The US has adopted a “whatever it takes” approach by throwing trillions of dollars at its economy to offset the deflationary impact of Covid-19. Independent economist Rian le Roux believes South Africa needs to follow the American example and commit to injecting more than has this far been set aside. The respected former chief economist of Old Mutual says it would be folly to under-estimate the deflationary impact of the 21-day shutdown and other consequences of the war against the virus, arguing that in these unique circumstances, for the SA Reserve Bank to create money is actually a very good idea. – Alec Hogg
Rian le Roux is the ex-chief economist of Old Mutual. Can you give us some insight into what the Americans have done by injecting $2trn into their economy and why you think it’s a good idea for South Africa to do something similar?
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If you look at what the Americans have done, just to put into perspective, $2trn is almost 10% of GDP. That is a massive stimulus program. Ben Bernanke, the previous chair of the Federal Reserve actually said what the Fed did early in the week with a massive buying program of assets was exactly the right thing to do. They got ahead of the curve, in other words what I’m arguing is that the biggest danger for policy is to under respond to a crisis and there’s no criticism of the government or reserve banks. Typically when you have a crisis like this you tend to underestimate the negative impacts of it, and very often the second and third round effects. In other words it goes from companies to the banks so they have bad debts and so on. That’s what Ben Bernanke also said, he praised the Fed and said it got right ahead of the curve. If you fall behind the curve you struggle to solve the problem.
10 percent of GDP In South Africa would be roughly $35bn and if you work that out, you’re talking R500bn, are my calculations correct?
I’m not suggesting that South Africa should do something to the same extent. What I am saying is that there’s no hard correct answer here, we should think very carefully about how this can impact the economy and make sure it’s on a policy front. We are ahead of the curve now, I think one can leave it up to the policymakers to decide what measures should be, but I’m just a little concerned that we are not doing enough. Once the GDP numbers come out and once we start to see the negative impacts spreading through the economy, we may realise that we’re behind the curve. What you should remember is that if we move decisively upfront and you over react, you could always take it back later. If you under react then you’re consistently running hard, just to prevent things from getting worse and worse.
Now a lot of people don’t understand or don’t get exponential reality, but in this case we have to quickly learn and quickly appreciate that what happens in the case of exponentiality is although South Africa today is sitting at about 700 infections, which by global standards is not bad at all. The problem is it’s going to start escalating, as it has been in the last few days and very soon it’ll be well into the thousands.
That’s correct. We are thinking about the impact on the economy. 700 infections out of 56 million people is essentially nothing but the impact to the economy is massive. There are lots of people that have gone from decent income last month, to nothing this month. I know a few of them and it’s very painful. So you must make sure that policy can actually help people in the crisis. That’s really the point I’m trying to make, is that we must make very sure, and the policy makers have got to make very sure that the policy stimulus that they’re putting in place is sufficient to carry the economy through the crisis to prevent second round negative effects and to ensure that you have stimulus in place when things start to improve on the health front so the economy can recover quite quickly. This is very clearly what the Americans are trying to do. They are ahead of the curve, they are putting in massive amounts of stimulus and they’re saying to themselves, look we will pick up the pieces later. You can ask yourself, ‘Will this kind of thing not cause inflation?’ Absolutely not. I mean how many people said during the Global Financial Crisis 2008 that the reaction would generate a lot of inflation. What did you see? Nothing. Why? Because it was simply offset by the very powerful deflationary forces.
Are we looking at a similar deflationary situation here with this Covid-19?
It’s hard to say exactly how deflationary this is going to be but there’s no question that the economy is going to have a massive demand shock and people are losing their incomes. If you look at balance sheets being hard hit through the fall of the equity market and even the declining. It will help people that have debt. But there are lots of people, especially older people that are relying on interest income, that sees income go down. So I think we should be very careful not underestimating the extent of this deflationary shock. We need to have sufficient policy stimulus in place to carry this economy through and to get a recovery going once things improve.
How much might that be?
It’s very hard to say. One would have to do some numbers on this one, but my gut feeling is rather than putting a number on it I would argue it is more that we have something in place and probably significantly more. Exactly on how much you need? This is not exact science, you only look back later and you say to yourself that was enough or wasn’t enough. I think what they have in place is good, it is sitting on the margin but I’m not sure it’s necessarily enough.
The obvious question for most people is where would the money come from?
That’s the problem that we have here, that there is no fiscal space. What other countries do? Where is the money coming from? A lot of the stimulus package is coming from central banks balance sheets. Which means that the central bank creates money, it prints money. The Fed is now going to buy corporate policy and mortgage bonds again and where does the money come from? They simply print it. In the kind of crisis like this, deflation shock is so massive that under normal circumstances printing money by a central bank is a very bad thing, is very inflationary. But if you’re faced with a deflationary shock like this, this is one of the things that you can do. You can use the Reserve Bank’s balance sheet. In other words you know in the short term you can create money, print money and then just take it back later. You reverse things again.
The Americans have created $2trn. We could create R2trn if we felt like it?
You’ve got two packages in America. You have the fiscal package and then you have what the central banks are doing. The fiscal package is $2trn as I understand it. What the central bank is doing and not exactly sure, it’s trillions of dollars but you’re talking about big numbers. In South Africa’s case, I don’t necessarily think we need the same kind of package. It’s hard to say. All I’m saying is I think what we have in place may not necessarily get the job done.
If I understand correctly, the bold actions or the reaction that the president has made in implementing a lockdown as has happened now, if that is successful could save the country an enormous amount of money in the long term because you’d need less to help us over the Covid-19 crisis. Am I reading that right?
That is 100% correct, but going back to the economy I think that there are a whole host of structural headwinds that are being put in place here that are not going to go away quickly. I’ve heard a number of people talking about the V-shaped recovery and it may be that the V-shape comes from a much lower level of output. So you haven’t got V-shaped recovery but actually you struggle to ever get back to where you were. Extremely good example is look at South Africa’s manufacturing production after 2008, it recovered kind of like a V-shape but it’s not back to where it was in 2007. That’s the problem. Initial recovery is V-shaped but you never get back because you just face a number of structural headwinds.
