Gill Marcus: Small economies caught in global crossfire

The burden of the global financial crisis is not borne evenly and small emerging countries are innocent bystanders as advanced economies battle to recover, says South Africa’s Reserve Bank Governor, Gill Marcus.

In a column titled “Consider the small nations caught in the central bank crossfire”, which appeared in the Financial Times on Friday, the governor said “smaller economies, particularly those with relatively well-developed and open financial markets, bear a disproportionate share of the burden of advanced economy spillovers”.

While the discussion about how the world returns to sustainable growth often centre around large economies, greater consideration must be given to the implications of policy choices in smaller economies.

The response to the financial crisis by major economies has resulted in low interest rates and high levels of liquidity (causing investors to turn to emerging markets for higher returns), but “one can have too much of a good thing”, she said.

Marcus explained that these capital inflows complicate macroeconomic policies in recipient countries through their impact on exchange rates and commodity prices. Resisting appreciation is not easy, and a continued trend results in an uncompetitive domestic manufacturing sector.

“It is time advanced economies did more to consider the effects of excessive and volatile inflows in emerging markets,” she said.

The financial crisis taught South Africa how difficult it is to deal with volatility.

“The currency depreciated quickly in the early days of the financial crisis. It recovered thanks to large inflows in 2009 and 2010 to our equity and bonds markets. While volatility is not new to South Africa’s foreign exchange market — such gyrations are clearly not in the interest of the broader economy.”

Marcus put forth, and tore down, a number of possible solutions to this dilemma:
Lower domestic interest rates are also an option, Marcus said, “but this is not feasible when inflation is at or above the upper end of the inflation target range [between 3% and 6%], which is currently the case.”

Direct intervention was another option, she said, “but our policy has been to avoid deliberately acting to achieve a predetermined exchange rate”.

And with an average daily turnover in the domestic foreign exchange market of $1.6-billion “trying to lean against currency moves would require a lot of costly intervention”.

While some countries impose controls on capital inflows, the jury is still out on how effective they are. Furthermore, a significant portion of foreign exchange trades take place externally, Marcus noted, and controls on particular types of inflows could be a disincentive to other types which are needed.

While some see the solution as tightened currency and trade controls, “this can only lead to the intensification of trade and currency wars, which is not in the longer-term interests of the global economy”.

Lisa Steyn


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