Is the Reserve Bank mandate fit for purpose?
Why does SA stick to and defend a mandate that has not helped monetary policies over the past quarter of a century?
A brief review of some central bank histories shows that reserve bank mandates change with countries’ needs, as can be seen from the three cases below.
The Bank of England (BoE) was founded in 1685 primarily to fund the war effort against France but the BoE mandate has been changed over the ages to meet the government’s needs of the times (for instance funding the war effort during the First World War and to the dual mandate of price stability and full employment in these modern peace times).
The US Federal Reserve (Fed) mandate saw the 1930s amendment to the Federal Reserve Act of 1913 adding maximum employment during the Great Depression as the unemployment rate rose to 24%, giving birth to the current dual mandate of price stability and full employment. That dual mandate has largely been maintained in the 1977 amendments.
New Zealand is currently going through a process where the reserve bank mandate is being reviewed with the aim of expressly adding maximum employment to the current price stability mandate.
One must ask if it is rational for SA to stick to and defend the Bank mandate that has not helped monetary policies over the past quarter of a century to produce desired results.
Some have argued that amending the SA Reserve Bank mandate threatens the Bank’s independence. This, however, conflates an amendment of the Bank’s mandate (ie section 224.1 of the constitution) with independence of the Bank (ie section 224.2 of the constitution). An amendment of the Bank’s mandate can be made without affecting the independence of the Bank as these are different concepts in different sub-sections of the constitution.
Some have made a tenuous link between inflation-targeting policy and the Bank mandate. First, the Bank mandate was enshrined in the constitution (section 224.1 of the constitution or section 196(1) of the 1993 interim constitution) before inflation-targeting policy was formally introduced in February 2000. Second, inflation targeting as an economic theory was already in existence by the early 1990s and would gain prominent use by central banks around the world. So, if the drafters of the constitutions wanted the Bank mandate to be inflation targeting, they could have expressly drafted inflation targeting in the constitution, but they did not.
Yet others have interpreted the Bank mandate to mean inflation targeting, in ignorance of the common law principles of interpretation of statutes. They are: (i) reading words, “inflation targeting” into the statute (section 224.1 of the constitution) that cannot be found in the statute; (ii) arguing that section 224.1 of the constitution implies inflation-targeting policy, which cannot, by any stretch of imagination, be implied into section 224.1 of the constitution. None of these interpretations can be read on or even implied on: “The primary object of the SA Reserve Bank is to protect the value of the currency in the interest of balanced and sustainable economic growth in the republic.”
Those who make the interpretations in the preceding paragraph, also do so by reading the Bank mandate in isolation of the constitution as if the Bank is not an organ of state bound by principles of co-operative government and intergovernmental relations, section 41.1 of the constitution, the relevant subsections being: (i) section 41.1(b) secure the wellbeing of the people of the republic; and (ii) section 41.1(c) provide effective, transparent, accountable and coherent government for the republic as a whole.
Viewed against these constitutional obligations, a reading of the Bank mandate elicits questions on the effectiveness, transparency, accountability and coherence of economic governance: What is the numerical values, or range thereof of the rand to be protected? Who determines what this value of the currency to be protected is? How does that person determine the value of this currency to be protected? Whose wellbeing is served by whoever determines whatever value of the currency to protect? What is balanced and sustainable economic growth considering the changing economy? Who determines the parameters that define this? And has this been credibly and consistently done?
A review of how the Bank, with its current mandate, responded to the rand crises of 1998 and 2001, puts into perspective section 41.1(b)&(c) of the constitution and provides some empirical data on which to judge the Bank mandate.
In the 1990s the Bank, with Dr Chris Stals as governor, had a policy of intervening in currency markets to prop up the rand by borrowing dollars in the forward market and selling those in the spot market, creating a net open forward position (ie net international reserves minus forward liabilities). When the rand depreciated by 28% in nominal terms against the US dollar in just five months, from April to August 1998, the Bank increased its repo rate (short-term rates) from 13% in May 1998 to almost 22% in September 1998. Long-term bond rates increased from 13% to 18%, while sovereign US dollar-denominated bond spreads increased by about 4%. At the same time share prices fell by 40% and GDP contracted during the third quarter of 1998 (quarter-on-quarter) and unemployment grew from 22.9% in 1997 to 25.4% in 1998.
The currency intervention increased the net forward position by $10bn (about R50bn). The Bank ceased to use this intervention in October 1998 and eventually closed the net open forward position in February 2004.
