Thabi Leoka | SA is in a precarious position - but it is not due to inaction by the Reserve Bank

Thabi Leoka
Thabi Leoka
  • There is a difference between fiscal and monetary policy. 
  • Monetary policy - which is where the Reserve Bank comes in - is only one side of the coin.
  • The transmission mechanism of a rate cut is limited by the level of poverty and inequality. 
  • Deep, structural problems need to be tackled by stronger fiscal policy. 

  • There is a lot of talk about the role and the mandate of the SA Reserve Bank and emotions seem to rise when the economy is in a rut and solutions prove elusive. Critiques of the bank are plentiful but orchestrated reaction and co-ordinated attacks ring hollow when fiscal policy, or the lack thereof, is ignored.  

    Fiscal policy impacts monetary policy transmission channels both directly and indirectly. Both these channels influence aggregate demand conditions within the economy. Demand conditions in turn tend to influence wage and price-setting behaviour and that is how fiscal policy can affect inflation and inflationary expectations.

    Unsustainable fiscal policy is likely to reduce the credibility of a government's commitment to direct monetary policy towards price stability. In turn, this reduction in credibility will raise long-term inflation expectations and increase the costs of pursuing an anti-inflationary monetary policy.

    Fiscal vs monetary policy

    There is an abundance of literature on the relationship between fiscal and monetary policy and many have argued that this relationship, while largely understood, is the most complex relationships in economic theory.

    Fiscal policy generally refers to the government's choice in the usage of taxation and government spending to regulate the aggregate level of economic activity. Fiscal policy also determines the composition of government spending or taxation and thus the government's financial position. Policymakers responsible for the fiscal policy focus on government deficits, debt, tax and expenditure levels.

    Monetary policy refers to the central bank's control on credit in the economy to achieve the broad objectives of economic policy. This control is exerted through the monetary system by operating on money supply, the level and structure of interest rates and other conditions affecting credit in the economy.

    The most significant objective of central banks is price stability, growth, exchange rate stability, safeguarding the balance of payments and maintaining fiscal stability.

    However, the most significant objective of central banks is price stability, growth, exchange rate stability, safeguarding the balance of payments and maintaining fiscal stability.

    Even though the two policies are implemented by difference bodies, the two are interconnected. There have been many examples, especially in emerging markets, such as Mexico in 1994, Russia in 1998, and Brazil in 1999 where budgetary problems have led to a crisis.

    Here, large fiscal deficits, in the absence of much-needed public sector reforms, led to high real interest rates, intensifying debt-servicing costs and a build-up in foreign currency public debt. This in turn undermined monetary policy as the exchange rate depreciated as a result of capital outflows.

    If a fiscal rule is set out by a government to enforce fiscal discipline, and undermined by that very government, monetary policy transmission mechanism will be limited. Furthermore, where uncertainty about the sustainability of fiscal policies disturbs the perceived achievability of monetary policy objectives, the economic costs of an imbalanced macro-economic policy mix rise and the feasibility of both monetary and fiscal policies are called into question.

    The SARB could have been less conservative when they kept interest rates relatively high from 2017 onwards.

    In hindsight, I do think that the Reserve Bank could have been less conservative when it kept interest rates relatively high from 2017 onwards. Inflationary pressures were subsiding, which gave room for it to respond accordingly. My concern is less about the bank and more about those who are entrusted to deliver services such as water and sanitation, infrastructure, health and education and those responsible for the implementation of policy that would have reduced unemployment, inequality and poverty.

    This is because the transmission mechanism of a rate cut is limited by the level of poverty and inequality. Given the structural problems faced by the South African economy, a rate cut largely benefits those individuals and corporates that are leveraged.

    They are the ones that received messages from their banks alerting them that the interest on their loans have declined and they are often encouraged take on more debt to provide them with a buffer during these trying times. The majority of South Africans are not impacted by the 275-basis point cut in interest rates this year simply because they are poor, and the system has failed them.

    GDP growth has been stifled by bad policies or the lack thereof and as such, has remained low for some time. A road map called the NDP was put together in 2012 to put us on course to achieving sustained growth, but the implementation of that plan has largely stalled.

    Economically, we are in a precarious position, and not because of the Reserve Bank's inaction, but because of a non-existent fiscal policy, which has impacted on our fiscal credibility, the failure to implement growth-inducing policies and the ineptitude to deliver basic services.

    * Thabi Leoka is an independent economist who has worked in financial services for over 17 years. She is interested in fiscal and monetary policy. She is also a member of the Presidential Economic Advisory Council. Views expressed are her own. 

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