The state can afford to fund free education for all, as the constitution says it should

The news yesterday that a man was killed by police during student protests calling for free education is a tragic reminder of the numerous and heavy costs of the state’s refusal to fund free education. In this article I will outline why funding education is affordable, why it will lead to higher productivity, employment and growth, and why it will result in a lower inflation to growth ratio. I will also explain why Treasury and the South African Reserve Bank are constitutionally bound to fund education.

The constitution of South Africa states that

Everyone has the right –
(a) to a basic education, including
adult basic education; and
(b) to further education, which
the state, through reasonable
measures, must make progressively
available and accessible.

This means that government must do everything within its reasonable power, to fund and deliver education for all. Treasury is bound by this obligation.

The constitution of South Africa also states that

The primary mandate of the SA Reserve Bank is to protect the value of the currency in the interest of balanced and sustainable growth.

The SA Reserve Bank (SARB) is the organ of state which has sole right to issue Rands. The SARB creates Rands when it lends to banks or to government. There is no limitation on the amount of Rands it can issue in order to achieve its end goal of balanced and sustainable growth, other than that it must keep inflation low.

Education is disinflationary

As long as the money being invested into education is being efficiently used, investing in education is net disinflationary. Education leads to more productive workers and business leaders / entrepreneurs, resulting in increased local production of energy, goods and services. Increased locally sourced supply of energy, goods and services results in lower prices, less imports and more exports. This protects the value of the currency in the interest of balanced and sustainable growth. Increased exports and reduced imports also result in less net South African (private sector + public sector) debt and more savings.

Because efficient investment in education is net disinflationary, and leads to more balanced and sustainable growth, the SARB is constitutionally obliged to fund it.

There are various ways the SARB and Treasury could fund education. I’ll outline some options below. If you don’t understand how bank lending and government spending involves money creation and how taxes and repayments of loans destroys money it might help you to read this article before we continue.

Education funded by private bank lending

One measure being proposed is to fund education through private banks issuing low interest student loans (creating money), which are backed by a guarantee from treasury. Those students that go on to earn above a certain threshold pay back the loans, and treasury pays back the rest. In this scenario, broad money (bank credit) is created by the issuance of student loans and that money is destroyed when the loans are repaid and when taxes are paid on increased incomes, sales and profits. While this scenario is viable, it is a bit more complicated than the alternatives below.

State funded public education

In this scenario, the state spends Rands into existence on building schools, colleges and universities, and employing teachers. Those Rands add to private sector savings and as they are spent onwards, increase private sector sales, profits and incomes, which are all taxed, destroying those Rands within a few transactions. The drawback with this scenario is that the poor will still be reliant on government schools, which have a poor track record.

The voucher system … an elegant alternative

Another possible way to fund education is for government to issue digital education vouchers to all learners for a certain amount each year. The learners / parents can spend the vouchers at any school (public or private) or university. I like this scenario because it means state and private schools compete against each other to attract learners, ensuring more efficiency and better quality education. If the state fails to provide adequate schools and teaching staff, the private sector can step in to fill the void. Digital vouchers have the added benefit of being easy to track. This assists in the collection of statistical data and in reducing corruption.

The schools redeem the vouchers at their banks who in return redeem them in at the SARB. This will result in an increase in broad money supply (deposits in accounts at banks) and base money supply (bank reserves held at the SARB). As those bank deposits (private sector savings) are spent onwards, they increase private sector sales, profits, and income, which are all taxed (destroying deposits and the reserves backing them) until after a few transactions those Rands will cease to exist.

As you can see, each of the above alternatives involve the creation of new money to fund education. If you are against SARB funding of government spending on education on the grounds that it involves “printing money”, are you also against banks issuing low interest student loans which creates money too? You should not be against either. Issuing currency to fund investment that increases productivity is disinflationary, whether it is the private sector or the state doing the investing, as long as it is spent efficiently. I would argue that the voucher system above is the most efficient way to fund education even though its funded by state spending.

We can’t afford not to educate

When the state spends Rands into private bank accounts on eduction, private sector savings increase, and when those savings are spent onwards on the goods and services the rest of us sell, or invested, our companies’ sales and profits increase, as do our incomes and savings. Increased profits, and a more educated / productive workforce, incentivises productive investment by the private sector, and increased savings funds that investment. Productive investment in turn increases production, employment and growth. The resulting increase in supply of local sourced energy, goods and services limits the increase in their prices. Increased exports and reduced imports strengthens the currency, and reduces net South African (private + public) debt while increasing savings.

