As Louis Gossett Jr advises in the Windhoek ads, “Keep it real”.
When it comes to interest rates and alcohol, real is better.
So forget about inflation-targeting. Let’s have a new target: a positive real interest rate of say 3%.
What this simply means is that if inflation is 14% then the Reserve Bank’s influential repo rate must be 17%.
So interest rates will always be higher than inflation, and there will be no widespread incentive to spend rather than save. If the banks can somehow be “persuaded” to offer real interest rates to those unfortunate ordinary people who have savings accounts, so much the better.
There will also have to be a rule that allows much higher interest rates if inflation breaches some crucial point, probably 20%. At higher inflation rates much higher positive interest rates are needed temporarily to get inflation under control.
The reason for focusing on positive rates is that negative real rates introduce all sorts of distortions into decision-making. When real interest rates were negative in the 1980s I remember sitting around the table with a bunch of middle-class citizens who were all scheming to get deeper into debt because it did not pay them to have cash in the bank. The prevailing interest rate regime punished anyone with cash.
So in times of negative rates, the prices of hard assets, particularly real estate, soar. That means anyone who already owns a home, scores, and would-be homeowners struggle to jump on to the property merry-go-round. The more debt the merrier. Pensioners who have to live on the interest on money they have saved for years are simply ignored and left to eat dog-food.
I know there is a view that a higher inflation rate can be tolerated: Higher Education Minister Blade Nzimande once asked rhetorically what the magic was about the 3% to 6% target range for inflation.
There is none. You could have a target range of 10% to 15% but you would still have to put interest rates up and keep them up if the target range was breached and expectations were that it would not fall.
What, I wonder, would be the point of introducing such a more relaxed target range now? Inflation is falling fast, as economic growth cools. Luckily, it doesn’t look like we’ll get deflation, which is where prices continue to fall as people defer buying things indefinitely because they will always be cheaper tomorrow.
For me the importance of a target of 3% to 6% inflation is that it’s closer to zero than 10% to 15%. I remember well the years of steady average 14% annual inflation, and it really did not do the country any good in jobs or growth.
Lest you think that inflation is trivial, just look over the border at Zimbabwe. Inflation has rendered that country’s currency irrelevant, and consequently taken monetary policy out of the hands of the central bank.
Even if you task the Reserve Bank with targeting growth or jobs, it cannot just forget about inflation, or the currency will quickly go the same way as Zimbabwe’s, and an important part of any central bank’s mission is to preserve the value of the national currency.
What the new government can do, however, is try to ensure that we don’t rely on interest rates alone to keep inflation in check. And I don’t mean government should introduce price controls.
What government can do is moderate administered prices, that is the prices government already controls or has a major influence on, such as the prices of electricity, transport, and even education.
It can get more competition into the economy to lower prices. Part of this will be achieved through competition legislation.
And part will be through liberalising areas like telecommunications. In telecommunications government control — through licensing, through part-ownership of Telkom, and through it Vodacom — has achieved little, and was even counterproductive.
So it means a mix of actions and a refined policy. Privatise if necessary: nationalise if necessary. But all with the aim of greater efficiency, not control for control sake, or state patronage.
A new co-ordinated government push to counter inflation will achieve better results than leaving the Reserve Bank to do it all alone.
“don’t rely on interest rates alone to keep inflation in check. And I don’t mean government should introduce price controls”.
Interest rate ‘regulation’ IS price control…it is nothing more than price control on credit.
Price controls introduced to oppose market forces and sustain artificial levels of economic exchange have predictable results and do not work anywhere else, why would they work in the credit market?
Entrusted to control by bureaucrats, negative real interest rates sustained for politically popular reasons have lead to disasters blamed on ‘corporate greed’ or even diffusely to ‘capitalism’ instead of were it belongs, i.e. Government tinkering with the market.
Inflation is simply fraud, perpetrated by government through its ‘Central Bank’.
Money is borrowed into existence to fund expenditures which government is unable to raise through direct taxes because such would be too politically unpopular and obvious.
These ‘borrowings’ aren’t real money but IOUs (dud cheques) which dilute and debase the currency and steal from everyone attempting to save value in such currency.
