In the beginning of the year Frost & Sullivan predicted that the consumer price index would breach the target band and that inflation would become increasingly more important in the Reserve Bank’s decisions on interest rates. The major reason behind this was the lagging second-round effects of a depreciating rand, higher fuel prices and imported costs.  Additional pressure on the rand was also expected due to increased instability in the labour sector and issues due to corruption. We blamed perceptions as the major contributor to this as we warned about credit downgrades following these occurrences. Earlier in June this year Standard & Poor downgraded South Africa to just above“junk status” and Fitch revised their outlook of South Africa’s economy from stable to negative. These factors combined, with negative first quarter growth, have painted a gloomy picture for the growth outlook for the secondhalf of 2014.

The major factors to consider for the growth outlook in the second half of the year are again local labour concerns, supply-side inflationary pressure and concerns over slow European growth.

The end of the platinum strike seemed to signal a turn in the labour crisis, but then only a week later there was another announcement of a strike in the engineering and metal worker’s industry. Of course this was to be expected as it is strike season again. The new strike will affect sectors such as telecoms, electrical engineering, steel and plastics. In the first quarter, the mining and quarrying industrydeclined by 24.7 percent and was the largest contributor to the 0.6 percentcontraction in GDP during the quarter. It is not expected that the new strike will lead to such a decline in the manufacturing sector, but the industries affected have strong backward and forward linkages in the economy and will, therefore, have far-reaching effects on many sectors. The resulting impact will be felt on GDP growth and raised producer price inflation. Frost & Sullivan expects the short term forecast for PPI  should see a slight decline due to the weaker economic activity in the first half of the year, but as the effects of a possible prolonged strike impact the value of the rand, the PPI will be placed under pressure again. The administered price increases and the hike in the fuel price expected in July will add additional pressure on the inflation outlook.

According to the Reserve Bank, we are in a rate-hiking cycle and we could possibly expect a rate hike or hikes in the second half of 2014. The most likely scenario would be two 25 basis point hikes in the next 6 months. The dilemma, however, is that monetary policy is largely ineffective to combat supply-driven inflation, but we have to consider the weakening of the rand. Weak economic growth will placepressure on the monetary policy committee to keep rates low, but the looming inflation outlook and possible pressure on the rand may force them to raiseinterest rates slowly. The economy is in a fragile state and stronger interest hikes than 25 basis points at a time may prove detrimental to economic growth.

Growth prospects in Europe will be closely monitored in the coming weeks as data is released. The market is eagerly anticipating these results to determine whether the European Central Bank (ECB) has managed to provide sufficient stimulus to support growth. Business and household economic sentiment has also remained low in the European Union. At the previous meeting, in June, the ECB released an unprecedented range of measures targeted at stimulating economic growth. ECB chief Mario Draghi also announced plans to provide more liquidity to the financial system later this year via the Targeted Long-Term Refinancing Operation. This will differ from the liquidity measures taken at the end of 2011 as at that time banks were not lending to small and medium-sized companies. This time around the ECB is targeting the loans for households, smaller companies and non-financial corporations. In June the ECB also cut its benchmark refinancing rate to 0.15 percent and cut the deposit rate to negative 0.10 percent. This now results in banks being charged to leave their money at the ECB. It is anticipated that these banks will now rather lend these funds to businesses and consumers instead. With the threat of deflation still looming, the ECB may even resort to quantitative easing later this year. This is an action they have thus far tried to avoid.

The growth prospects for South Africa will be under severe pressure in the second half of this year, with the major threats coming from labour instability, inflation and possible slower-than-expected growth in Europe, concludes Frost & Sullivan.