On Thursday, when the Reserve Bank’s monetary policy committee (MPC) announced that it had lowered the repurchase rate to 7%, it also made a policy change by stealth.
Despite protestations on Friday that he was still the big boss of economic policy, finance minister Enoch Godongwana has been two-footed by a sly central banker eager to stamp his authority.
Reading the statement to the media, governor Lesetja Kganyago said the MPC would now “use forecasts with a 3% inflation anchor at future meetings” to determine whether to increase, hold or cut rates.
He explained the modelling and rationale in detail, using the scenarios of a 4.5% target objective or 3%, which the Bank prefers.
According to its calculations, with a 3% objective, core inflation (which excludes volatile items such as food and energy) stays roughly where it is, close to the lower end of the current 3-6% target. Inflation, the MPC noted, would also benefit from a somewhat stronger rand at this lower target objective.
Alternatively, with a 4.5% objective, the rand depreciates and inflation reverts back to 4.5%. At that level, rates bottom out at around 7%.
But the good news, according to the MPC, is that if inflation holds steady at the lower forecast of 3% we could be in for five more cuts of roughly 25 basis points each over the next two to five years.
“Lower inflation allows for lower interest rates. In our quarterly projection model for a 4.5% objective, rates bottom out around 7%. By contrast, the forecast for a 3% objective has roughly five more cuts, over the medium term, taking interest rates slightly below 6%. The logic of the model is that interest rates need to fall as inflation eases, to prevent the inflation-adjusted rate, or real interest rate, from rising too much,” the Bank said.
For this reason the six-member committee would now base future decisions on the bottom band of the 3%-6% inflation target.
This is fascinating, given that there is work already under way between the central bank and the National Treasury to review the inflation target set 25 years ago.
Kganyago has repeatedly made it clear that he prefers a much lower target, and though he hasn’t put an actual number to it, it’s obvious he is rooting for 3%.
Some prominent economists have gone public to question the rationale of a lower target and the effect it could have on South Africa’s vulnerable economy, but Kganyago & Co aren’t flinching
But a decision to tinker with the inflation target is not his to make. A change in monetary policy falls squarely within the remit of the executive arm of the state. This means that once the technical advisory committee set up between the Treasury and the Bank has made its recommendation, Godongwana must take that report to the cabinet for final endorsement.
The message Kganyago and the MPC communicated on Thursday was that they have the power to enforce a lower inflation target, even outside a formal policy change. It’s the truth — they do.
As long as the majority of the MPC is behind him, Kganyago — as the custodian of monetary policy — can do as he pleases. In this iteration of the MPC, there is only one “outsider”, Mampho Modise, who joined the Bank as deputy governor in April last year from the National Treasury, where she was deputy director-general of public finance.
It is traditional for central banks globally to never reveal who voted how when interest rate decisions are communicated. They only publicly indicate a split or unanimity. On Thursday, the decision to cut was unanimous. The MPC has been split on occasions in the past, but the wind generally tends to flow with the governor, who also casts the deciding vote in case of a 50/50 split. Kganyago is a dominant figure. Hushed talk in political and economic circles is that overseeing a lowering of the target is a personal goal, and he’ll leave the Bank only when he has successfully influenced the policy change.
Some prominent economists have gone public to question the rationale of a lower target and the effect it could have on South Africa’s vulnerable economy, but Kganyago & Co aren’t flinching.
I’m not an economist or banker and won’t question the scientific argument put forward by these learned gentlemen and ladies to motivate their preference. They have put together a compelling case as to why the target needs to be revised downwards, and anyone who disagrees has their work cut out trying to disprove this assessment.
But what the MPC did on Thursday was effectively undercut the work done by the technical committee. I’m not sure what the finance minister’s views on lowering the target are, but in case he is opposed to it, he finds himself with little room for dissent. The Bank has effectively made the policy change for him.
• Kgosana is editor of Business Times
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