Economists criticise inflation targeting

INFLATION targeting is a useful mechanism for anchoring inflation expectations. But Brian Kantor, the investment strategist at Investec Private Securities, and Azar Jammine, the chief economist of Econometrix, say the approach should be flexible enough to accommodate unforeseen circumstances.

Kantor criticised Reserve Bank governor Tito Mboweni for ‘the way he has communicated his policies and managed expectations’. He said it was within the governor’s power to be ‘flexible’ by explaining why the target of three per cent to six per cent could not be achieved at certain points.Kantor criticised monetary policy for stimulating the economy when it was stronger and depressing it when it was weaker. He has long argued that a low interest rate environment, which promotes growth and favours equities, attracts foreign investment.This is contrary to the conventional view that high interest rates support the rand by attracting investors to local bonds and deposit accounts in banks. Kantor believes the growth outlook is a more powerful attraction than the interest rate differential.He said on Monday that the Reserve Bank should acknowledge that the exchange rate was a major influence on inflation – ‘the only time inflation fell safely within the target was due to rand strength in 2004 and 2005’ – and that it should not attempt to meet the target when the currency was weak.’Over the year, the governor should have qualified the goal in line with exchange rate movements,’ Kantor said.Jammine said the problems with inflation targeting in its present form was that it was based on movements in the consumer price index (CPI) – and previously on CPI excluding mortgage costs.’I have always felt very uneasy about targeting CPI inflation, because it can vary so much depending on assumptions and methodology.’As an example, he pointed out that the new weightings in the consumer basket, introduced in January, were already out of date because they were based on information collected almost three years earlier. In his view, CPI inflation would remain an unreliable reflection of reality until problems of this nature were addressed.South Africa is facing a structural adjustment, which is forcing up electricity prices. Electricity prices were kept artificially low to attract foreign investment. But demand rose so sharply that power utility Eskom was not able to meet it.’Electricity has been horribly underpriced and we have to have big increases, which will add an upward bias to inflation for some time,’ Jammine said.He suggested the target ceiling should be set at seven per cent to allow for the adjustment to take place.-Business Report