Africa Weekly Review: Inflation targeting in South Africa and hyperinflation in Zimbabwe

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South Africa: Moving inflation targets

Among concerns arising from the change of leadership in the African National Congress (ANC) in December 2007 are the future of inflation targeting and the career prospects of the South African Reserve Bank (SARB) Governor, Tito Mboweni. As Thabo Mbeki becomes an increasingly lame-duck president, the ANC is contributing more to the debate on economic policy, and markets are dwelling more insistently on the pledges from Jacob Zuma, the ANC president and next president of the republic (assuming his many legal difficulties do not thwart his ambitions), that there will be no radical changes.

Gwede Mantashe, the Secretary-General of the ANC, has also sought to dispel any suggestions that the next South African president will be guided by the agenda of Cosatu, the trades union umbrella group, and the South African Communist Party, both of which supported Zuma’s ANC leadership campaign. This week he made clear his support for the policy of inflation targeting but insisted that the details, including the target range, were open for debate.

This latter point is ambiguous. A case can be made for shifting the range upwards since consumer price inflation (CPIX) has been above the current target range of between 3 and 6 per cent since April 2007, and global price trends for oil and food suggest that inflation will remain outside the range for another two years. The compelling argument against this case is that a shift upwards in the range will feed directly into inflation expectations, both statistically in the quarterly exercise run by the Bureau of Economic Research at Stellenbosch and in pricing behaviour and wage settlements.

More inflation and more growth?

Another rationale for raising the target range is that it would accommodate higher growth in the economy. This is almost certainly the thinking behind including discussions of the range in a broader policy debate about inflation targeting. Another related idea in circulation is that the National Treasury could relax its fiscal stance slightly for the same purpose (i.e., to deliver more growth). At the risk of oversimplification, the underlying premise here is that a little bit more inflation and a little bit more government spending will somehow boost the incomes of the majority of South Africans who have seen little benefit from the textbook macroeconomic policies in place since the advent of majority rule in 1994.

The genie out of the bottle

This (oversimplified) thinking has several flaws. To mention just two, there are dangers in encouraging inflation expectations. The genie, having been allowed out of the bottle, may develop claustrophobia and be reluctant to return. Second, inflation is not a friend of low-income groups, particularly when unemployment is high and the safety net is limited. Rather than increase the inflation target range (to accommodate growth), the purist would prefer to scrap it. A central bank can target low inflation without a formal regime in place.

Prime rate and CPIX yoy (per cent)

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For now the monetary policy committee (MPC) is expected to carry on as before: tightening on the basis of increasingly gloomy central forecasts for inflation and pushing back the point at which CPIX is projected to return to the range (currently, in the third quarter of 2010). This trend is likely to continue when the MPC next meets in mid-August, not least because the electricity regulator has granted Eskom a substantially higher tariff increase than SARB had built into its forecasts.

Adverse headlines during the evolving policy debate

However, the debate within the ANC about inflation targeting and broader economic policy is gathering momentum. It will escalate as the presidential elections approach in mid-2009. A volte-face is highly unlikely. That said, there will be changes in nuance and in detail, some of which could be unsettling. Some headlines attributed to senior policymakers will be negative for the market and bring a short-lived sell-off.

A related issue is the future of Mboweni. His current term as governor ends in August 2009. In the event of a volte-face in policy, he will look for the door marked exit. In the more likely event of changes at the margins of policy, the new government may well want to make a fresh start with its own appointment. It is worth recalling that Mboweni came to the post with a reputation for radical thinking, although he had first served a long watching apprenticeship. However, it is fair to say that he has joined the international club of central bank governors and consistently shown his orthodoxy.

Zimbabwe: Hyperinflation and regime change

The Governor of the Reserve Bank of Zimbabwe, Gideon Gono, has this week estimated annual consumer price inflation at 2.2 million per cent. On this basis, and the Central Statistical Organisation freely accepts flaws in its methodology, prices are more than doubling every hour. This figure could well be an underestimate. The principal source of this hyperinflation is money creation to finance the spiralling budget deficit. This will continue as the government tries, and inevitably fails, to maintain the value of its obligations such as salaries and domestic debt service (i.e., by rolling over maturing Treasury paper). The government is particularly keen to meet those obligations central to its survival, notably the salaries of senior military and civilian officials.

The interesting point for investors is whether hyperinflation on this scale must ultimately lead to imminent regime change. The small community with access to foreign exchange is largely insulated from the economic crisis. But those in salaried employment, both in the private sector and the vast majority of public employees, are seeing their incomes shrink in real terms. Without a second income such as from a smallholding, this group is accumulating huge debts. For the unemployed as well as Zimbabweans in subsistence agriculture, survival means living off the land and/or handouts. The economy has contracted each year this decade, as have the sources of handouts.

Hyperinflation helps to bring forward regime change. The government may look to buy time by seizing those foreign companies that are still operating, such as the platinum miners, on the basis of indigenisation laws. This would only bring short-term relief, because once the stripping of those assets still physically in the country had been completed, the government would have merely shut off one of its few remaining sources of revenue. This would result in a wider deficit, more money creation and another boost to hyperinflation.

How to get Mugabe to leave the stage

The timing of the change will be political in essence. His loyal coterie, the international/regional community, the population or a combination of the above will bring about the change. The talks between ZANU-PF and the MDC are and will remain problematic: an agreement between the two parties on the constitution of a national unity government will only bring a badly needed international rescue package if President Mugabe is kept away from the levers of power. The MDC knows this well, and it is in no hurry to reach an agreement. The challenge is to find a formula for Mugabe to leave the stage.

Recent research reports:

South African mining: Opportunities in a changing regulatory environment
Government negotiations are not one-sided.

South Africa Quarterly: Pre-election paralysis

South Africa: Not a party-state
The president is in no hurry to defer to the party.

Zimbabwe: The end game for the economy is nigh
Reforms on their way, whatever the election result

With best regards,

Gregory Kronsten
Director, Africa Research
Trusted Sources