Vol.6 No.27, 27 July 2006

Interest Rates: A Need for Some Economics Nationalism

SANE received two responses from our mailing list to Norman Reynolds' article "Interest Rates: A Need for Some Economic Nationalism", distributed on Wednesday,19 July. Below please find the article, responses and Norman's replies.

A. Jessop Sutton raises objections to my proposal to use Savings as part and parcel of monetary policy, rather than the singular and limited concern with interest rates.

1. He sees the additional interest, as happened last month, of 0.55, even if going into savings, being a cost that will
work its way into inflation and which will act to swell the earnings of executives and profits of shareholders. He sees,
"That (the forced saving) would not be any blessing to the consumers".

Forced Savings will divert money from consumption, and so ease inflation, but it also, after a short lag, will begin to build up assets and provide an additional income stream. It redirects national effort from consumption to savings and investment. I, therefore, do not accept his objections.

2.He is right that, "Without raising interest rates, the Reserve Bank could have increased the legal reserve requirement to make money tighter" and so curb lavish consumption and reduced the import of luxury items. That would act to raise interest rates in the market and should be linked to a more judicious trade policy that limits the completely free right to buy anything from anywhere.

Diverting a related savings component to every loan would help achieve this whilst adding creativity to monetary policy. I would keep it simple, but, since computers here act on instructions, the larger the loan, the more progressive could be the terms of the related Savings, whilst holding rewards equal amongst all classes, see below, so that the rich and larger corporates are made to save more. This would help restore a balance of benefits to society and economy in general.

B. Richard Kettering’s story about his child and her attempt to save in a bank is sad and too common. It is not, however, what I envision for ‘forced savings’. The R 40billion or so a year generated would be collected by bank computers into individual Savings Accounts related to loan accounts. The ‘Savers’ would have certain options re the investment that followed. My CIF/CREF American life insurance company, used by American academics, provides similar choices to policyholders. (It is a mutual fund and so does not regard deposits or income as belonging to it and its (separate owners).

The Reserve Bank would set fixed periods for the forced savings from time to time in order to give effect to monetary policy aims. These periods would be for a year or more and would form part of the additional monetary policy instruments now added to the Reserve Bank’s arsenal.

Amongst these would be:-
a. long-term savings certificates. The terms of these certificates the Reserve Bank could negotiate with the banks since it has created and marketed the demand for these financial instruments, not the banks. Consequently, higher savings rates should apply than individuals could gain one by one. The banks are merely an agency of the state.
b. government bonds
c. investment in certain mixes in the JSE under named mutual funds.

This article was written by Dr Norman Reynolds

Tito Mboweni did warn South Africans that the credit /consumer / import binge cannot last. He has now fired a shot across our bows, a 0.5% rise in interest rates. This move punishes all of us for being so short sighted.

Some kind of brake was required. Was this interest hike all that he could do to correct the dangerous position the economy was in, essentially living, like the USA, on growing domestic and foreign debt?

The Governor (and government) might have considered how blunt are the sole goal of targeted inflation and the use of a singular instrument, interest rates.

While he warned and then punished us for unbecoming economic behaviour, the Governor could have considered widening his monetary goals and instruments. Rather than just inflation, why not also savings and greater citizen financial competence? Instead of using the banks to follow his lead with interest rates, why not 'partner' citizens and businesses in managing the economy?

With computers, it is possible to require that a related savings account be opened with each loan. With each repayment, usually monthly, a set percentage of the interest charge flows into the savings account. This is good banking practice: loan repayment plus a savings deposit. Some 50 million Credit Union members worldwide follow this practice: accept the double discipline - borrow and save!

With such a simple scheme in place, the decision to raise the interest rate by 0.5%, to contain consumer consumption and reduce imports, could have been implemented as follows: -

1.Increase the interest rate 0.5%.

2.Divert all of the 0.5% increase into related Savings accounts. This is essentially a 'forced'savings by citizens and business rather than a direct cost to borrowing.

3.This would have avoided punishing South Africans, built up their Savings, strengthened the domestic economy against foreign speculation, and would have blocked the ability of banks to hike profits upon higher interest rates.

The last four years of declining interest rates have seen the resultant rise of house prices, greatly increased debt, higher consumption, and greatly burgeoning imports. This has left the economy exposed to the whims of international speculative capital and jumpy world markets.

The Reserve Bank could have cut rates on loans, as it did, but it could have redirected all or part of those cost savings into individual and company savings: i.e. it could have split the lower cost of money, from lower interest rates, into Savings and into lower borrowing costs. The South African interest rates were, for a start, some 3% to 4% higher than our competitors. We could then have reduced interest rates more boldly than we did for remain in the shadow of the Stals era of national interest flagellation.

If the related Savings component was in place over the last four years, South Africans might have built up their savings by up to some R120 billion. That could have reduced our false reliance on foreigners to do our saving whilst they buy our country.

Citizens and businesses would today enjoy considerable additional income from that large savings that would substantially help them to overcome the punishment now meted out by a Governor lacking imagination and a Government unable to link the price of money to savings and thereby to citizen and business well-being. A little bit of Economic Nationalism, of putting South Africa ahead of global players, is highly desirable and completely possible.

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