SIMON BROWN: The importance of central bank independence

Our central bank, the Reserve Bank, headed by Lesetja Kganyago, has taken a lot of criticism lately because our real interest rates are at their highest levels in decades.

However, what really matters is that the pressure is from business and consumers, and not the government.

This is important. The governor is appointed by the president of South Africa after consultation with the finance minister and the board of directors of the Bank, as stipulated in the South African Reserve Bank Act of 1989.

Thereafter politicians leave the governor alone to do his job as he sees fit. If the president is not happy, he simply appoints someone else after the governor’s five-year term.

US President Donald Trump is, however, stepping into very dangerous territory when he threatens Federal Reserve chair Jerome Powell, demanding that he lower rates.

We’ve seen this before, most recently in Türkiye, where President Recep Tayyip Erdoğan’s administration dismissed officials who wouldn’t carry out his instructions. He eventually got what he wanted, lower rates in the face of high inflation and intervention in the currency market.

It all ended poorly for the Turkish economy but, more importantly, it tainted the Turkish central bank.

Another and perhaps more direct example is Richard Nixon who, during the 1972 presidential election campaign, instructed Fed chair Arthur Burns to cut rates. The idea was to spur the economy and make consumers, who are also voters, happy and win him a second term.

Burns did as requested, as was proved in the Watergate tapes. It was a horror show.

During the 1970s the US experienced high inflation that should have been combated with higher rates but was made worse by rates being kept artificially low.

Of course the oil embargo by Opec didn’t help. But it took president Jimmy Carter’s appointment of Paul Volcker as Fed chair in 1979 to finally begin taming inflation.

Volcker succeeded, but it took serious and painful high interest rates to get inflation back under control, control that was maintained until inflation caused by the pandemic approached the highs of four decades earlier.

Trump wants low rates to spur growth as it’ll put more money into voters’ pockets and encourage business to borrow more for growth. This is part of his larger plan to stimulate growth and reduce the deficit.

The problem is simple and twofold.

First, inflation is not yet under control in the US as per the latest Federal Open Market Committee press conference and congressional testimony by Powell. This is in large part due to Trump’s tariffs, which even at the current 10% are inflationary. Add lower rates into the mix and who knows how high inflation can go?

The second problem is perception. When Trump again threatened Powell last week we saw the dollar sell off aggressively.

Powell’s term will end in May next year, when Trump will get to appoint a new Fed chair (keep in mind he appointed Powell). The world hopes that he appoints a capable and truly independent Fed chair.