Reserve Bank. Picture: SUPPLIED
Reserve Bank. Picture: SUPPLIED

IN A 1999 address while he was governor of the Reserve Bank, Tito Mboweni asserted that "inflation targeting should minimise the social and economic cost of achieving price stability". Mboweni’s US peer, Ben Bernanke, argued in agreement "a well-conceived and well-executed strategy of inflation targeting can deliver good results with respect to output and employment as well as inflation".

These are important statements on which to evaluate a policy that is continually and increasingly criticised. The debate on monetary policy, and indeed inflation targeting, is often emotional. Among the complaints is that inflation targeting is a blunt instrument in achieving price stability.

The role of the central bank is an evolved one. Central banks were created to fight financial crises. Over time, as financial crises became less frequent, they evolved into supportive financial institutions.

The actions of central banks such as the Federal Reserve in the US have been innovative in employing unconventional tools to achieve financial stability and avert economic catastrophe.

During the past decade since the global financial crisis, the conditions under which inflation targeting is implemented have changed considerably.

Globalisation, regular economic shocks, geopolitical instability and the widening gap in wealth and income between and within nations present sustained challenges to policy makers in central banks.

The volatility in global markets and economic indicators is driven by economic factors and a variety of political tensions across geographies and within nations.

How do short-term interest rates, the main tool of inflation targeting, become effective in this context?

During the past few years, SA has experienced a variety of problems, ranging from volatility in the labour sector to concerns about growth and debt in China. They have unsettled financial markets and led to continued weakness in the rand against the dollar and other major currencies.

A successful strategy in monetary policy requires the ability to convince the public and financial markets about the central bank’s commitment and ability to keep inflation low and stable. But how does it sustain such a position when the factors driving inflation are outside its control or the influence of its central instrument?

Inflation in SA, while within the targeted rate, has been hugely volatile, and the outlook remains as uncertain as ever, influenced by expectations of higher food prices driven by forces of nature, rising taxes, and a considerably volatile currency in which we denominate much-needed consumption.

Furthermore, the conversation about monetary policy and its efficacy will continue to erode its most prized pillar — credibility with the public.

More critically, the question arises whether, as inflation targeting is implemented today, it can "minimise the social and economic cost of achieving price stability", as Mboweni once argued.

The inflation trajectory and expectations continue to be volatile and on the upswing, while its social costs are perceived to follow the same trend.

Manufacturing and mining production have followed a negative trend during the past few months.

Employment growth and investment remain worryingly constrained.

Given these results, can we say SA is in keeping with Bernanke’s notions that "a well-conceived and well-executed strategy of inflation targeting can deliver good results with respect to output and employment as well as inflation"?

It is not just up to monetary policy to achieve growth in output and employment, but also fiscal policy. How and on what the government spends have important implications for social outcomes.

As Bernanke bemoans in his book, Courage to Act: "The Fed alone, with its chewing gum and baling wire, bore the burden of battling the crisis."

This is what the Reserve Bank has often reflected in its statement, with consecutive governors saying that responsibility for growth and employment also lay elsewhere. But how can economic policy, fiscal and monetary, work together in a coherent and co-operative way?

The direction of both these policies is contractionary, with spending by the government slowing while monetary policy seeks to reinforce the trend with consumers using short-term interest rates.

Rates are expected to rise when the Bank’s monetary policy committee meets tomorrow, while government spending is expected to be constrained when the budget is announced next month.

Things are not well.

Payi is an economist and head of research at Nascence Advisory and Research