As leading central banks launched the most coordinated assault on inflation in decades — which could trigger a global recession next year — the South African Reserve Bank announced a copycat 75 basis points increase in the repo rate to 6.25% on 23 September.
The increase has worsened the country’s economic outlook, which has already been affected by unprecedented power blackouts this year.
But many politicians and economists are accusing central banks of overkill. They say inducing a global recession and laying off millions to tame inflation is bad policy and governments should expand their toolkit to address the cost-of-living crisis.
Last week, the US Federal Reserve increased its federal funds rate by 75 basis points — the third consecutive increase of 75 basis points in four months — to between 3% and 3.25%. At the beginning of the year, the federal funds rate was at 0% to 0.25%
Economists expect another increase of 75 basis points at the Fed’s next meeting in November. However, the inflation rate has declined for two consecutive months from a peak of 9.1% in June to 8.3% in August. The Fed has been increasing rates faster than other leading central banks. This has resulted in a soaring US dollar since funds tend to flow to countries that have higher interest rates.
On 8 September, the European Central Bank increased its deposit rate by 75 basis points after an increase of 50 basis points in July. The bank’s deposit rate has increased from minus 0.5% to 0.75%, which is still far below the Euro area inflation rate of 9.1% in August. Economists expect another increase of 75 basis points in December.
The Bank of Japan has retained its policy rate at minus 0.1% since 2016. The difference between Japanese and US interest rates has resulted in a sharp depreciation of the yen. On 22 September, the bank intervened in its currency market for the first time since 1998. The yen has depreciated by about 25% since the start of the year, which has contributed to an increase in inflation to 3%.
On 22 August, the People’s Bank of China cut its loan prime rate by five basis points to 3.65%. The Chinese renminbi has fallen to about 7.2 against the dollar from 6.36, a decline of 13.2%. In August, China had an inflation rate of 2.5%.
On 22 September, the Bank of England increased its bank rate by 50 basis points to 2.25%. But the pound tumbled after a right-wing comedy show — or “fiscal event” as it was officially called — the following day, when Kwasi Kwarteng, the UK’s new chancellor of the exchequer, announced unfunded tax cuts of £45-billion for the rich. On Wednesday, the bank said it would buy bonds of £65-billion over 13 days to calm financial markets.
In a recent report, the World Bank said the global economy was in one of the most internationally synchronous episodes of monetary and fiscal policy tightening in the past five decades: “As central banks across the world simultaneously hike interest rates in response to inflation, the world may be edging toward a global recession in 2023 and a string of financial crises in emerging market and developing economies that would do them lasting harm.”
However, interest rate increases, which are meant to reduce aggregate demand — the level of spending in the economy — are the wrong medicine to dispense when faced with supply-side shocks such as rising oil, natural gas and food prices. Interest rate increases are appropriate when there is excess demand in the economy — too much money chasing too few goods and services.
In South Africa, in May, large industrial companies were only using 77.2% of their capacity, primarily because there was no demand for the goods they produced, according to Statistics South Africa — too many goods chasing too little money.
Also, Eskom has done an effective job of reducing aggregate demand. The cost of power blackouts during the first six months of the year was R200-billion, based on a gazetted cost of unserved energy of R87.75/kilowatt hour. With no end in sight to the power blackouts, the final tally for the year will be much higher. In such an environment, the Reserve Bank’s interest rate increases — of 275 basis points since November last year — are monetary policy sadism, especially since they will not address the root causes of inflation.
Since peaking at a high of $133 per barrel on 8 March, the Brent crude oil price has fallen by 33% to $88 per barrel due to fears of a global recession. Prices will trend lower if the downturn in the world economy continues.
South Africa’s real interest rates — after considering inflation — are much higher than in other major economies. The country’s inflation rate of 7.6% is lower than many developed countries for the first time in many decades. The core inflation rate — the indicator many countries now focus on since it excludes volatile oil and food prices — is only 4.4%. Inflation has peaked and will decline over the next year. Looking back, we will recognise that this spike in inflation was transitory.
Internationally, economists have called for the use of other policy tools to address supply-side shocks. Countries have introduced fiscal policy measures to protect vulnerable groups. “European governments have spent 500-billion euros cushioning citizens and companies from soaring energy prices,” according to the Financial Times.
Economists Isabella Weber and Mark Paul say there is a need for a surgical approach — targeted measures — that directly reduce the price increases driving inflation.
They point to the US Emergency Price Stabilisation and Inflation Reduction Acts, which include measures such as powers to introducce controls to limit price increases in significant goods and services — petrol, housing, food and electricity — and others that tackle underlying supply issues and price gouging by some companies.
South Africa must also consider targeted interventions — a “whole of government approach” — that could include a basic income, subsidies for taxi owners, price caps for electricity increases and large reductions in the fuel levy.
Duma Gqubule is a financial journalist, analyst, researcher and adviser on issues of economic development and transformation. The views expressed are those of the author and do not necessarily reflect the official policy or position of the Mail & Guardian.
