This article was first published by City Press on 16 May 2023
The SARB and its superfluous mandate of inflation targeting
The South African Reserve Bank (SARB) has recently drawn opprobrium and come under intense scrutiny. Special attention has been paid to the bank’s mandate – which is constitutionally protected by section 224 of the Constitution – which enjoins it with the primary objective of protecting the value of the currency, in the interest of balanced and sustainable economic growth in the Republic. Of particular relevance for our discussion are the numerous assaults that have been levelled at the bank by key political players in mainstream politics.
The first of these recent assaults on the country’s central bank was launched by the now-suspended Public Protector (PP), Ms. Busisiwe Mkhwebane, who published an investigation report in 2017 into the financial assistance of R1.125 billion that was provided by the Reserve Bank to Bankorp Limited between 1985 and 1991.
As part of her recommended remedial action in this report, the PP directed the Chairperson of the Parliamentary Portfolio Committee to amend the constitutional mandate of the SARB to include economic growth. While this remedial action was later declared unlawful and set aside the High Court, the governing ANC would nevertheless subsequently launch the same assault on the bank at its 54th national elective conference. The party particularly bemoaned the partial private share-holding in the bank and further heightened calls for the bank to be nationalised.
At the very risk of repeating the obvious, the SARB is constitutionally mandated to protect the value of the Rand by keeping inflation low and steady. According to the bank’s website, it does this by setting a short-term policy rate – the repo rate. This affects the borrowing costs of the financial sector, which, in turn, affects the broader economy. To put it slightly differently, an increase in the repo rate would ordinarily decrease the amount of money in circulation, and vice versa.
Despite the central bank and its current governor’s intentional recognition and accolades, this is a herculean task that requires not just economic insight but – I dare say, prophetic foresight and Solomonic wisdom as the bank’s recent performance shows; inflation currently sits at 7%, above the average target of 6%.
Against this backdrop, it must then be asked whether the central bank, or anyone else for that matter, is fit to undertake such a mammoth task. The short answer is no. The long answer is that inflation targeting is not only a herculean task to undertake but also superfluous — this is because of the time/response lag. That is, the time it takes for monetary and fiscal policies, designed to smooth out the economic cycle or respond to an adverse economic event, to affect the economy once they have been implemented.
There are indeed long and variable lags between when monetary policy changes and when those changes show up in economic data. The effects of tightening monetary policy sometimes do not show up until 6 to 24 months after the end of a tightening cycle. And because we can only know about inflation in retrospect, we then find ourselves in a situation where the SARB is tightening the money supply during a deflationary period or increasing the money supply during an inflationary period because of this time lag.
As libertarian economics professor Antony Davies would have it, trying to control inflation through a monetary policy is tantamount to driving down the road except that your windscreen has been removed and its place you put a television screen with a camera mounted at front of your car. The camera shows on the television screen everything you would see if indeed you had a window screen at the front of your car, except, there is a 10 second delay. So, what is displayed on the screen is information that is 10 seconds old. Now try to imagine driving like that in traffic — you look at the screen and it looks like the road is clear and you step on the accelerator only to find that it actually isn’t, and you have driven into cars in front of you.
Or it looks like there is heavy traffic and you step on the brake, only to find that there was a 10 second delay and have other cars run into you. This analogy might sound too far-fetched, but it describes in part precisely the lag problem we have. So, what is the solution? The best solution is to admit that we are not good at this, and to hold the money supply at some constant level. Another American libertarian economist Milton Friedman proposed that we grow the money supply at the same level the economy grows. So, if the economy grows by 2%, we increase the money supply by 2%. Following a rule like that takes the decision-making out of the hand of the SARB.