Of Hawks and Hippos

The unexpected recent passing of former Reserve Bank Governor and Finance Minister Tito Mboweni robbed South Africa of one of its most distinguished policymakers and most colourful public figures.

Aged only 65, he still had a lot to offer. Tributes have rightly poured in from all corners, and there is no need to repeat those here. It does, however, provide an opportunity to consider the policy framework he helped build and assess its performance, especially ahead of next week’s Medium-Term Budget Policy Statement (MTBPS).

Mboweni’s first stint in government was as labour minister, between 1994 and 1998. He was instrumental in setting up a labour market architecture that gave workers real rights for the first time. However, many years later, Mboweni questioned whether the pendulum had not swung too far, with labour laws being too rigid, discouraging hiring.

It was as Reserve Bank Governor that Mboweni really made a name for himself. Despite his self-described radical leftist background, he ultimately became the quintessential central banker, and a hawk on inflation. The fact that he was able to make the switch says a lot about his own intellectual strength and flexibility, but that was also true of many of his generation of leaders who were often staunchly socialist but ended up embracing orthodox macroeconomic policies. For instance, the Reserve Bank’s independence was enshrined in the Constitution in 1996, fairly unique by global standards.

It also says something about how strong institutions, like the Reserve Bank, mould their leaders as much as the other way around. This is an encouraging thought given that South Africa has now fully entered the age of coalitions, and there might be greater unpredictability in who is appointed where in the years ahead.

As an aside, the vital role of institutions in economic growth and prosperity was acknowledged when Daron Acemoglu, Simon Johnson and James Robinson were awarded the Nobel Prize in economics last week. Institutions include organisations or agencies like the Reserve Bank or Constitutional Court that have a clear role to play in society and the economy, but also more informal sets of rules and conventions that limit overreach by powerful actors (notably the state). This supports the stable and predictable environment in which markets can function and scarce resources are allocated.

On target
Under Mboweni’s watch, the South African Reserve Bank (SARB) followed other central banks in adopting inflation targeting as its policy framework in 2000.

Inflation targeting has been mostly successful. On average, inflation has certainly been lower in the 25 years after 2000 than the prior quarter of a century. On average, it has also been in the target range, but the 5.8% average has been close to the top end. There were also notable spikes above 6%. Since we can’t run controlled experiments, it’s impossible to say whether inflation would be lower on average under a different policy framework.

Chart 1: South African inflation

Source: LSEG Datastream

What we can say is that inflation targeting has given the general public an inflation number to anchor on, which influences what it expects future inflation to be and how to respond. The trick now is to get that anchor lower, so that people believe average inflation in future will be lower, impacting their pricing decisions. To this end, the Reserve Bank explicitly started talking about the 4.5% midpoint of the range in 2017, to get the anchor down from 6%.

At some point in the future, it wants to lower the target further, probably to 3% where most of our emerging market peers are. It is the government, not the Reserve Bank, that sets the target, but the Bank might start subtly introducing the idea in its communication before government formally approves a change.

In a speech at Stellenbosch University last week, the current Governor, Lesetja Kganyago noted that South Africa and Chile adopted inflation targets around the same time. Chile chose 3% and South Africa a range of 3% to 6%. He argued that the lower target in Chile resulted in inflation running 1.8 percentage points lower on average than in South Africa. This means that the price level in Chile is 2.8 times higher than in 2000, while ours is 4.5 times higher.

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