As leading central banks launched the most coordinated assault on inflation in decades that could trigger a global recession in 2023, the South African Reserve Bank announced a copycat 75 basis points increase in the repo rate to 6.25% on 23 September. The increase has worsened the country’s economic outlook which has already been affected by unprecedented power blackouts this year.
But many politicians and economists are accusing central banks of overkill. They say inducing a global recession and laying off millions of people to tame inflation is bad policy and that governments should expand their toolkits to address the cost-of-living crisis.
Last week, the US Federal Reserve (“The Fed”) increased its federal fund’s rate by 75 basis points – the third consecutive increase in four months – to a range of between 3% and 3.25%. At the beginning of 2022, the federal funds rate was at 0% to 0.25%
Economists expect another increase of 75 basis points at the Fed’s next meeting in November. However, the inflation rate has declined for two consecutive months from a peak of 9.1% in June to 8.3% in August. The Fed has been increasing rates at a faster rate than other leading central banks. This has resulted in a soaring US dollar since funds tend to flow to countries that have higher interest rates
On 8 September, the European Central Bank (ECB) increased its deposit rate by 75 basis points after an increase of 50 basis points in July. The ECB’s deposit rate has increased from minus 0.5% to 0.75%, which is still far below the Euro area inflation rate of 9.1% in August. Economists expect that there will be another increase of 75 basis points at the next meeting in December.
The Bank of Japan (BOJ) has retained its policy rate at minus 0.1% since 2016. The difference between Japanese and US interest rates has resulted in a sharp depreciation of the yen. On 22 September, the BOJ intervened in its currency market for the first time since 1998. The yen has depreciated by about 25% since the start of the year, which has contributed to an increase in inflation to 2.8%. On 22 August, the People’s Bank of China (PBOC) cut its loan prime rate by five basis points to 3.65%.
The Chinese renminbi has fallen to about 7.2 against the dollar from 6.36, a decline of 13.2%. In August, China had an inflation rate of 2.5%. On 22 September, the Bank of England (BOE) increased its bank rate by 50 basis points to 2.25%.
But the pound tumbled after a right-wing comedy show – or “fiscal event” as it was officially called- on 23 September when Kwasi Kwarteng, the UK’s new chancellor of the exchequer, announced unfunded tax cuts of £45 billion for the rich. On Wednesday, the BOE said it would buy bonds of £65 billion over 13 days to calm financial markets.
In a recent report, the World Bank said the global economy was in one of the most internationally synchronous episodes of monetary and fiscal policy tightening of the past five decades. ”As central banks across the world simultaneously hike interest rates in response to inflation, the world may be edging toward a global recession in 2023 and a string of financial crises in emerging market and developing economies that would do them lasting harm.”
However, interest rate increases, which are meant to reduce aggregate demand – the level of spending in the economy – are the wrong medicine to dispense when faced with supply side shocks such as rising oil, natural gas, and food prices. Interest rate increases are appropriate when there is excess demand in the economy – too much money chasing too few goods and services.
In South Africa, in May 2022, large industrial companies were only using 77.2% of their capacity, primarily because there was no demand for the goods they produced, according to Stats SA. There were too many goods chasing too little money. Also, Eskom has already done an effective job of reducing aggregate demand. The cost of power blackouts during the first six months of the year was R200 billion based on a gazetted cost of unserved energy of R87.75c/kilowatt hour.
With no end in sight to the power blackouts, the final tally for the year will be much higher. In such an environment, the Reserve Bank’s interest rate increases – of 275 basis points since November – are monetary policy sadism, especially since they will not address the root causes of inflation. Since peaking at a high of $133/barrel on 8 March, the Brent crude oil price has declined by 33% to $88/barrel due to fears of a global recession. Prices will trend lower if the downturn in the world economy continues
South Africa’s real interest rates – after considering inflation – are much higher than in other major economies. The country’s inflation rate of 7.6% is much lower than many developed countries for the first time in many decades. The core inflation rate – the indicator many countries now focus on since it excludes volatile oil and food prices – is only 4.4%. Inflation has peaked and will decline over the next year. Looking back, we will recognise that this spike in inflation was transitory.
Internationally, economists have called for the use of other policy tools to address supply-side shocks. Countries have introduced fiscal policy measures to protect vulnerable groups. UK prime minister has announced subsidies worth £150 billion over the next two years that could reduce inflation by five percentage points. Economists Isabella Weber and Mark Paul say there is a need for a surgical approach – targeted measures – that directly reduce price increases that have been driving inflation.
They point to the US Emergency Price Stabilisation and Inflation Reduction Acts, which include measures such as price controls to limit price increases in systematically significant goods and services: gas, housing, food and electricity and others that tackle underlying supply issues and price gouging behaviour by some companies. South Africa must also consider targeted interventions – a “whole of government approach” – that could include a basic income for poor households, subsidies for taxi owners, price caps for electricity increases and large reductions in the fuel levy.
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