Remember, when Rands the government spends into existence are spent onwards by their recipients, tax on those transactions, and the profits and incomes they generate, return those Rands to the state (destroying them) within a few transactions. Till then, they just add to private sector savings.

The question we should be asking is not, “Can we afford to educate our kids”…we clearly can…but rather “Can we afford NOT to educate our kids”?

The rich and upper middle classes already know the answer to this question. Private schools and top government schools with annual fees of over R50 000 per year are over subscribed.

Isn’t it it time treasury and the SARB carried out their constitutional duty to ensure our poorest children are not left behind? We will all pay the consequences if our poorest are left behind, and those costs will not just be financial.

If you like what I’ve written, please consider contributing to my Patreon account.  patreon.com/buddywells

Till recently, I have self funded my research and writing with my income as a musician and teacher.  With your help, I can dedicate more time and effort to being an activist for real change in the lives of our people.

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Taxes don’t fund state spending….state spending funds taxes: How spending by the state creates money, and how taxation destroys money already spent by the state.

Many South Africans wrongly believe that government spends “taxpayer money”. In this article I explain how the state creates new money when it spends, and how taxation just destroys money that the state has already spent into existence.

The South African Reserve Bank is the organ of state which is the monopoly issuer of Rands. This means that it has sole right to print Rand denominated banknotes, mint Rand denominated coins or digitally mark up the amount of commercial bank reserves held in banks’ reserve accounts at the SARB.

Banknotes, coin and bank reserves are called base money or M0 money supply. Only the SARB can issue base money. While banknotes and coin exist outside the SARB, digital bank reserves never leave accounts held at the SARB.

The SARB creates money by expanding its balance sheet on both the assets and liabilities sides through purchasing financial assets. When the SARB buys a financial asset (repos, bonds etc) from a bank for example, it creates Rand reserves (SARB’s liability) by marking up bank reserve accounts in exchange for that asset. This is one way that the state increases base money supply. Another way that the state expands base money supply is when treasury spends money into the private sector (more on that later).

Base money is not the only money in supply though. The SARB grants charters to commercial banks which allows them to create bank deposits (broad money) when they issue loans. When commercial banks issue loans, they are also expanding their balance sheet on both sides by buying financial assets. When a bank issues you a loan, it purchases your signed loan agreement to pay the bank the principal plus interest (bank’s asset) in exchange for marking up the deposit in your bank account (bank’s liability).

By marking up the deposit in your bank account, your bank is creating broad money (credit). Your bank deposit is the bank’s promise to pay you that amount in cash (base money) should you demand it from them. Because banks are required to hold a certain ratio of bank reserves to back their liabilities (deposits), when banks issue loans (broad money creation), they must then look to borrow the required reserves (to back those increased deposits) from other banks or the SARB (base money creation). Because banks are continually lending, and backing that lending with reserves, broad money and base money supply is constantly increasing, as the graph below shows.

SOUTH AFRICAN MONEY SUPPLY (M3 = broad money)

When loans are repaid, credit is destroyed. When you pay back the amount you owe the bank, the bank reduces its assets (you owe them less) and its liabilities (you have less money in your bank account). Broad money has been destroyed. Similarly, when banks repay money owed to the SARB, base money (M0) is destroyed. If money supply is expanding, as shown in the graph above, that indicates that banks are lending (creating money) at a greater rate than money is being paid back to them (destroying money).

But bank lending is not the only way that money is created and destroyed. Money is also created when government spends on procuring goods and services from the private sector.

Government has accounts at the SARB. The amount in government’s accounts at the SARB is not counted as part of the money supply, so when government spends money into private sector bank accounts, both base money and broad money supply increases as I will shortly explain.

All government spending is done from its Exchequer account at the SARB. As government spends from its Exchequer account at SARB, it creates an overdraft which is cleared by the end of each day by drawing money from government’s Tax and Loan accounts held at commercial banks (destroying money). At the end of each day, the balance in government’s Exchequer account at the SARB is 0.

Let’s imagine government spends R1 million into company X’s account at ABSA. Firstly, the SARB credits ABSA’s reserve account at the SARB with R1 million in reserves (creating base money). Simultaneously, ABSA credits company X’s account at ABSA with R1 million (creating broad money). That (and other) spending creates an overdraft in government’s Exchequer account at the SARB, which at the end of the day is rebalanced to 0 by drawing down on governments Tax and Loan accounts at the commercial banks (destroying money).

