Global inflation has seemingly come as a surprise to all but the small tribe of monetarists who hold that any model of inflation should include a genuflection (a bending of the knee) to the role played by money. Much more money in the form of bank deposits is likely to mean an excess supply of money over the willingness to hold onto that money — and for other assets and goods and services to be substituted for money, adding to demand and upward pressures on prices and output.
The value of deposits held in US banks and money market funds has grown by about 36% or $5.5-trillion since January 2020. The system is heavily overweight money — and underweight other assets, goods and services. The effect on demand for assets, goods, services and labour has been felt for some time. If anything, Covid stimulus has worked too well.
More wealth for home and share owners usually means less saved and more consumed. And those with extra deposits provided as Covid income relief, and who usually must live from payday to payday, are likely to continue to exchange their extra savings for goods and services, leading to additional pressure on prices. Banks, with vast additional cash reserves at the central bank, are more likely to provide additional loans to fund additional spending. There is far more than lower or higher interest rates that explains the effect of money on output and prices.
Prices facing consumers in the US are up 5% on a year ago and commodity prices facing producers are 20% higher than a year ago. A mixture of too much demand and too few supplies has inevitably meant higher prices.
Will the current rate of price increases in the US extend beyond the next 12-24 months or more? The answer will depend on the pace of money supply growth in the years to come. It will have to slow down to something like the long-term average growth rate in money supply of about 6% per annum between 2000 and 2020 to return annual inflation to an average of 2%.
This will require higher short-term interest rates and conservative fiscal policies — to restrict demand — but these are adjustments that will test the political independence of the US Federal Reserve and the willingness and ability of US politicians to vote for higher taxes — or reduced spending — if inflation is to be contained.
The SA economy, without the stimulus of quantitative easing and with minimal growth in its money supply since early 2020, suffers from too little demand, not too much. Yet we will also be subject to supply-side shocks on the prices we will be paying. The SA Reserve Bank would be well advised not to add to the negative effects of higher supply-side-driven prices on demand with higher interest rates.
The global inflation of metal prices nevertheless has come as a most welcome boost to our economic prospects. It has boosted incomes earned and taxes paid by the mining sector. Well over budget revenue was banked this fiscal year, of the order of R160bn (running more than 20% ahead of last year’s R1.4-trillion budget estimate), with more revenue to be expected next year.
Ideally this windfall would be used to strengthen the economy over the long term. Extra consumption spending by better paid government employees or improved welfare benefits is not advisable. Simply by borrowing less, the government could strengthen the national balance sheet and improve our credit rating. Lowering tax rates would add to our economic potential, as would allocating about R200bn to an earmarked infrastructure fund, to provide equity capital for investment to generate extra revenue from supplying additional water, electricity, pipelines, port capacity and toll roads.
All are desperately needed, and users would be prepared to pay enough to justify the economic case for more capex. The fund ideally would welcome additional private sector contributions of equity and loan capital — and surveillance to limit the “empowerment” rake-offs.
• Kantor is head of the research institute at Investec Wealth & Investment. He writes in his personal capacity.
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