 basis points) in September. The US may reach a terminal rate of 3.25% - 3.5% by end 2022 – if CPI slows in line with the Fed’s expectations (from the current 9.1% and a target of 2%).

The European Central Bank (ECB) surprised markets when it started its interest rate hiking cycle with a 50-basis point increase (expectation was 25 basis points following the ECB’s earlier guidance of 75 basis points over two meetings). CPI in the Euro area increased to 8.6% in June, way above the target of 2%. The ECB is expected to stray from its guidance of 75 basis points over two meetings and is likely to follow with another hike of 50 basis points, given high CPI and further pricing pressure from energy (gas and oil). Russia’s decision to decrease gas flows to especially Germany caused further upward pressure on gas prices, which now needs a significant decline in demand to reduce the price. However, this will affect production and economic growth going forward – especially after the EU decided on a voluntary reduction of 15% in gas usage to secure more supply in the winter months.

In the UK the Bank of England (BOE) expects CPI to approach 11% from the current level of 9.4% (and target of 2%). The BOE increased interest rates by 25-basis points in June to 1.25%. The expectation is for an increase of 25 basis points at its next meeting. Although economic growth will be a victim of rate hikes to above 2%, a prominent BOE member said the risks of hiking too little too late outweigh the risks of doing too much too early – referring to the danger of high CPI becoming embedded in the economy.

These acts of central banks, coupled with other shocks which hit the world economy such as COVID- 19 outbreaks and lockdowns in especially China and negative spillovers from the war in Ukraine, contributed to the International Monetary Fund downgrading its world economic growth outlook. The forecast is for growth to slow from 6.1% last year to 3.2% in 2022 – 0.4 percentage point lower than the forecast of April 2022 (3.6%). And then there is China’s more aggressive attitude towards Taiwan, which started speculation of a military “take-over” of Taiwan and war with the US, should the latter interfere, which may increase uncertainty, CPI and growth going forward.

In South Africa, the SARB increased the repo rate by 75-basis points in July to 5.5% (following 50-basis points in May) and the odds are for another 75 basis-points in September and 50 basis points in November to reach a terminal rate of 6.75%, aimed at reducing second round CPI and inflation expectations (CPI increased to 7.4% in June vs a target point of 4.5%). The other big announcement came from Pres. Ramaphosa, who revealed measures to introduce large power generation into the system. Together with current projects, this may add 10 000MW to the system and increase investment, while the national treasury will take over some of ESKOM’s debt – all positive for future growth and should boost the country’s credit rating.


Multivest Economic Division

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