When taxes are paid, the opposite occurs and money is destroyed. Let’s assume Company X pays R100 000 in tax to SARS. ABSA will reduce the deposits in Company X’s account at ABSA by R100 000 and credit government’s Tax and Loan account at ABSA with that amount. No change in money supply so far. The R100 000 will sit in government’s Tax and Loan account at ABSA until government spending (money creation) from its Exchequer account at the SARB creates an overdraft, which requires government to draw down on its Tax and Loan account at ABSA. This destroys broad money and base money as ABSA will mark down the deposits in government’s Tax and Loan account (destroying broad money), and SARB will mark down the reserves in ABSA’s reserve account at SARB by the same amount (destroying base money).

Since taxation results in the destruction of bank reserves, and bank reserves can only be created by the state spending Rands into existence, either through government spending on goods and services or through SARB buying financial assets, it follows that the state first has to spend Rands into existence before it can tax them out of existence. As the state must spend money into existence before it can tax it out of existence, it follows that the purpose of taxation cannot be to fund government spending, as is commonly believed.

Taxation doesn’t fund state spending. State spending funds taxation.

Tax is necessary, but for other reasons:

  1. Tax creates fiscal space for more spending by government, because it removes money from private sector bank accounts, reducing demand and thus the possibility of demand pulled inflation.
  2. Tax increases the value of the currency by reducing its supply, and creating demand for it. You need Rands to pay tax.
  3. Tax is useful for influencing consumption and investment behaviours. A tobacco tax for example might discourage smoking.

So next time you hear someone talking about taxpayer money funding government, educate them. You are welcome to share this article.

For a more in depth explanation of how to optimise taxation policy please read Optimising tax policy: Why South Africa can afford to reduce all taxes on our poor, middle class and productive industries.

If you’d like to read a great academic paper on the topic of the real purpose of taxation, this paper by leading Modern Monetary Theory scholar, Professor Randall Wray, called “Taxes are for redemption, not spending” is illuminating. http://wer.worldeconomicsassociation.org/files/WEA-WER-7-Wray.pdf

If you like what I’ve written, please consider contributing to my Patreon account.  patreon.com/buddywells

Till recently, I have self funded my research and writing with my income as a musician and teacher.  With your help, I can dedicate more time and effort to being an activist for real change in the lives of our people.

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Posted in banks create money, capitalism, central banks, credit, debt, economics, financial, government, inflation, Modern Monetary Theory, money, money creation, quantitative easing, Rand, Rand depreciation, Reserves, SARB, sectoral balances, South Africa, South African economy, tax, tax doesn't fund government, taxation, taxpayer money, Uncategorized | 1 Comment

All investment is not equal: How local and foreign investment impact South African debt and wealth creation

Much has been made of South Africa’s debt levels. Many economists have stated that South Africa’s debt is too high. While I don’t agree with that assessment, I do think its important that we understand what drives our debt higher, so that we can properly identify strategies to reduce our debt if that is our goal. In this article I will explain why successful local investment reduces South African debt and increases our wealth, and why successful foreign investment can actually increase South African debt and reduce our wealth.

A brief glance at the graph below shows that South African debt to GDP is relatively low (note that this graph shows debt to GDP as it was in 2019, and that most countries debt levels have increased since then).

A comparison of pre Covid-19 national debt by country. (Most countries’ debt has increased since then).

To get a better idea of how investment affects our debt or wealth accumulation, we first must understand sectoral balances. Just as one person’s income must be funded by someone else’s spending, surplus in one sector must be funded by an equal deficit across the other sectors. If we divide the economy into the public sector, the South African private sector and the foreign sector, then net South African (private + public sector) financial surplus can only be achieved through foreign sector deficit (current account surplus). A net South African deficit means either increased South African debt or reduced wealth through asset sales. A surplus means either our debt decreases or we increase our ownership of assets (increased wealth).

The graph below which shows South Africa’s sectoral balances from 2000 to 2014 clearly illustrates that the only time there was net South African surplus (where private sector + public sector added together = surplus) is when the foreign sector was in deficit in 2001 and 2002. The rest of the time, the foreign sector achieved a surplus (2003 to 2014), which was funded by net South African deficit (public sector + private sector added together = deficit).

South Africa Sectoral Balances. Note that deficit in one sector/s = surplus in other sector/s

The current account shows the difference between the costs of importing goods, services and investment from overseas versus the income gained from exporting goods, services and investment. A foreign sector surplus means South Africa has a current account deficit. A foreign sector deficit means South Africa has a current account surplus. If reducing South African net debt is the goal, we must take into account the effect of local and foreign investment on our current account.

