ROELOF BOTHA AND DARYL SWANEPOEL: Record high interest rates are a self-inflicted economic blow

The inability of the South African economy to grow — even remotely — at rates commensurate with its potential output since the initial recovery from the Covid-19 pandemic has been a source of frustration among business leaders and economic policymakers.

In recent years the low rate of economic growth has been responsible for an ever-increasing unemployment rate, the highest of any of the advanced economies and of emerging markets and developing economies.

The low growth has been caused by many factors, including excessive regulation of economic activity, the government’s apparent inflexibility apropos its ideological objectives at the expense of economic expediency, the decay of infrastructure during the era of state capture, widespread corruption and the dysfunctionality of dozens of municipalities.

However, there is also growing consensus among economists and business leaders that restrictive monetary policy has to shoulder much of the blame for the fairly dramatic downturn in the GDP growth rate since the normalisation of economic activity after the pandemic.

It should be pointed out that South Africa managed to record an average annualised GDP growth rate of 2.4% between the third quarter of 2021 and the third quarter of 2022, just before the South African Reserve Bank’s monetary policy committee (MPC) decided to start raising the benchmark lending rate (via the repo rate) to its highest level in 14 years, despite the absence of any sign of demand-induced inflation. Since then, real annualised GDP growth has slumped to between zero and 1%, and the broadly defined number of unemployed people has increased to 11.6-million.

By the time millions of indebted South Africans were under financial stress because of an increase of close to 40% in the ratio of debt service costs to disposable income, it had become clear that the MPC had made a grave error in virtually replicating a policy approach suited for US circumstances.

In its effort to tame higher inflation caused almost exclusively by unheard of increases of about 700% in maritime freight charges and a 400% increase in the oil price, the central bank deliberately set the country on a path that almost caused a recession. In fact, the country’s real annualised GDP in the third quarter of 2024 was lower than two years earlier.

Cost-push inflation cannot be lowered by restrictive monetary policy. Unfortunately, it can be worsened — as occurred in South Africa via the increase in unutilised manufacturing capacity. The latter was caused by insufficient demand in the economy, due to households and businesses being forced to spend a larger slice of disposable income and revenue on servicing the cost of debt.

At the end of the second quarter of 2025, South Africa’s broadly defined unemployment rate stood at 47%, with fewer people in formal employment than those looking for jobs. It is a frightening statistic against the background of widespread poverty, rampant crime and repeated incidents of socioeconomic unrest.

It is trite to argue that high interest rates will ultimately provide the benefit of lower inflation when a dire need exists in the short term to create employment for the 11.7-million South Africans who cannot find any form of employment — not even in the informal sectors, which feed off job creation in the formal sectors. At this juncture in South Africa’s history, job creation should be our overarching priority.

Several empirical studies covering a wide spectrum of emerging markets and developing economies have confirmed that high interest rates are detrimental to capital formation and economic growth. Other negative side effects of elevated interest rate hikes in such countries include the aggravation of cost pressures on the supply side (due to lower capacity utilisation in the manufacturing sectors) and the worsening of income inequality.

A notable shift towards growth-inhibiting monetary policy became evident from 2015, and it became excessively restrictive between 2023 and 2024. The negative macroeconomic impact of the high interest rates that accompanied this policy shift is both pervasive and alarming. Conclusions drawn from a thorough analysis of the damage inflicted on the economy include:

• The decimation of the value of residential building plans passed;
• A dramatic decline in the value of construction works;
• A decline in the average real salary in the formal sectors of the economy;
• More than half of small, medium and micro enterprises are in a state of contraction, difficulty or risk of closure;
• Capital formation in South Africa now comprises less than 15% of GDP, compared with the global average of 28%;
• The real value of household credit, the lifeblood of aggregate demand in the economy, has declined by 8.3% since 2012; and
• Real disposable incomes of South African households have declined consistently over the past decade, with a more pronounced downward trend since the interest rate highs of 2024.

Econometric modelling of a modestly lower interest rate trajectory after 2021 shows that GDP would have been R206.4bn higher at the end of the first quarter of 2025, which would have led to higher employment and also increased fiscal revenues.

Real lending rates need to be lowered to the same level that existed during the tenure of the MPC in 2011-15, namely 3%-4%. During this period a high level of tolerance existed for accommodating increases in price levels that were regarded as temporary — especially when caused by exchange rate weakness. More importantly, these interest rate levels realised an average annual rate of real GDP growth of 2%-3%.

Moreover, the recently announced change in the country’s inflation target to 3%, with a tolerance band of one percentage point, is, in our view, a mistake. The target range of 3%-6% should be retained to enable inflation flexibility, to allow for the stimulation of growth given the country’s high unemployment.

We believe the composition of the MPC should be amended to become more inclusive of economic participation, as any decision on interest rates has profound direct and indirect effects on the well-being of South African households. The MPC should consist of 12 members — two people from each of the following six institutions/organisations: the Reserve Bank; National Treasury; parliament; the financial services sector; employer organisations and top trade unions.

Each of these MPC members should possess at least 20 years’ experience in macroeconomic research and a minimum qualification of a master’s degree in economics.

• Dr Botha is an independent research economist and special adviser to the Optimum Investment Group, while Swanepoel is CEO of the Inclusive Society Institute. This article draws on the content of the institute’s recently published “Quantifying the impact of restrictive monetary policy on the South African economy since 2022″.