After the Bell: How the Reserve Bank has proved the nationalisers wrong

18 Sep 2024

If there was any legitimate argument that the Reserve Bank should be nationalised, it is frankly negated by the stellar performance of the monetary authorities over the past four years.

We sit today on the cusp of a sea change in global interest rates: in a few hours, after this is posted, the US Federal Reserve will almost definitely cut interest rates for the first time in four years. Tomorrow, the SA Reserve Bank will do the same, and monetary authorities around the world will follow that trend if they haven’t started already. The tide has turned.

At this moment, it’s worth looking back a bit and asking why almost everybody who was bold enough to make a definitive prediction about inflation over the past four years got it so wrong. It’s remarkable, serious, and to my distrustful disposition, gratifyingly amusing. The good news is that in the quasi-political tug-of-war that is interest rates, the blame is equally shared. And, of course, the bad news is also that the blame is equally shared.

The issue here essentially concerns learning from history. If you can restrain your yawns for just a moment, it’s worth a reminder that in theory at least, those who don’t learn from history are doomed to repeat it. Actually, writer George Santayana originally wrote, “Those who cannot remember the past are condemned to repeat it,” which is slightly different. There are a host of other sonorous versions of the saying repeated ad nauseam.

The aphorism is similar to the slightly softer, “History doesn’t repeat itself but it often rhymes,” attributed to novelist Mark Twain. Oddly enough, although he did not make this comment, he did write a more flowery version in the novel, The Gilded Age: “History never repeats itself, but the kaleidoscopic combinations of the pictured presented often seem to be constructed out of the broken fragments of antique legends”. This apparently led humorist Max Beerbohm to quip, “History, it has been said, does not repeat itself. But historians do repeat one another.”

But here is the problem – which particular bit of history are you remembering? It sounds great to say you should take heed of history, but there is history and history, if you know what I mean. And when it comes to interest rates, there is a lot of history.

Whatever the case, even applying this softer-focus aphorism when it comes to interest rates begs the question, how much does it help to recall history? You have so many data points, it makes a big difference where you hear echoes and where you don’t. Interest rates, you could say, are a tricky echo system. (Ba-dum-tss)

The New Yorker columnist John Cassidy captures this case neatly in a recent piece, How inflation fooled almost everybody.

The Fed’s cut today is essentially a coda to pandemic-era fiscal policy, he writes, when interest rates were slashed around the world very fast to try to blunt the dire economic consequences of the pandemic. Once the pandemic started to wane, inflation started edging up, and policymakers, particularly those on the left, judged that this was a transitory phenomenon, and urged caution.

Fed chair Jerome Powell commented in a speech at the Fed conference in Jackson Hole, Wyoming with a touch of acid, “The good ship Transitory was a crowded one, with most mainstream analysts and advanced-economy central bankers on board”.

With inflation marching upwards relentlessly, peaking in the US (and most of the world) in early 2022, the “transitory” crew bailed, and the term was dropped by the end of 2021. So the hawks won this round. But then they fabulously overplayed their hand on the question of how difficult it would be to bring inflation under control.

“In June 2022, Harvard’s Lawrence Summers said it would require five years of unemployment above five per cent. During the next twelve months, the jobless rate barely budged, but the inflation rate fell by two-thirds, to three per cent,” Cassidy recalls.

What I remember along these lines is something even more dramatic: by late 2022, economists almost across the board not only said there would be a recession in 2023, but that the chances of a recession in the US were 100%. The Economist magazine published a piece saying a global recession was “inevitable” in 2023.

Not only was there no recession in the US or the world for that matter, there wasn’t even a recession in SA, one of the weakest economies on the planet. The hawks massively underestimated the resilience of the global economy in the face of much higher interest rates.

The wrong lessons

So what happened here? Essentially, I suspect economists were learning the wrong lessons from the wrong bit of history – easy to say in retrospect, I know.

What the hawks got wrong is that they invoked the inflation period of the 1970s when, Cassidy recalls, prices and wages chased each other upward and the inflation rate rose to more than 10%. Fed chair at the time, Arthur Burns, was widely blamed for failing to respond aggressively enough.

The echo to rather listen for was not from the 1970s but from 1947 after World War 2. Inflation jumped then to more than 14% in the US and this was because much of the productive capacity had been reassigned to war production, which had led to bottlenecks and shortages in consumer goods. This is comparable to the pandemic disruption of supply lines in 2021, exacerbated by the Russian incursion into Ukraine, which had the effect of boosting energy prices.

The result was a supply-side shock, which has gradually worked its way out of the system rather than buoyant demand (although that also contributed), exacerbated by governments all around the world finding ways to pump up their economies.

It goes without saying that the global economy of today is not the same as the one that existed in the 1970s. We knew that, but we didn’t know the extent of it. Globalisation has strengthened supply chains, economic systems are more resilient, inflation spirals are less common, monetary authority coordination around the world is better and labour unions are weaker. Ergo, actually, no period of history is comparable to this one.

There is just one further point to be made about the SA Reserve Bank, and that is that our monetary authority has demonstrated its utility and efficacy over this period. Frankly, they have covered themselves in glory. SA’s Monetary Policy Committee started increasing interest rates before the US Fed and started holding them steady slightly before the Fed did that, too. Yet, the difference between prime interest rates in SA and the US has been generally maintained.

The only question is whether the SA Reserve Bank should have started cutting faster, but a month here or there is hardly a grand issue. As if on cue, inflation came in this morning slightly lower than expected. If there was any legitimate argument that the Reserve Bank should be nationalised, it is frankly negated by the stellar performance of the monetary authorities over the past four years.

The utility of a truly independent central bank has been fabulously underlined; what a disaster it would have been if either the hawks or the doves had absolute control, as it was in places around the world where they were not. Hello Turkey, Venezuela, Zimbabwe et al.

Now, generally speaking, having remarkably achieved the flight path that avoided both an inflationary disaster and a large-scale economic recession – a trajectory that nobody thought possible – the only question that remains is whether monetary authorities can stick to the landing. That process begins in the US today and in SA tomorrow.

We will see, but honestly, I’m pretty confident; the hard part is done, just flip on the auto switch and let’s go home. DM

Categories:

Tags:

DM is much better if you are signed in...

Business Maverick

The wrong lessons