South Africa’s current account is usually deficit, and this deficit is being driven primarily by the extraction of primary income (interest, dividends and profit) from South Africa by foreign investors (shown in light blue in the graph below).

The only way to reduce net SAn debt without selling our assets is to achieve a current account surplus. We can either do this by increasing our income from exporting goods, services and investment, or by reducing our payments for imports of goods, services and investment from overseas.

Interestingly, from January 2020 to October 2020 SA achieved a record current account surplus, largely because South African households and businesses cut back on imports due to covid -19 related recession. Notice that during that time South Africa was a net lender to the rest of the world.

South Africa’s current account surplus of 2020 is unusual. Our current account is normally deficit and that deficit is mostly driven by the extraction of primary income (interest, dividends and profit) by foreign investors as the graph above shows.

current account deficit (foreign sector surplus) = net South African deficit = increased debt or reduced assets

Extraction of primary income by foreign investors is the major driver of South African debt accumulation. If we want to reduce South African debt, we should try to offset that profit extraction by prioritising foreign investments that lead to reduced imports into SA and increase exports of South African goods and services over foreign investment which does not lead to reduced imports or increased exports.

Foreign investment into local production of exportable goods and services reduces imports and increases exports. The forex income gained from those exports or saved by reducing imports offsets the forex lost when foreign investors extract their interest, dividends or profit from South Africa.

In contrast, foreign investment into industries that provide services to South African citizens does not have a similar offset in forex income from exports, unless those services provided play a role in increasing South African exports.

A foreign owned retail store, for example, that extracts a net profit from South Africa will increase net South African debt more than it increases our wealth, unless its operations somehow facilitate a larger increase in exports of South African goods and services than the amount extracted in profits.

Why local investment is best

Profit, interest and dividends (primary income) from local investment (into energy, goods production and services) remains onshore or, in the case of exports, is brought back into South Africa. This increases our current account surplus or at least reduces our deficit. It follows that local investment is more beneficial in terms of South African debt reduction and wealth accumulation than foreign investment is.

If South African debt reduction and wealth creation is our goal, local investment is preferable to foreign investment, and foreign investment into exportable goods and services is preferable to foreign investment into local service industries (extractive).

Local investment can either be funded by existing corporate and household savings, or by new money created by government spending or private bank lending. The South African Reserve Bank is monopoly issuer of Rands and the amount of money it can issue to fund local investment is only constrained in that it must keep inflation low.

The fact that primary income extracted by foreign investors is the main cause of our current account deficit means that extraction of primary income plays a major role in the devaluation of the Rand. The SARB is thus mandated to support local investment over foreign investment.

Increased local supply of energy, goods and services reduces inflationary pressure. Increased exports and / or reduced imports strengthens the Rand. Keeping profits, dividends and interest within South Africa also helps to keep the Rand strong.

By financing local productive investment (by the state or private sector) and prioritising it over foreign investment, the SARB would fulfil its constitutional mandate to “protect the value of the currency in the interest of balanced and sustainable growth”, and treasury would fulfil its stated goal of reducing South African debt. The same case can be made for prioritising foreign investment into the production of exportable goods over foreign investment into local services,

If you found this article useful, please consider contributing to my Patreon account.  patreon.com/buddywells

Till recently, I have self funded my research and writing with my income as a musician and teacher.  With your help, I can dedicate more time and effort to being an activist for real change in the lives of our people.

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Posted in capitalism, central banks, covid-19, debt, democracy, economics, employment, entrepreneurs, equality, financial, government, IMF loan, inequality, inflation, leadership, Modern Monetary Theory, politics, prosperity, Rand, Rand depreciation, SARB, sectoral balances, South Africa, South African economy, Uncategorized, wealth creation | Leave a comment

Was the IMF loan to treasury really necessary? A look at how Covid-19 and the downgrade affected South Africa’s balance of payments

In July this year, South Africans were told that Covid-19 and the ratings downgrade had created a financial crisis that necessitated a $4,3 billion IMF loan to South Africa. But the South African Reserve Bank’s (SARB) recently released balance of payments (BOP) quarterly figures tell a very different story. From January to June this year there was no balance of payments crisis that would have necessitated a foreign currency loan from the IMF. In this article I will unpack South Africa’s BOP quarterly figures, and show that, rather surprisingly, the flow of investment money from South Africa was driven largely by South African banks lending to non-residents.