No wonder inflation is of lesser concern to socialist leaning politicos…it allows them to spend money which does not exist and others to bear the cost.
How I would enjoy acceptance of MY personal cheques to be enforced through legal tender legislation!
Like I say, legalized fraud!
If governments ran balanced budgets and did not use state power to meddle with prices, we would not have ‘business cycles’ and volatile, unstable markets.
The interest rate is a very important tool of the Reserve Bank to control the inflation rate. This tool must however stay out of the hands of Cosatu/Sacp alliance, as it seems that their primary intent being to use it as a weapon and nothing else.
My lay mans logic tells me that to keep on lowering interest rates is not, by a long shot, going to boost the economy as some think it would.
Let us be realistic and ask ourselves who benefits the most and who looses the most as a result of low interest rates?.
Cheap money is good for business as it means bigger profits naturally!. But be assured that they certainly not going to employ people left right and center because of it.
It is also good for people who have to repay bonds, but the wise ones are not going to spend every cent they now gain, to boost the economy, are they?
The big losers will be the pensioners and other investors who rely on income from their investments.
It is also a fact that the mentioned category of people are also spenders of money. My opinion is that they spend more money in general, than people
repaying bonds. The question – how do we strike a balance?
A too low interest rate can force foreign investors in this market to disinvest, with bad after effects for the economy.
(1) Kindly explain the near zero interest rates of the first worlds
(2) Return on ordinary savings accounts minus or plus inflation according to your lobsided logic.
For thousands of years money was gold or silver (not paper) and banks made their profits on the margins between interest paid by borrowers and interest given to lenders.
Then the world went off gold, and off the dollar, and Japan went for zero interest rates – and banks started to make profits by speculating.
So why is the west still in the zero interest rate mode?
There is a big difference between a developed and a developing country as far as interest rates are concerned.
Being a developing country SA can logically not lower interest to zero, as the Sacp/Cosatu would want it, unless it wants to invite and create more severe monetary problems.
If a reduction of 3 percentage points has not done anything to stabilize food prices,or boost the economy, what difference is a further reduction of 3 percent going to make?.
I think it is important to remember that if interest rates go down to zero we will probably see foreign investment go down, banks making less money and close their doors and usually when a country’s banking system fails, the country fails. Real estate value will mean nothing cause anyone can borrow money and buy (not sure who would borrow you money at zero %).
I see no one has any logical explaination, but mS Beddy. The rest are all rent quote “economist” Thanks for your clarification Ms Beddy
lower interest rates foster more technological innovation and entrepreneurship, as it will be less expensive for companies and people to *try* new things, and less painful if they *fail*.
this is why interest rates should be low, in a nutshell.
of course, there are too many communists hovering around the money policy so *failure* will not be permitted to happen.
that said, if failure is not permitted to happen, then neither is success, as you cannot have one without the other.
oh well. y’all voted for these people, not me.
There is magic in lower inflation. Alan Greenspan correctly stated that low inflation is what sustained economic growth is based upon. It is very irresponsible to suggest an inflation target of 10% to 15%. Under the current Historical Cost paradigm inflation is always about TWO simultaneous systemic economy-wide real value destruction processes: (1) 161.6% cumulative inflation since April 1994 have destroyed 61.8% of the real value of the Rand in our monetary economy. (2) During the same period SA accountants have unknowingly destroyed 61.8% of the real value in the non-monetary or real economy of all Retained Earnings balances that remained in SA companies during that period and in the Shareholders´ Equity of all companies with no fixed assets or a lower percentage in companies with insufficient fixed assets to revalue because our accountants implement the very destructive stable measuring unit assumption as part of the real value destroying traditional Historical Cost Accounting model. When SA accountants freely choose to measure financial capital maintenance in units of constant purchasing power as per the International Accounting Standards Board´s Framework, Par. 104 (a) which is compliant with International Financial Reporting Standards, they will maintain instead of unknowingly destroy about R200 billion per annum in real value in constant items not updated in the SA real economy for an unlimited period of time and reduce economy-wide value destruction to simply a single destruction process by inflation in the real value of the Rand.
http://realvalueaccounting.blogspot.com