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When should the stimulus packages be halted?Exceptionally aggressive policy stimuli have limited the depth of the global economic contraction, but will not prevent a prolonged period of sub-trend growth. While consumers and governments restore their damaged balance sheets, there is also likely to be additional downward pressure on the growth trajectory from a very strong response from global regulators. South Africa will not escape the indirect impact of sub-trend global growth but, along with many other emerging markets, should be able to weather the storm better than most of the advanced economies, writes Elna Moolman.
In the immediate aftermath of the global credit crisis, fiscal and monetary authorities aggressively eased policies to avoid the Armageddon scenario that markets initially feared. However, no government can sustain this stimulus indefinitely, and there is in any case an acknowledgement of the risk that this could sow the seeds of the next bubble – and crisis – unless the stimulus is withdrawn timeously.
The first phase of normalisation will be the unwinding of crisis-related policy stimuli through a combination of programmes that mature, and discretionary policy tightening.
Many governments have already announced tax hikes as part of the fiscal recovery process, and some tax policy announcements in South Africa’s 2010 Budget are on the cards, particularly if the economy is on a stronger footing by then.
The subsequent phase should entail a wave of global regulations aimed at preventing a recurrence of the excesses and practices that caused the crisis. This will likely include micro-regulation of financial institutions and, more pertinently, macro-prudential regulation.
The point of the latter is that you cannot make the system safe by making each institution safe; for example, when all financial firms respond to common, prudential, market-based risk controls, they would all want to sell the same assets simultaneously, creating a liquidity gap.
Macro-prudential regulation will likely attempt to reduce the amplitude of boom-bust cycles by, inter alia, imposing counter-cyclical capital requirements; place far greater emphasis than before on system-wide stress testing and monitoring of aggregate leverage, liquidity and solvency; expand the perimeters of regulation to incorporate institutions such as hedge funds and credit rating agencies; and better align financial sector remuneration and incentives with long-term and firm-wide risks.
While most of the action will likely take place elsewhere, there is already a renewed debate around the role of monetary policy in causing or preventing financial crises.
While the outright targeting of, for example, asset price or credit growth is fraught with practical difficulty, central banks’ mandates will probably be broadened beyond the narrow focus on inflation to incorporate economic imbalances that may pose systemic risk, with even more emphasis on counter-cyclical policy than before.
The South African debate on inflation-targeting should be seen in this context; the repeated emphasis on the growth- and employment-enhancing benefits of low inflation in the recent Medium-Term Budget Policy Statement is encouraging in terms of the preservation of the inflation targeting regime until global policy-makers find a superior alternative.
The proposed macro-prudential regulations and the likely increase in the emphasis on contra-cyclical monetary and fiscal policy should assist in reducing the amplitude of the business cycle.
More regulation and a greater role for governments will likely weigh on the economic growth trajectory even beyond the near-term adverse consequences of policy stimulus withdrawal.
In any case, the elevated economic growth rates during the liquidity bubble were unsustainable and most estimates of potential economic growth will be downgraded. The pain should by and large be proportional to the pre-crisis excesses and prudence of fiscal and monetary policy in each country.
Generally, advanced economies, which were at the heart of the credit storm and also confronted by the challenges presented by ageing populations, will be the laggards for several years. The anticipated outperformance of emerging markets should also provide some support to domestic economic growth.
The sub-par growth trajectory will unfortunately provide little assistance to governments to grow out of their elevated debt burdens.
While another Great Depression appears to have been averted, we will continue to pay the price for the excesses of the credit bubble for several years.
While Finance Minister Pravin Gordhan stresses his commitment to restoring the fiscal metrics, this will be challenging against the prevailing domestic political backdrop.