South Africa’s current account shows a deficit of just over R8 billion for each quarter this year (totalling R16 671 billion for Q1 + Q2). This means that from January to June this year South Africa spent R16,7 billion more on imports of goods and services and on payments to foreign investors than South Africa earned from exporting goods and services and from South African investments overseas.

Over the last decade, South Africa averaged a quarterly current account deficit of around R40 billion. This means that the Covid-19 crisis has thus far resulted in a much lower current account deficit for South Africa than normal.

The financial account shows that while foreign portfolio investors sold R152,3 billion (Q1 + Q2) worth of South African equities and bonds, South African portfolio investors sold R121 billion of their investments overseas. This means that there was a net outflow of portfolio investment of just R31 billion over Q1 and Q2.

However, there was a net inflow of direct investment of R56 billion over Q1 and Q2 which more than offset the R31 billion portfolio outflow.

Furthermore, Q1 and Q2 show a net inflow in financial derivative investment of R27,5 billion.

Unrecorded transactions show a net inflow of R10,2 billion (Q1 +Q2).

Net other investment shows an outflow of R110 billion over Q1 +Q2 mainly due to South African banks and non-banking sector lending around R115 billion to non-residents during Q1 and Q2 (see net acquisitions, other investment below).

The flow of funds on SA’s balance of payments for Q1 and Q2 can be summarised as follows:

Because R64 billion more flowed out of South Africa than into South Africa in Q1 and Q2, the SARB sold R64 billion worth of reserves over Q1 and Q2 to fund the forex shortfall. Thus outflows match inflows.

Its important to note that despite the downgrade and the Covid-19 crisis, from January to June South Africa did not suffer from a balance of payments crisis due to the withdrawal of investment from South Africa.

Though foreign investors withdrew R385,3 billion of investments from South Africa, that withdrawal was almost matched by South African investors repatriating R357,5 billion of our offshore investments (only R27,8 billion less).

And though R128,5 billion was invested offshore in Q1 and Q2 by South Africans (mostly South African banks lending to non-residents), R98,4 billion worth of foreign investment flowed into South Africa during the same period (just R30 billion less).

Though R58 billion more investment flowed out of South Africa than into South Africa during Q1 and Q2, it should be noted that if South African banks had not lent R95 billion to non-residents in Q1 and Q2, there would have been a net inflow of investment of around R37 billion into South Africa.

The SARB is mandated to regulate South African banks and can control the flow of bank lending so that bank lending does not create liquidity problems. It appears that the SARB has no issue with selling SAn reserves to fund South African banks lending to non-residents.

Investment flows (direct, portfolio, derivative and other investment).

Given all of the above, it is clear that treasury South Africa did not need to borrow $4,3 billion in forex from the IMF. Perhaps the IMF loan made sense as it offered South Africa a chance to borrow forex at a lower interest rate than it usually pays, but South Africa was not driven to borrow from the IMF out of desperation.

“But isn’t the IMF loan needed to fund government’s huge budget deficit this year?” some of you might be asking. The answer is an emphatic no!

Because Treasury SA spends Rands into the economy, the IMF forex loan does not give treasury increased spending capacity locally. Forex is only useful to make payments to the foreign sector for imports, pay off forex loans or to lend or invest overseas.

The plan may be for government to use the forex from the IMF loan to procure from foreign sector companies. If so, that should be resisted because doing so will add to our balance of payments shortfall and thus increase South African debt. The South African government should procure only from the South African private sector as far as possible (increasing SAn employment, profits, incomes, savings, and increasing the tax base).

Because treasury SA cannot spend the IMF forex loan into our economy, as South Africans transact in Rands, treasury has to first sell the forex it borrowed from the IMF to the South African Reserve Bank in exchange for Rands.

Because treasury can borrow the Rands it needs to fund government’s budget deficit from the South African private sector or take a loan directly from the SARB at the repo Rate (now 3,5%), there is no need for treasury to borrow forex from the IMF or other foreign investors unless South Africa is suffering from a balance of payments crisis (a forex shortage).

As the consequences of the Covid-19 crisis are still playing out across the world’s economies, it is too soon to tell if there will be a balance of payments crisis for South Africa in future. However, from the evidence so far, it seems that the IMF loan was a political choice and not one made out of desperation or necessity.

And if the South African state is borrowing forex simply to procure from foreign companies or to finance South African private sector bank lending to foreigners, South Africans should ask themselves why South African tax payers must foot the bill.

