Capricorn Asset Management - Economic Update Sep 2024

“The time has come”. These, by now, well known words of Jerome Powell of the Fed (Federal Reserve), are reminiscent of the famous turn of phrase that “…we will do whatever it takes…”, which Mario Draghi uttered in defence of the euro at the height of the eurozone debt crisis in 2012. However, this time round, Powell meant that it is time to loosen monetary policy. The Fed promptly did so on the 18th of September and by a significant margin of 50bp at that.

It served as validation of the actions by several other Central Banks that had already started to lower interest rates prior to the Fed, such as the BOE (Bank of England) currently at 5.0%, and the ECB (European Central Bank) currently at 3.65%, as well as the BoN (Bank of Namibia) who lowered its repo rate by 25bp to 7.5% on the 14th of August in anticipation of the Fed and the SARB (South African Reserve Bank), that both acted in September. The Fed cutting by 50bp to 5.0% and the SARB by 25bp to 8.0%.

We observe a globally synchronised and concerted effort to lower borrowing costs for businesses and consumers in order to avert an economic “hard landing” that grew increasingly likely, had interest rates remained at multidecade highs, brought about by the inflation shocks of the early 2020’s.

For example, the global oil price rose from U$9 per barrel in 2020 to U$133 in 2022, driven by the pandemic and Ukraine invasion. Over the same period global maize prices rose from U$3 per pound to U$8, an increase of 170%. Other grain prices were similarly affected. These shocks reverberated throughout economies and were worsened further by widespread supply chain disruptions on the supply side and fiscal stimulus on the demand side.

The worst of these shocks are now working themselves out of the system so to speak. The turnaround was equally dramatic. Oil prices are down 44% from its eye watering peaks, trading currently at U$ 71, while maize is down 50%. In most economies, inflation has cooled to such an extent that the loosening of policy is now eminently suitable, especially when other macroeconomic trends are considered, such as rising unemployment rates and slowing growth. It is crucial that economic growth is not allowed to take too much of a dip, because the economic ship turns slowly.

Furthermore, the fiscal trajectory is intricately intertwined with the macro cycle. Healthy economic growth supports strong tax revenue for Governments, lowering deficits and helping to fund critical expenditures. It contributes significantly to the credit worthiness of the sovereign borrower. This in itself lowers the interest rate structure in the economy, thereby lowering the cost of capital economy wide. This happens when fiscal policy is complimentary to monetary policy, the one reinforcing the other.

Specifically focusing on Namibia, one could conclude that the following forces play a role in the appropriateness of monetary policy:

• The currency link (the “peg”) continues to be the overarching policy determinant. The MPC (monetary policy committee) of the BoN has to ensure that policy actions do not endanger the peg. Thus far they are comfortable that the interest rate differential is of such a nature that it does not.
• The global and regional policy determined interest rate cycles are firmly entering a down trend.
• The growth in demand for credit by domestic consumers and businesses, commonly referred to as PSCE (private sector credit extension) remains exceptionally weak. The latest number amounted to 1.8% yoy. This justifies lower rates in order to stimulate aggregate demand for credit.
• Inflation is close to the 4.5% mid-point target – officially in SA and unofficially in Namibia.
• The Namibian money market is highly liquid, meaning that money supply (deposits) is growing faster than PSCE.
• The Namibian fiscal trajectory is improving noticeably. Revenue performance is strong, and projections of the debt-to-GDP ratio has turned lower to 60.1% for 2024/25. These forces are likely to be in play for an extended period, in our view:

1. ?the peg will be maintained for the foreseeable future,
2. the global easing cycle is only starting now,
3. a recovery in PSCE requires a sustained period of lower interest rates,
4. inflation is likely to surprise to the downside into year end, assisted by a strong currency and a weak oil price,
5. the liquid sate of the money market is likely to be maintained for several more months, and
6. the fiscal position is moving in the right direction, lessening upward pressure on bond yields.

We foresee around 100bp of further interest rate cuts from the Fed, the SARB and the BoN by mid-2025, thus seeing 4.00%, 7.00% and 6.50%, respectively, which implies prime rates of 7.00%, 10.50% and 10.25%. Therefore, for example, the monthly payments on a N$2m mortgage over 20 years should decline by about 8% or N$1,660 pm from N$21,126 pm to N$19,467 pm should one borrow at prime. By the end of August, the returns of the major asset classes year-to-date, in Namibia dollar terms, were as follows: