Former Reserve Bank governor Gill Marcus. Picture: SUPPLIED
Former Reserve Bank governor Gill Marcus. Picture: SUPPLIED

For the past five years, the economy has suffered increasingly from a demand deficiency, one of the key reasons for real GDP growth having stopped in its tracks.

Since 2015, millions of households and business owners would have been extremely frustrated at the inexplicable decision of the Reserve Bank's monetary policy committee (MPC) to start increasing the repo rate.

The adoption of a restrictive monetary policy stance immediately after the retirement of the previous governor, Gill Marcus, resulted in an increase in the financing cost of capital of more than 100%, an act of economic absurdity. The result has been predictable: negative real growth of private-sector credit extension, negative real growth of fixed capital formation and, ultimately, negative GDP growth and a substantial increase in unemployment.

In a nutshell, the negative effect of unduly high interest rates operates through two primary channels: first and foremost, households that rely on some form of credit to purchase goods and services, especially houses and flats that are mortgaged, incur higher debt servicing costs.

In the face of dwindling GDP growth and rising unemployment, it defies comprehension that the MPC has not been able to grasp the error of its ways.

This phenomenon has the same effect as that of raising tax rates, as individuals are left with lower levels of disposable income.

Second, businesses from SMEs to large corporates that are planning to expand their productive capacity (via fixed capital formation, such as a delivery vehicle or machinery), have to factor the higher cost of capital into their feasibility calculations, which automatically leads to a decline in the net return on investment.

In many instances, the latter approaches or reaches zero, which leads to the cancellation or postponement of any expansion and, ultimately, lower output in the economy. Lowering interest rates has the opposite (and economically benevolent) effect.

With due regard to the standard caveat that inflation should be under a measure of control (defined as within or not unduly beyond the target range), lower interest rates will automatically lead to a decline in the cost of credit and the cost of capital, thereby stimulating capital formation and household consumption spending, which together account for 78% of GDP.

Quantifying the cost of high interest rates in an attempt to quantify the fairly obvious damage inflicted on the economy by injudicious and largely irrational monetary policy, the authors have conducted an econometric modelling exercise that forecasts what SA’s GDP would have been if monetary policy had not changed.

The results are alarming: GDP would have been more than R560bn higher in 2019 than the figure of marginally more than R5-trillion published recently by Stats SA. At the current ratio between taxation revenues and GDP, this translates into an additional amount of R145bn that would have been available to the National Treasury in the preparation of the 2020/2021 budget. 

The latter would automatically have led to a larger measure of fiscal stability, and could have been used to assist Eskom, create new infrastructure, deliver much-needed basic services, and probably also keep ratings agency Moody’s Investors Services at bay.

Accommodating monetary policy, such as implemented during the tenure of  Marcus, would also have provided welcome assistance to President Cyril Ramaphosa’s policies of economic reform, after almost a decade of public administration characterised by nepotism, incompetence, corruption and fraud.

In the face of dwindling GDP growth and rising unemployment, it defies comprehension that the MPC has not been able to grasp the error of its ways and provide much-needed stimulus to consumers and businesses alike.

The current monetary policy stance of the Reserve Bank is akin to self-inflicted economic sanctions. It is time to deal decisively with SA’s most pressing economic policy priority, namely higher growth and employment creation. Lower interest rates will facilitate this, but not in a piecemeal fashion. The Bank is way behind the curve.

A very deep cut in the repo rate is required — at the very least the removal of the gap between the upper target range for inflation and the average CPI for 2019, amounting to 190 basis points.

It is also necessary to amend the manner in which the MPC is constituted to allow for ex-officio participation by the Treasury and adequately qualified economists.

• Roelof Botha is an economics lecturer (part-time) at Gibs and Ilse Botha is with the College of Business Economics at the University of Johannesburg. This is an edited version of the executive summary of a paper they co-authored titled “Restrictive monetary policy — bereft of reason”.

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