LESETJA KGANYAGO: Reserve Bank’s aggressive response has helped allay economic crisis
The Bank has implemented important measures, including lowering rates and making liquidity available to banks
It is now clear that the Covid-19 outbreak will produce the worst economic downturn in a century, with output expected to contract by about 7% in 2020. The SA Reserve Bank has responded flexibly, quickly and aggressively to this crisis. Our five most important measures have been as follows:
- We have lowered interest rates substantially. From our January cut the cumulative reduction in the repo rate for 2020 now stands at 275 basis points. To compare, the emerging market median is 100 basis points. The repo rate is now at its lowest level on record, and below zero in real terms.
- We have made liquidity available to banks through a range of facilities in addition to our usual weekly repo auctions, with take-up peaking at R83bn in March.
- We have provided regulatory relief to the financial sector to help maintain the flow of credit in the economy despite the temporary payment problems for firms and households caused by the Covid-19 shock.
- We have offered funding for small and medium enterprises, starting at R100bn, with an option to scale up to R200bn over time. This facility is backstopped by a guarantee from the National Treasury.
- We have been buying government bonds in the secondary market to improve market functioning. The total of new purchases now stands at about R25bn. This is comparable to purchases by emerging market peers.
These actions have improved market functioning, and are supporting economic activity. The outlook remains highly uncertain, however, so we are watching the data closely and are ready to act as appropriate to uphold our mandate. In doing so we are guided by a few important considerations.
First, in responding to the Covid-19 crisis many central banks have launched bond-buying programmes. These programmes range in a spectrum from limited to larger interventions. Some central banks are buying huge quantities of assets to provide stimulus despite the constraint of the zero lower bound (the level at which changes in the interest rate no longer enable the central bank to achieve its policy objective such as a set inflation target). Others are conducting more limited purchases to improve market functioning. Many advanced economies sit on the far side of the spectrum. Some emerging markets, such as Brazil and us, sit at the near end: we are aiming to improve market functioning.
The constitution tells us the Bank must protect the value of the currency, and that we must have regular discussions with the finance minister. Nowhere does it say I can set conditions.
Any decision to move along the spectrum needs to be embedded in our inflation-targeting framework. Getting the inflation forecast right gives us credibility to shift along the bond-buying policy spectrum without tipping into higher inflation. Judging by the recent moderation in long-term rates and lower inflation levels, it appears we have got the overall policy effort about right for the moment. But we are in an environment of unprecedented uncertainty and we will adjust this policy effort as economic conditions and forecasts change.
Second, the scale of asset buying we conduct should follow from a clear sense of why markets have been malfunctioning. When the Bank began intervening in the SA government bond market, on March 20, we had seen trading thin out, with even small transactions causing bond prices to move abruptly. By purchasing bonds in the secondary market the Bank has helped restart price discovery and has encouraged the re-entry of private sector participants.
The trouble is that liquidity problems are not the only factor affecting the domestic bond market. There are also problems of fiscal sustainability in the mix, which requires us to act, and to communicate, with caution. It is not for me to detail the fiscal situation, but it is well-known that SA was already running crisis-level deficits when the Covid-19 shock hit, and that the impact of the virus is now forcing an additional fiscal deterioration.
As many economists have pointed out, sustainability concerns have to be addressed at a fiscal level. This means the debt-to-GDP ratio has to stabilise, and those projections need to be realistic. If debt sustainability can be assured, with high probability, then near-term borrowing will be more readily available.
In these circumstances, were government still to experience financing disruptions we could feel confident that these were liquidity problems that the Reserve Bank could help address. However, presently, sustainability is not assured. For it to be assured SA cannot continue to incur debt at a rate faster than the one at which we generate resources.
Meanwhile, the bond-buying proposals on the table are not modest. I have seen one call for a R1-trillion fiscal stimulus financed by the Bank, and another for Reserve Bank bond purchases of R10bn-R20bn per week to continue until “economic recovery is well under way”. These numbers imply that the Bank would be buying more or less all new debt for the foreseeable future. This would crowd out other investors, such as pension funds. It would also threaten to shift the focus of monetary policy to funding the government rather than controlling inflation.
I have heard it suggested that we should consider quantitative easing with conditions. But we are a national central bank. The constitution tells us the Bank must protect the value of the currency, and that we must have regular discussions with the finance minister. Nowhere does it say I can set conditions. As such, the Bank cannot take responsibility for solving a fiscal sustainability problem, nor can it jeopardise the value of the currency by agreeing to inflationary money printing.
But why could this be inflationary? The problem is it would be the same as setting the repo rate too low, and keeping the repo rate too low for too long would be inflationary. The only way to maintain the desired repo setting would be to absorb the extra rand back onto our balance sheet, which is costly — and therefore not “free” or “magic” money.
As a country we have got ourselves into trouble. We have just completed our worst growth decade on record. On a per capita basis South Africans have been getting poorer since 2013. In 1960 South African incomes were around those in the US. They are now down to 13%. They were 128% of Brazil’s in 1960 — a country to which we are often compared — they are now down to 65%.
In much of the period after 1994 we in SA surprised everyone by co-operating despite our differences, and delivering robust and sustainable macroeconomic policies. But those accomplishments have faded. We have used up the legacy of low debt levels. Fortunately, we have achieved low inflation, which has made it possible for us to respond aggressively to the crisis.
We can now set out on a new path with low interest rates if we guard and value them. We have nearly all the ingredients needed to get permanently stronger economic growth, create jobs and rid ourselves of poverty and inequality. But we need to choose, as a society, to do these things.
• Kganyago is governor of the SA Reserve Bank. This is an edited version of a lecture he delivered at Wits University on June 18. Read the full version here.
Would you like to comment on this article or view other readers' comments?
Register (it’s quick and free) or sign in now.
Please read our Comment Policy before commenting.