Employment-Oriented Central Bank Policy in an Integrated World Economy: A Reform Proposal for South Africa

Literature › Works

Gerald Epstein (2002). Employment-Oriented Central Bank Policy in an Integrated World Economy: A Reform Proposal for South Africa. PERI Working Paper Series, No. 39. Political Economy Research Institute, University of Massachusetts Amherst.

Type	working paper
Scope	Post-1994 South African economy
Method	policy analysis
Period studied	1994–2002
Regions	South Africa
Themes	transition post apartheid, macro fiscal finance debt, inequality poverty unemployment, comparative theory
Citation key	epstein2002

Argument

Epstein argues that South Africa's post-apartheid macro framework (GEAR, inflation targeting, gradual relaxation of exchange controls) followed Washington Consensus prescriptions but delivered high real interest rates, stagnant growth and unemployment above 40%. He claims foreign finance follows domestic success rather than leading it, and that inflation targeting has weak evidence of benefit while moderate inflation carries few costs. He proposes that the Reserve Bank target employment growth subject to an inflation constraint, retain and tighten capital controls (speed-bumps, transaction taxes), and add credit-allocation tools such as asset-based reserve requirements and special discount windows. The case rests on international literature, cross-country regressions on inflation, growth and FDI, and South African interest-rate and firm-survey evidence.

Evidence and method

Secondary literature (Obstfeld and Taylor, Eichengreen, Bernanke et al., Hanson); Kahn and Farrell (SARB) real interest rate data from IMF; World Bank/Johannesburg firm surveys (Lewis 2001); Gelb's National Enterprise Survey; Heintz and Gibson-van Seventer investment studies; the author's own OLS/panel regressions on c.70 countries 1960-97 (FDI, inflation, growth); OECD indicators.

Findings

• Real interest rates in South Africa rose sharply from the 1950-69 period to the 1990s. (p. 5)

  short term real interest rates rose from 1.2 % in the period 1950-69, to 5.6% in 1990-2000, while long term real interest rates increased from 1.9% to 5.7%

• GEAR achieved macro targets but not employment or growth outcomes. (p. 4)

  Most problematic of all, employment growth fell, poverty rates are high and unemployment rates stand at over 40%.

• Foreign finance follows development rather than leading it, and LDCs' share of global liabilities has fallen. (p. 8)

  In 1900, LDCs in Asia, Latin America and Africa accounted for 33 percent of global liabilities. In the 1990's, by contrast, they accounted for only 11 percent.

• South African real interest rates are high relative to peers despite sound fundamentals; the premium is attributed partly to crime and political instability. (p. 21)

  It is plausible to suggest that the interest rate penalty is due to perceptions of criminal problems and political instability in South Africa

• Firm surveys show the cost of credit is a leading perceived obstacle to expansion. (p. 17)

  As for the cost of capital, 61 percent of the firms reported being adversely affected by the higher interest rates during 1998

• The cost of reducing inflation greatly exceeds the cost of moderate inflation, per Walsh's cited estimates. (p. 27)

  increases in inflation in the U.S. from 3% to 10% would cost about 1.3% of GDP whereas the lost output associated with reducing inflation from 10% to 3% was calculated at about 16% of GDP

• Author's cross-country regressions find no negative effect of moderate inflation on growth. (p. 28)

  inflation, far from having a negative impact on economic growth, seems to have a positive impact.

• Proposed alternative: employment growth target constrained by inflation. (p. 31)

  an employment growth target would be chosen, subject to an inflation constraint, where the inflation constraint is no lower than necessary.

• Policy recommendation to use credit allocation as additional instruments for the employment target. (p. 34)

  Among the most promising are various mechanisms of credit allocation. Examples of these include: asset based reserve requirements, support for pooling and underwriting small loans

• Recommends retaining and strengthening capital controls rather than liberalizing. (p. 37)

  In short, South Africa should not feel compelled by external forces to liberalize.