Address by Mr TT Mboweni, Governor of the South African Reserve Bank, at the Mercury/Safmarine Business Breakfast, International Convention Centre, Durban 1. Introduction Ladies and Gentlemen. Since September of 2003, monetary policy in South Africa has succeeded in maintaining CPIX inflation within the specified 3-6 per cent target range. This was achieved less than a year after inflation had peaked at over 11 per cent in November of 2002. This success was a result of the monetary policy reaction to the inflation surge in 2002 following the depreciation of the rand in late 2001, as well as other favourable developments, both domestically and internationally. This morning I will review some of the recent economic developments, both positive and negative, that have contributed to the favourable inflation outcomes of the recent past. However monetary policy should not dwell on the past. Monetary policy should be, and in fact has been, forward looking, and I will, therefore, highlight some of the risks and challenges to monetary policy in the future. 2. International economic developments After a number of false starts, the world economic recovery was well under way in the latter half of 2003, particularly in the United States and Asia. Real growth in the US had risen to 3,1 per cent in 2003, and the latest IMF World Economic Outlook forecast is for 4,6 per cent growth in 2004. The recovery has been accompanied by high levels of productivity growth, and more recently by increases in employment. The Japanese economy appears to have emerged from a protracted period of low or negative growth, and this has provided an additional stimulus to the Asian region. Recent suggestions of a possible slowdown in China have raised fears that the generalised recovery is under threat. This has had a negative impact on commodity prices in recent weeks. These fears are likely to be exaggerated, as China still has enormous growth potential. Although Chinese growth may decline from its unsustainably high levels, the country is likely to remain an important and dynamic engine of economic growth internationally. Of greater concern to South Africa is the low growth in the euro area, South Africa’s largest trading partner. Growth in the euro area was 0,4 per cent in 2003 and although there are encouraging signs that some of the countries in the region are beginning to recover, growth is only expected to reach 1,7 per cent in 2004. The United Kingdom, Latin America, Australasia and Africa have also been part of the global recovery to varying degrees. Behind the euphoria, there are a number of factors that have been identified as posing a risk to the sustainability of the turnaround. Firstly there are the imbalances in the US economy. The US trade and current account deficits may require an adjustment in US macroeconomic policies, if the required adjustment is not achieved through movements in the dollar exchange rate. Some adjustment is inevitable as economic growth in the US accelerates. The challenge for the US will be to reverse its policies in such a way that does not undermine the global recovery and also achieves the desired effects with respect to the imbalances. The lenient macroeconomic policies of the United States in particular were an important element in bringing about the global recovery, and the challenge is to prevent the inevitable reversal of these policies from undermining the recovery. The recent positive employment figures emanating from the US have fuelled expectations that the tightening of the US policy stance will begin sooner rather than later. This will follow the lead of central banks in the UK, Australia and New Zealand which have already increased interest rates. Secondly, a further risk to the global recovery is posed by the recent developments in the international oil market, where oil prices are moving inexorably towards the US$40 per barrel mark. This is a result of a combination of low inventory levels in the United States, the reduction in OPEC production quotas, tensions in the Middle East, and political problems