Economic growth not encouraged by high inflation

Tuesday, November 8, 2011

Pretoria - Low interest rates and high inflation do not encourage economic growth, economist Chris Hart said on Tuesday.

"Low interest rates in the developed world have become counter-productive.... Growth has to be funded. In South Africa where interest rates are at 5.5%, we cannot get growth going," said Hart adding that inflation was too high to stimulate growth.

"Savings is a critical part of driving economic growth," he said. In September the Consumer Price Index (CPI) rose to 5.7%. Hart said that this rate is too high to make savings worthy.

The South African Reserve Bank is tasked with pursuing a target for CPI inflation of 3 to 6 % while also looking at growth.

Hart said growth has to be funded and that if interest rates were too low one did not get savings to fund growth. "That is what is happening in the developed world," he said.

In some developed nations, interest rates are at zero percent as a result of central banks cutting interest rates.

Inflation in most countries is rising while economic performance is slowing. "Economic performance is slowing. Do you deal with slow growth or inflation problem? Both require exactly opposite responses," he said.

In the case of South Africa, the central bank would likely focus on growth, said Hart, who added that this was now becoming difficult to achieve for most countries across the globe.

He said the reserve bank would likely keep interest rates unchanged for the whole year in 2012.

"The implication for our own central bank [is that] they are not going to respond to inflation, they are going to be thinking in terms of growth as a secondary mandate of which the primary mandate is inflation.

"That means that even though our inflation is going to rise more rapidly than consensus - of which consensus is that it will peak by between 6 and 6.5% in the first quarter - I think it's going to peak at around 7% in the second quarter mainly because of the weakness of the rand. The central bank could keep interest rates unchanged for the whole of next year," explained Hart.

He said the strength of the rand had kept inflation low. Additionally volatility would have an impact on the exchange rate because every country wants a weak currency in order to boost exports, adding that in 2012 the European financial crisis is still going to be of concern.

He said there was a universal easing of monetary policy.

This week the Reserve Bank holds its last Monetary Policy Committee (MPC) meeting on interest rates for the year. A decision is expected to be announced on Thursday afternoon.