Monetary policy: input by two economists

FINANCE PORTFOLIO COMMITTEE
28 March 2007
MONETARY POLICY: INPUT BY TWO ECONOMISTS

Chairperson: Mr N Nene

Documents handed out:
Bureau for Economic Research presentation on Monetary Policy
No document provided by FNB Chief Economist

Audio Recording of the Meeting

SUMMARY
The Bureau for Economic Research said that South Africa’s economic growth had been growing very well since 1994 where the rate was around 3.4% to where it was now at 5%. In terms of employment, across the retail and manufacturing industries amongst others, there had been a steady increase in employment creation. One area of concern nationally, was the balance of payments. At 6% of GDP this was very high.

Dr Bruggemans said that the economy had been growing steadily for a while now and did not really seem to be “straining itself.” That is, growths in demand were not accompanied by high wage demands and rising inflation as had happened elsewhere. Therefore, there was still a lot of room for the economy to grow.

MINUTES
Bureau for Economic Research (University of Stellenbosch) presentation
Prof Ben Smit said that South Africa’s economic growth had been growing very well since 1994 where the rate was around 3.4% to where it was now at 5%. The other notable feature of this growth was that it was stable compared to the period before 1994.

Overall, the performance of the primary sectors had been declining and most of the growth since 1994 had been in the tertiary sector. In terms of expenditure, there had been very strong domestic growth, especially in household spending. This was under-lied by strong confidence levels throughout businesses and by consumers as well. The Reserve Bank was concerned about the high levels of debt, but they were not as high as in countries such as the United States and the UK.

In terms of investments, there was a growth in investment across the board, among various industries, in particular the public corporations where there was a growth of about 40% last year. With regards to inflation, it was hovering around the 5% mark presently, and forecasts were that it would remain around 5% for the foreseeable future even though there some worries about inflation in the short term.

In terms of employment, across the retail and manufacturing industries amongst others, there had been a steady increase in employment creation. He said that it may have taken ten years but finally there was steady job creation.

One area of concern nationally, was the balance of payments. At 6% of GDP this was very high. The 7.8% level reached in the last quarter of last year was also very worrying. The Governor of the Reserve Bank and Minister Manuel had reiterated this was really not that big an issue as South Africa could finance the debt. The question that had to be asked here was: where do we go from here especially as the gap was probably going to grow. Would South Africa still be able to finance an even higher debt, and could the county attract foreign investment of over R100 billion per year for a sustained period. There were questions that had to be answered.

In terms of the Monetary Policy Committee’s (MPC) decision on 15 February to keep the interest rate the same, one had to analyse the role and function of that committee: to keep inflation within the 3 – 6% bracket. They had managed to do so for a long time now, so in that regard, the MPC had been successful. What the MPC had to try to do more of now, was reducing the current account deficit. Some economists were of the view that to reduce the deficit noticeably required a much higher economic growth rate than the current rate of 5%.

Overall, most economists were “quite happy” with the monetary policy passed in February. Some however thought that the MPC was “overly conservative” at times, but his personal view was that the MPC was responding well to certain possible risks. For example, household spending would merely increase to even higher levels if interest rates were dropped. He said the monetary policy was being handled in an “exemplary fashion,” keeping inflation down while allowing the rest of the economy to grow.

FNB Chief Economist presentation
Dr Cees Bruggemans, the FNB Chief Economist, said that another slow/poor performer in the economy was exports. They had increased to 5.5% of GDP but this was still very low. There was a strong demand element in the economy and the supply side of the economy was struggling to meet it. The result obviously was an increase in imports and an increase in the current account deficit and the balance of payments.

He said that the economy had been growing steadily for a while now and did not really seem to be “straining itself.” That is, growths in demand were not accompanied by high wage demands and rising inflation as had happened elsewhere. Therefore, there was still a lot of room for the economy to grow. The higher inflation in the last quarter was caused by external pressures, such as the rise in the oil price.

Discussion
Mr B Mnguni (ANC) asked what the time lags were between the capital investment imports and the performance outputs.

Prof Smit said that Minister Manuel had said that exports were going to improve in the future. In terms of the time lags that concerned infrastructure and the performance thereof, these could be considerable, for example in mining operations. However, those to do with energy provision could be less and their impact could be almost immediate. Therefore, the time lags in different areas could be varied.

Mr S Marais (DA) asked what the real reason for the spikes in the oil imports and prices were, and what the likelihood of that spike occurring again was. Would increased investment in the medium term lead to an increase in savings?

Prof Smit replied that a high demand in oil would lead to higher prices. South Africa’s refining capacity was nearing its maximum level, which also led to an increase in the importation of oil. This also had impact on the foreign reserves and asked questions about South Africa’s power supply. This was a reason for the recent discussions about the possibility of South Africa going nuclear and the sustainability of coal produced energy.

Dr Bruggemans added that a rise in prices would always occur where the resource was in short supply. Unfortunately the import of oil had to be paid with using foreign reserves so the country was “poorer” because of this. The Reserve Bank said that the price increases were a once-off thing but this remained to be seen.

With regards to the savings, he said that savings had to equal investment. There had to be a balance. However, in South Africa’s situation, there were less savings which led to the current account deficit. Foreign reserves had to increased and the Reserve Bank was looking into this. Some countries reserves were actually too big as keeping those reserves was not a cost-less exercise. The money had to be put to work.

Mr I Davidson (DA) asked how the interest rate affected or influenced the supply shock the country experienced from oil for example. To what extent was investment on the tradable side of the economy different from the investment on the non-tradable, as there was a view that more investment was going to the non-tradable side?

Dr Bruggemans said that when the central bank raised interest rates, it was doing so to address specific inflationary risks. He said that there had actually been increases in the fixed investment in the tradable sectors such as mining and manufacturing, and this would lead to an increase in exports. That is, not all fixed investment was going to the non-tradable side of the economy.

Prof Smit added that using interest rates on the current account could lead to the appreciation of the currency, which was counter-productive.


The meeting was adjourned.