PRETORIA (Reuters) - South Africa's Reserve Bank shocked markets with a half-point cut in its repo rate on Thursday, a move likely to appease President Jacob Zuma's labour union allies as the economy claws its way back from recession.
The reduction leaves the rate at its lowest level in three decades and adds to 500 basis points of cuts between December 2008 and August 2009, which were aimed at boosting growth after weak demand hit the key manufacturing and mining sectors last year, slashing nearly 900,000 jobs.
"Despite clear signs that the economy has emerged from the recession, the pace of recovery is expected to remain slow," Reserve Bank Governor Gill Marcus told a news conference, announcing a 50 basis point drop in the repo rate to 6.5 percent.
"The improved inflation environment has provided some space for an additional monetary stimulus to reinforce the sustainability of the upswing without jeopardising the achievement of the inflation target."
The rand weakened after the rate cut, and was last at 7.46 from 7.3879 before the announcement. Government bonds rallied, pushing yields lower.
Thursday's rate decision is the first since Finance Minister Pravin Gordhan wrote to Marcus last month, stressing that while the bank's core role was to keep inflation within a 3 to 6 percent target, its mandate allowed more leeway for deviations to account for job losses and economic growth.
Unions that have demanded lower rates applauded the cut.
"This decision reflects a positive interest in the growth of the South African economy as it emerges from the global recession," said trade union federation FEDUSA.
South Africa's Treasury expects economic growth of 2.3 percent in 2010, reversing a 1.8 percent contraction last year but well below levels of around 5 percent before the economic downturn. The Reserve Bank sees a 2.6 percent expansion this year.
Only three out of 22 economists polled by Reuters last week predicted the rate cut, citing moderating inflation and a stronger rand currency, which the bank has admitted is of concern and has attributed to carry trades which support high-yielding currencies.
"We did say it's going to be a close call ... to me this really boils down to two factors, the one being the exchange rate which I think had a big impact on the decision and the second is inflation expectations that also improved," said KADD Capital economist Elize Kruger.
"So on the day I think these factors pushed through the decision for a cut."
In a statement, the central bank said that while a firmer rand was positive for the inflation outlook, "an excessively strong exchange rate is a cause for concern from the perspective of overall macroeconomic balance".
"It is difficult to determine with precision an appropriate level of the exchange rate, but at recent levels the exchange rate may contribute to constraints in the recovery of export and import-competing sectors of the economy," it said.
The rand gained nearly 30 percent against the dollar last year.
The Reserve Bank's call came a day after data showed inflation fell back into target in the year to February to a more than three-year low of 5.7 percent, a month ahead of the Reserve Bank's prediction, further supporting a rate cut.
The central bank said its forecasts indicated an improved inflation outlook this year, with CPI expected to average 5.3 percent in 2010 and 5.4 percent in 2011.
"Inflation expectations are reasonably well anchored due to inflation outcome, the credibility of policy and the purposefulness that we have in achieving our goals," Marcus said.