Moving inflation target will destroy confidence Reserve Bank has built
The Reserve Bank must continue to use the target band to its limits, allowing inflation to drift towards 6% and sustaining it there for a period of time
In 2017/2018, the ANC and EFF called for the nationalisation of the SA Reserve Bank. Pundits are asking, is this a good call? Should a change of mandate be considered, i.e. from inflation targeting to employment targeting?
It is important that, in all countries, the central bank is viewed as reliable, consistent and disciplined in the execution of its mandate. This helps to anchor inflation expectations, which in turn keeps inflation down. As such, any perceived lack of independence is massively problematic.
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Moreover, the governor of the Reserve Bank, its key board members and all of its executives are appointed by the president, in consultation with the finance minister and a government-appointed panel.
No monetary policy decisions are made by private shareholders, so nationalisation would have little real effect in terms of influence over monetary policy.
To put it plainly, it’s not nationalisation itself that frightens the markets; rather, it is that the nationalisation of the Reserve Bank is seen as a possible stepping-stone to changing its mandate down the line.
Our country has an inflation target band (3%-6%), instead of a point target like countries such as the UK and US. This allows the Reserve Bank to consider other economic factors when attempting to meet its mandate and to ensure that inflation expectations remain anchored, alongside some monetary flexibility to address the historical issues that plague SA’s economy.
To my mind, inflation expectations can be a bit of a self-fulfilling prophecy. They are actually one of the main drivers of current inflation, because expected inflation influences current wage negotiations, price setting, and financial contracting for investment. That’s why the “flexible monetary policy regime’’ suggested by the ANC would not be a good strategy for SA.
So why has the Reserve Bank debate come to the fore in recent months? The element that excites South Africans is that an expansionary monetary policy could allow for economic growth, which will result in lower levels of unemployment.
In terms of shifting from inflation targeting to employment targeting, again, this would be a “no” from me — largely because monetary policy and inflation remain extremely complex issues, with many moving parts.
There is a principle — the Phillips Curve — that demonstrates the correlation between inflation and unemployment: higher rates of inflation (beyond the target band) occur when unemployment decreases.
Moving the target would destroy the confidence that the Reserve Bank has built up and allow expectations to be less anchored than is optimal. Once trust is broken it is hard to regain, with people anticipating increase after increase. In economics, this is known as the “slippery slope argument”.
The Reserve Bank’s target band already allows for a degree of flexibility when making monetary policy decisions. If the Reserve Bank’s mandate changed, it would be easy to overemphasise economic growth at the cost of severe and rapid inflation.
SA experienced rapid rates of inflation before 2000 when the official inflation-targeting regime was introduced (and the problems of hyperinflation have been well-documented, with Zimbabwe and Venezuela as prime examples.)
I believe that SA’s issues are more structural and that there are other tools for addressing unemployment, before we need to consider MP.
My belief is that there is enough room on the fiscal side to stimulate growth and enact real change in SA, provided that rampant and institutionalised corruption and state capture are brought to a halt once and for all.
Additionally, to do its part in confronting the significant challenges facing the SA economy, the Reserve Bank must continue to use the target band to its limits, allowing inflation to drift towards the upper limit (6%) and sustaining it there for a period of time. With the majority of the developed world targeting 2% inflation, SA aiming for 6% is already a decent consideration in our context.
• Morris is CEO of Sebata Holdings