Tuesday, October 27, 2020

Gaolathe and Mohohlo dancing to different drumbeats

The much vaunted complementarity between the Fiscal and Monetary authorities has come under renewed spotlight.

Indications are that such complementarity talk is more of a public relations gimmick than substance.
It has come to the fore that the Minister of Finance, Baledzi Gaolathe, and the Governor of the Central Bank, Linah Mohohlo, are not only walking different and parallel paths; their paths could actually be leading to opposite destinations.

This has resulted in fresh calls for a national debate on the issue of using interests rates to influence inflation.

In its latest briefing, the estimable economic think tank ÔÇô BIDPA (Botswana Institute for Development Policy Analysis) goes at length to cast aspersions and doubts on the pronouncements, often made by the two authorities, that they are working together not to undermine each other’s objectives.

Compiled by researchers Monnane Monnane and Pinkie Kebakile, the briefing gives examples of an array of conflicting decisions that easily amount to a tug of war relationship between the two authorities.

BIDPA researchers come to the conclusion that such clashes could possibly have resulted in increased risks of public confidence on the Bank and the Ministry.

One glaring example of poor coordination between the two organs is the decision by Bank of Botswana to cut the Bank Rate by 0.25 percentage point in December 2003, in anticipation of falling inflation levels.

Immediately thereafter, the fiscal authorities shocked everyone else when they went the opposite direction by devaluing the Pula by 7.5%.

“The assumption one would have made at the time was that there was no immediate policy announcement that would appear to compromise the bank’s immediate inflationary expectation. This was, nevertheless, not to be. Hardly two months later, the Ministry of Finance announced the devaluation of the Pula by 7.5%. Commentators may therefore ask: when the bank adjusted the Bank
Rate, wasn’t it aware of the impending devaluation?

If it was, why risk public confidence by reducing interests rates only to increase them two months later? If it didn’t, then serious questions about the two institutions’ complementarity in managing the economy arise.”

There was a replay of the same tussle between the Bank of Botswana and the Ministry of Finance when in February 2005 the Central Bank announced an inflation target of a range between 3 and 6 percent, only for the Ministry of Finance to announce yet another Pula devaluation of 12 percent.

True to its traditions, the Bank responded by revising its inflation target from between 3 and 6 percent bracket to between 4 and 7 percent.
“One may, once again ask: when the Bank came up with its inflation target, didn’t it know of the impending devaluation?”

To drive their point home, the BIDPA researchers say for the two houses (Bank of Botswana and the Ministry of Finance) to retain and build public confidence “they should not be seen to be traveling different paths.”

In light of the aforesaid, BIDPA comes to the conclusion that, overall, the authorities have not successfully controlled inflation in the last two years. Another conclusion reached is that households in Botswana do not respond to interest rate changes the same way businesses do, and, as such, the Central Bank could by targeting growth in credit by barking up the wrong tree.

According to information brought forward, recent developments would suggest that inflationary pressure is from factors that have nothing to do with the target variable, i.e the growth in bank credit.

The end result is that changes in interest rates, as dictated by the country’s monetary policy, results in less borrowing by businesses, which in turn negatively affects investments in the country while household credit continues to fuel inflation nevertheless.

“It does not, therefore, seem off target to suggest a debate on the possibility of discriminating interest rates against consumption and investment.”

BIDPA is of the view that government expenditure does not seem to have a major influence on inflation. Imported inflation seems to lead the national inflation, they say.

To underscore the need for an open debate on the relevance of using interest rates to control inflation, the two BIDPA researchers go back four years to the day government introduced VAT (Value Added Tax) and the way the Central Bank responded.

In 2002, government introduced a 10 percent VAT. Then there was 5.9 percent in inflation to 8.8 percent, and another rise to 10.1 percent before a cool down to a single digit of 8.6 after a twelve month period.

Instead of allowing the VAT induced inflationary shocks to feed through the economy before landing down, the Central Bank responded by increasing interest rates in October, and again in November.

The increases in Bank Rate by Bank of Botswana following VAT introduction flew in the face of what the Monetary Authorities had observed at the time; that the increase in inflation in July was a passing shock, largely reflecting the effect of the introduction of VAT.

BIDPA researchers wonder how and why the Bank then linked the VAT inflationary impact with bank credit notwithstanding.

In a related twist, the Bank responded to Pula devaluations by increasing the Bank Rate.

“But the question remains, why increase the Bank Rate when it is well known that, naturally, inflation will ease after twelve months?”

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The Telegraph October 28

Digital edition of The Telegraph, October 28, 2020.