The South African Reserve Bank is expected to hike its key rate to 7% as the high CPI inflation outlook continues to pressurize the central bank to go ahead with its rate hike cycle. According to the MPC, the South African rand's depreciation poses a considerable risk on the upside to inflation through higher import prices. Even if the rand has appreciated since the January meeting, the current continues to be weaker than the 2015 levels. Rand is likely to weaken further in 2016.

Moreover, the pass through of the weaker currency to consumer prices is expected to have been slightly muted as businesses are not in hurry to increase prices amidst a weak economy backdrop and job losses in agricultural and mining sectors. Nevertheless, businesses will not be able to extend price prises indefinitely and hence the weaker currency will feed into higher consumer prices in 2016. Furthermore, some measures highlighted in the 2016 Budget are likely to contribute to an extended breach of the upper limit of the central bank's CPI inflation target of 3-6%. CPI inflation is expected to average 7% y/y in 2016.

Meanwhile, the South African economic growth has also declined considerably, further lowering the government's ability to finance its debts. S&P and Fitch are expected to downgrade BBB- LTFC rating to junk status by the end of 2016. Hence the central bank is expected to be very concerned regarding the increasing risk of LTFC ratings downgrades to junk status as this might lead to considerable capital outflows.

The central bank seems to be trapped between averting excessive CPI inflation and supporting a structurally weak economy. However, the mandate to maintain inflation within the target range definitely calls for a rate rise even if it negatively affects growth and unemployment. Overall, the central bank is likely to go ahead with its rate hike cycle in 2016.

"We therefore expect 25bp rate hikes in both the March and May meetings, followed by a further 50bps of hikes spread over H2 2016, ending 2016 with a 7.75% policy rate", says 4cast.