In 2001, when again the rand depreciated by about 26% in nominal terms against the US dollar between end-September and end-December 2001, the Bank, with Tito Mboweni as governor, neither intervened in the currency markets nor changed interest rates, other than for inflation mitigation reasons. Short-term interest rates remained stable, long-term bond yields increased by less than 1% and sovereign US dollar-denominated bond spreads narrowed by about 0.4% and share prices rose by 28%, and real GDP increased.
While one could defend the Bank’s response in 1998 as protecting the value of the rand (whatever that value of the currency was and whoever set it), one can surely not defend that Bank response as effective, transparent and accountable nor done for the wellbeing of the people of the republic. Indeed, the SA authorities have acknowledged that the intervention policy in 1998 was inappropriate.
On the other hand, one would be hard-pressed to criticise the Bank’s non-intervention in 2001, since not only were no costs expended nor interest rate raised, unlike in 1998, the economy remained stable, share prices increased and GDP increased. However, without any target value of the rand to protect — the author is not advocating for any target exchange rate — it is anyone’s guess whether the value of the rand was protected or not under the current Bank mandate. The question arises, does the value of the rand need protection as section 224.1 of the constitution demands?
Therefore, it is difficult not to conclude that the above shows that the Bank mandate allows for ineffective, non-transparent, non-accountable and incoherent governance of the monetary policy of SA and certainly not for the wellbeing of the people of the republic. Is it fit for purpose? Should the Bank mandate not be amended? If so, to what?
A contrast of the responses of the Bank with its current mandate, to that of the Fed, the BoE and the European Central Bank (ECB), all with price stability and full/maximum employment in their mandates, to the same crisis — the 2008/2009 global economic crisis — points to an amendment of the Bank mandate that the SA government ought to consider.
The BoE base rate was reduced from 4.5% in October 2008, following Lehman Brothers’ collapse in September 2008 to 0.5% by March 2009, remaining so until August 2016, when it was further reduced to 0.25%. Furthermore, the forward guidance from the BoE was that the base rate would remain low until the unemployment rate fell to below 7%.
The ECB deposit facility rate (interest banks earn for depositing money with ECB) was reduced from 3.25% in October 2008 to 0.5% in March and 0.25% in April 2008. These were further reduced to 0.00% and the ECB marginal rate (interest rate banks pay for overnight borrowing from the ECB) reduced from 4.75% in October 2008 to 2.25% in April 2009 reducing and remaining below 1.00% from 2013 to date. The ECB’s main re-financing operation or MRO rate (interest rate banks are charged for borrowing from the ECB for a week) followed a similar trend, though it started from 3.75%.
The Fed fund rate (interest rate at which depository institutions (banks and credit unions) lend reserve balances to other depository institutions overnight, on an uncollateralised basis) reduced from just over 2.00% in October 2008 to 0.15% in March 2009 and has largely remained around that level to 2015.
In addition to these, the BoE, ECB and the Fed engaged in quantitative easing and broadened the instruments they could take as collateral and buying corporate bonds, thereby increasing money supply.
In contrast to the above, the Bank first increased short-term rates (repo rate) to about 13% in 2008 before lowering it to 6% (higher than the pre-crisis levels of the Fed, BoE and ECB) over a period of two years. None of the other non-conventional tools used by the Fed, BoE or ECB were reportedly used by the Bank and one wonders if the Bank has statutory power to apply such tools.
The US, UK and EU, with comparatively benign unemployment rates and inflation compared with SA, responded rapidly and decisively, reducing short-term interest rates to almost zero and increasing liquidity to encourage expenditure, investment and consumption. SA, on the other hand, with its 25% unemployment rate over 25 years and dull GDP growth, maintains short-term interest rates no less than 6%, stifling expenditure, investment and consumption. One must ask if it is rational for SA to stick to and defend the Bank mandate that has not helped monetary policies over the past quarter of a century to produce desired results.
If SA is serious about improving its economy for the wellbeing of its people as a whole, then at the very least it is worth amending the Bank mandate to dual objectives of: (i) full employment; and (ii) price stability. At least that would be giving the Bank a broader, more transparent and accountable mandate that has been used effectively by respected central banks — the ECB, the BoE and the Fed. I bet the ever-feared credit rating agencies would not look adversely into such reform.
•Yandisa Yongena has worked in banking in the City of London since 2006.