The Reserve Bank has apparently become a political hot potato overnight. In reality, however, the independence and mandate of the Bank, while suddenly the topic du jour, has for many years been contested among those in the governing alliance.
On the final day of this week’s ANC policy conference, a proposal was tabled to nationalise the Bank, which is in any event already accountable to government. Naturally, this spooked markets and weakened the rand.
But nationalising the Bank by buying out its 600-odd private shareholders will do nothing to the way it operates in practice.
Its mandate is enshrined in the Constitution and is something over which the shareholders have no control in any event.
Still, investors and businesses would perceive the move, if it ever materialises, as the beginning of an assault on the Reserve Bank’s independence. And, in turn, attacks on monetary policy, which has proved highly successful up to now.
The Bank’s independence and function were thrust into the spotlight a few weeks ago, when Public Protector Busisiwe Mkhwebane instructed Parliament to change its constitutional mandate from one that focuses on protecting the value of the currency in the interest of economic growth, to one that focuses on protecting citizens’ socioeconomic wellbeing and advancing socioeconomic transformation.
— THE BANK IS ACCOUNTABLE TO PARLIAMENT’S STANDING COMMITTEE ON FINANCE.
This debate, although nothing new, is misinformed. Certainly, Mkhwebane’s comments demonstrate a dangerous lack of appreciation for why low inflation is so vital to economic growth, and, ultimately the socioeconomic wellbeing of all citizens.
It is convenient to imagine that money creates wealth and, therefore, simply printing more of it would solve poverty.
But this is nonsense. And yet in her report on the Absa-Bankorp lifeboat, Mkhwebane says that if the state took control of "creating money and credit", then "numerous benefits aimed at alleviating economic ails of ordinary economically disadvantaged people may be achieved".
How egregiously mistaken she is. As Adrian Saville, CEO of Cannon Asset Managers and a professor at the Gordon Institute of Business Science, says: "Money doesn’t create wealth; money is the consequence of wealth creation."
Far from creating wealth, printing money creates poverty by driving up inflation — increasing the prices of goods and services. The reason prices rise, and rise quickly, when the money supply in an economy increases, is that there is too much money chasing too few goods and services. It takes much longer for the production of goods and services to catch up with a sudden increase in money supply, so prices inevitably respond first — by going up. This, in turn, destroys purchasing power, which refers to the amount of goods and services that can be purchased for one unit of currency (R1).
Put differently, as prices increase, what you could buy for R50 yesterday will cost you more today.
This hurts the poor a lot more than it hurts the rich, because poor people feel the rise in prices more acutely. A large proportion of the goods poor people buy, such as food and transport, are price inelastic, meaning they cannot buy less of them even when prices increase. Poor people also don’t own many physical assets such as property or vehicles, which provide some shielding against inflation.
"Low inflation helps maintain the value of the money in your pocket. This is good for all South Africans but especially the marginalised and the poor — those without the information or the power to protect themselves from inflation," says Reserve Bank governor Lesetja Kganyago.
In addition to destroying the purchasing power of citizens, inflation also impedes economic growth when it enters double-digit territory because it leads to less efficient capital allocation, says Saville.
The inflationary "sweet spot" is between 0% and 10%, he says. At these levels, businesses and consumers can act with a high degree of certainty when, for instance, pricing wage contracts or making large purchases, as they have some assurance on how the prices of goods and services in an economy will move over time.
"No country that has enjoyed elevated economic growth and socioeconomic transformation has done it through runaway inflation. Stable prices for all of these countries have been the centrepiece," Saville says.
Perhaps we should ask Mkhwebane to name a country with high inflation, yet robust economic growth and low unemployment. The truth is such a country does not exist.
By targeting inflation through lifting or lowering the repurchase (repo) rate, the Bank is able to ensure that prices in the economy remain stable. This is good for everyone. Low inflation keeps interest rates low, which means people are better able to afford not only basic goods, but also larger purchases such as houses.
Considering inflation has been lower in the past 14 years than it was in the 60 years preceding that, the Bank must be doing something right.
"Keeping inflation low [and] protecting the value of the currency, is supportive of growth," says Kganyago. "The public protector’s remedial action is, accordingly, irrational. She directs an amendment to the Constitution to improve the socioeconomic conditions of South Africans, but takes away the very powers from the Reserve Bank that are designed to achieve this."
By far the most effective means of keeping inflation low and stable, a prerequisite for economic growth, is an independent central bank. Unsurprisingly, central bank independence has been legislated around the globe. This has been done because governments might be tempted to engage in excessive short-term borrowing or spending, or even use the central bank’s money printing rights to curry favour with voters.
"When you look at the experience of countries with strong independent central banks such as the US, Switzerland and Germany, inflation rates have averaged 2%-3% over the past 50 years.
"[Interfere with] the independence of the central bank, even modestly, and suddenly, you are in the world of Spain, Italy and Greece, where average inflation over that same period has been in the order of 10%," says Saville.
The Reserve Bank’s inflation targeting range, at 3%-6%, sits comfortably within the 0%-10% sweet spot. Arguably, it could increase this to, say, 5%-8%, but, as this would represent a change in monetary policy, it would unsettle investors.
More importantly, many of SA’s major trading partners now target levels of inflation between 2%-4%, with actual inflation averaging below this.
If our inflation levels are higher than those of our trading partners, we risk becoming uncompetitive since it costs us more to produce goods and services, which means we have to sell them at higher prices. Our weaker currency can only partly compensate for this, but since SA is a net importer, a weaker currency increases inflation even further.
Another of the Bank’s core stabilising roles, and one Mkhwebane calls into question, is to act as lender of last resort.
It is not, as the public protector believes, something that has "commercial benefits only in respect of the financial sector market".
On the contrary, by acting as a backstop in times of crisis, the Bank protects the savings of millions of South Africans, restoring confidence and stability to the financial sector, which in turn oils the engine of economic growth. Bank failures hurt the poorest the most, since poor people tend to hold the bulk of their savings in bank accounts rather than having investments in, for example, the stock exchange or property.
The idea that private shareholders control the Bank is just as false as the myths that money printing will eradicate poverty or that the Bank’s status as lender of last resort is harmful to the poor.
The Bank’s shareholders have no influence over monetary policy.
At the time of the Reserve Bank’s founding in the early 1920s, most central banks had private shareholders and it also adopted a similar structure.
At the time SA’s constitution was drafted, there was intense debate over whether or not to nationalise the Bank. The government was sensitive to the possibility that the global investment community might perceive changes in the Bank’s shareholding to signal changes to monetary policy and so kept the private shareholders.
Now, insiders reckon any attempt to buy out the shareholders would lead to years of legal wrangling over what the shares are worth. It might even weaken corporate governance.
Shareholders vote in seven of the bank’s 15 board members, who are approved by an independent panel. The government appoints the other eight board members: the president appoints the bank’s four governors, with four non-executive directors appointed by the president in consultation with the finance minister.
Shareholders and their related parties are not permitted to own more than 10,000 Reserve Bank shares each. Annual dividends are capped at 10c per share, meaning no related parties would ever receive more than R1,000 a year.
The Bank is accountable to Parliament’s standing committee on finance, not to its shareholders. It belongs to the people of SA.
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