South African macro policy given a tune-up

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By Cees Bruggemans

There were various news items in recent days worth taking into account when trying to project macro policy.

SARB Governor Mboweni was apparently given a clean bill of health in recent remarks made by President Zuma. This was vastly more important than the repeated vote of no-confidence aired by some in recent times.

It now seems likely, if it hadn’t already been so for a long time, that Mr Mboweni will be asked to stay on in office when his second term ends in early August. For reasons of continuity alone this is to be welcomed.

The SARB Governor has firmly stated over a period of time that if we didn’t have a policy of inflation-targeting, the central bank would still be fighting inflation with a hard money policy.

Simply favouring much lower interest rates in support of the economy would end up fanning inflation. It wasn’t as if the SARB doesn’t take the weak economy into account when setting interest rates. A weak economy tends to weaken pricing power of economy participants and causes inflation to be lower over time, indirectly shaping the interest rate response.

Thus world class standards rather than tried-and-failed remedies continue to win the day and should continue to bolster financial market confidence.

In its distant history, the SARB was known to favour exchange rate management. Then came the final realisation in the late 1990s that this is no longer practical in the modern world of open markets and huge capital flows.

Since then the SARB has been known to judiciously buy and sell foreign currency on the margin, influencing market conditions but not in an overwhelming way.

In the process it closed the oversold forward book and build up the foreign reserves, with this process interrupted for a while these past twelve months as the global banking crisis erupted with great fury.

With global risk appetite returning once again since early March 2009, and the Rand noticeably firming from oversold levels well ahead of any export recovery, the SARB has not as yet resumed its forex accumulation on any scale aside of bond absorptions and reserve revaluations.

But recent events seemed to have progressed to a point where the SARB Governor felt it necessary to intervene verbally, indicating that the Rand was perhaps firming too fast and too far. Since then we have heard that for the SARB to ‘lean into the wind’ may not be such a bad idea to smooth longer term exchange rate trends.

Provided the SARB has the means to sterilize such forex intervention actions, something that apparently is ‘far from costless’ with bonds needed to be issued, we could well again be entering a period where any excess capital inflows are at least partly absorbed into the foreign reserves.

To what extent such actions will succeed in smoothing the Rand’s ascent to firmer levels under the shaping influence of major global forces remains to be seen.

But the country looks good for higher foreign reserves and hopefully a limit to any Rand overvaluation, provided the SARB follows through and the global capital inflows don’t become overly massive (remembering 2003-2005).

As to interest rates, we were told not long ago that for now there would be no longer any significant rate cuts. That choice of words left a few doors wide open, such as only temporarily pausing with rate cuts or reducing them in steps of 0.5% or any denomination smaller than 1%.

Besides the sticky nature of our inflation, reflecting an imperfect market system, the preponderance of many government-determined administered prices and volatile commodity prices, our monetary policy seems to be highly aware of the tempering influence on inflation of a very weak underperforming economy and a firming exchange rate.

For this reason alone our prime rate at 11% may not yet have bottomed for this cycle, even if internationally early-acting central banks have long ended their rate easing (having reached zero) or are imminently likely to get there.

Our interest rates may still be somewhat high, and some further policy easing should not be entirely ruled out in coming months, prime potentially having scope falling nearer 10%, also when using a fairly basic Taylor Rule approximation.

Minister of Finance Gordhan has started to make his mark by echoing President Zuma’s speech last week in which the dire economic circumstances are seen as limiting the extent of any public largesse.

Instead of preparing the nation for tax hikes as is the case elsewhere, our good national finances make such drastic action probably improbable. At the same time, those expecting limitless government spending are now being told, probably none too soon, that there are actually limits in these very difficult times.

What exactly those spending limits really are will become clear in the course of next year.

Meanwhile, Planning Minister Manuel has indicated that the expansion of the Public Works Programme to include at least another 500 000 people during 2H2009 has everything to do with getting some income into hands where it is needed most desperately.

Thus the poor are not forgotten even when political elites call for cheap money policies and activist government spending.

All of this represents good common sense and is indicative that we certainly have learned from failed policies in the distant past and elsewhere in the world. It should stand us in good stead as we carefully pick our way through a very turbulent world that can so easily blow you out of the sky if sending conflicting speed signals.

Source: Cees Bruggemans, FNB, June 9, 2009.

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1 comment to South African macro policy given a tune-up

  • CNBC is actually running a special on the investment opportunities in Africa tonight called “Dollars and Danger: Africa the Final Investing Frontier.” If you’re interested Dollars and Danger premieres Wednesday, June 10th, at 9pm EST. http://bit.ly/bAFHY

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