Loose monetary conditions

At a press conference held on 15 July, the Minister of Finance, Pravind Jugnauth, reckoned that “government is confronted with the problem of low-level investment by the private sector”, and he stressed that he “would prioritise fiscal discipline and financial prudence.” On the following working day, the Bank of Mauritius informed the public that a meeting of the monetary policy committee (MPC) would be held on 20 July, taking by surprise business operators who were expecting it to occur after the forthcoming presentation of the Government Budget, as suggested by a media release of 17 June. The timing of the action clearly indicated that the Bank took its cue from the ministerial public pronouncements to slash the Key Repo Rate by a further 40 basis points. This could have been hailed as an example of good policy coordination between the fiscal and monetary authorities: monetary easing should go hand in hand with fiscal discipline. But we are yet to see how the latter will be brought about: the Bank has put the cart before the horse. In the same breath, Governor Ramesh Basant Roi caused raised eyebrows when he described the current Finance Minister as “a fantastic guy”. It is already a matter of concern that a senior adviser to the ministry of finance sits on the MPC as a substantive voting member. That remark, which is inappropriate to say the least, provides further support to those who call the independence of the central bank into question. Remaining true to its principles of independence, the Bank of England refrains from making any sudden interest rate changes until it has sufficient information to properly assess the economic repercussions of the UK referendum in favour of Brexit. The Bank of Mauritius should have followed its example. By voting instead for an aggressive, pre-emptive easing of monetary policy, the MPC has signalled an imminent economic downturn. Now if both the ministry and the central bank appear unhappy with the local economy, they create the conditions of a self-fulfilling prophecy with households and businesses unwilling to spend. This lowering of the policy rate runs counter to a fundamental point the Bank has made in its Monetary Policy and Financial Stability Report published just two days before the MPC meeting. It writes: “The exchange rate channel has facilitated an enabling environment to support the export sector. The effects of loose monetary conditions and favourable exchange rate movements are yet to be fully felt on inflation as transmission channels are assessed to operate over a twelve to eighteen-month period.” Only eight months after the 25 basis points rate cut in November 2015, the Bank decides to loosen again its monetary policy. Admittedly, there has been a dramatic fall of the pound sterling in the meantime. But then, one cannot understand why the communiqué announcing the latest MPC action makes no reference to exchange rate developments, as if the appreciation of the rupee was none of the Bank’s concern! This deliberate omission raises suspicion about the real motive of the Bank, which is to assist Mauritian exporters to the UK market. Since it is difficult to explain to the population why they should be penalised for the benefits of a few, the Bank focusses the attention on investment and growth. The MPC members say that their decision aims “to support investment activity in the country and raise the growth potential of the economy”. These are empty promises to show that they have done their bit for the economy. The only source of investment and the only basis of growth potential are savings, which constitute real capital. Keynes himself equated saving with investment, but this is a tautology. As long as there exists a resource gap between saving and investment, there can be no sound economic growth. If saving is so low, it is because, as a result of central bank interventions, interest rates are not aligned with the true time preference of the society. It is a myth that loose monetary policies, i.e. monetary pumping and artificial decrease in interest rates, can grow an economy. In fact, they cause a reduction in the pool of real wealth that is savings. The unresponsiveness of businesses to the low interest rates indicates that monetary expansion has led to a waste of resources through malinvestment and overconsumption, revealed by bankruptcies and a contraction of business activity. Prolonging capital consumption will only postpone the inevitable process of readjustment. Such a policy has also redistribution effects. In a recent article, former Finance Minister Rama Sithanen rightly pointed out that “fiscal policy - taxes and transfers - can have a large, significant impact on lowering inequality and reducing poverty.” Lax monetary policy, on the contrary, fosters inequality and poverty. Money creation unjustly redistributes income and wealth from bottom to top as not all economic agents receive the new money at the same time. The first receivers still enjoy low prices, and when they spend the new money, it spreads across the economy and pushes prices upwards. The late receivers of the new money thus face higher prices and see an erosion of their real income. The early receivers are wealthy people who own assets and can pledge them as a collateral for new loans. They use these loans to make money in business or in buying more stocks and real estate that keep increasing in value. For their part, wage earners and pensioners must cope with rising housing costs, cannot save an average income and tend to be more heavily indebted. Loose monetary policies are therefore partly responsible for the growing schism in Mauritius between rich and poor.