You can read the full SARB BOP quarterly figures at https://www.resbank.co.za/Lists/News%20and%20Publications/Attachments/10267/09Statistical%20tables%20%E2%80%93%20External%20economic%20accounts.pdf

If you found this article useful, please consider contributing to my Patreon account.  patreon.com/buddywells

Till recently, I have self funded my research and writing with my income as a musician and teacher.  With your help, I can dedicate more time and effort to being an activist for real change in the lives of our people.

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Posted in capitalism, central banks, covid-19, debt, democracy, economics, employment, financial, government, IMF loan, inequality, inflation, Modern Monetary Theory, politics, prosperity, quantitative easing, Rand, Rand depreciation, Reserves, SARB, South Africa, South African economy, tax, taxation, Uncategorized | Leave a comment

SAA’s performance must be measured by its effect on South Africa’s balance of payments with the rest of the world, and not by SAA’s effect on our government budget deficit.

Much has been made of SAA’s financial losses, which required it to be bailed out by government numerous times over the years. As they have added to the government budget deficit and thus increased public sector debt, these losses and bailouts have been used as justification to call for the privatisation of SAA. In this article I explain why SAA’s effect on the South African economy must be judged not on its effect on public sector debt / savings, but on its effect on net South African debt / savings (public and private sector), and for this we must look to South Africa’s balance of payments account.

The effect of SAA bailouts on net South African debt

SAA bailouts increase the government budget deficit and thus also increase government debt. However, as long as the government is borrowing from the South African private sector, or from the South African Reserve Bank (SARB), South African net debt is not increased, as it is offset by increased assets (government debt securities) held by our private sector or SARB.

Increase in government debt = Increase in private sector / SARB assets

The effect of SAA operations on net South African debt

When government borrows from the foreign sector, net South African debt (public and private sector) does increase, but government does not have to borrow from the foreign sector unless we have a balance of payments (BOP) shortfall with the rest of the world, leading to a shortage of foreign currency.

Until we see figures for the effect of SAA’s operations on South Africa’s balance of payments, its impossible for us to judge whether or not SAA’s operations add to South Africa’s net debt or reduce it.

Tourism is a R400 billion per year industry in South Africa. How much do SAA’s operations increase South Africa’s tourist industry’s income from foreign tourists traveling to South Africa (BOP surplus)? Estimates are around R10 billion per year but this needs to be verified.

When foreigners purchase air tickets for SAA flights, that increases SAs forex income (BOP surplus).

When South Africans buy air tickets to travel on SAA flights, that money stays within SA. If SAA were to stop operating, and South Africans instead purchase air tickets to fly on foreign owned airlines, that money flows out of South Africa (BOP deficit).

There are many local, regional, and international routes that SAA operates that provide opportunity for trade and business. How do these routes affect South Africas income from exports (BOP surplus)? South African income from exporting goods and services is around R1,4 trillion per year. How much of this does SAA operations facilitate?

Conversely, what is the amount that SAA pays to the foreign sector per year on importing fuel, renting aircraft, accommodation, airports etc. These import expenses add to our balance of payments deficit, which drives South African debt higher.

This must all be worked out before we can judge whether SAA increases net South African debt or reduces it. Judging SAA’s effect on our economy on its effect on the government’s budget is extremely shortsighted and potentially very costly.

I find it quite amazing that the South African tourism and export industries with so much at stake are not questioning the untested narrative that SAA operations are costing our nation. If, for example, SAA operations result in an annual net R50 billion balance of payments surplus due to increased tourism and trade etc, does it really matter that SAA runs at a R5 billion loss per year? While a R5 billion bailout adds R5 billion to government debt (which just adds R5 billion to South African assets), a R50 billion balance of payments surplus reduces South African net debt by R50 billion.

If SAA were privatised, sold to foreign investors, and run for profit, that profit would be extracted from South Africa, adding to our balance of payments deficit and thus adding to net South African debt. And because a private company would only run routes that are profitable, South African industries that previously earned tourism and trade income from unprofitable routes would lose that income (less BOP surplus).

Even if SAA is not privatised, and remains state owned, but only runs profitable routes due to a misplaced aversion to government debt, the effect could be an increase in South African net debt if it results in a loss of tourism and trade income due to cancellation of routes that are unprofitable to SAA. (While our current account is in deficit, a loss of forex income means an increase in deficit).

If you found this article useful, please consider contributing to my Patreon account.  patreon.com/buddywells

Till recently, I have self funded my research and writing with my income as a musician and teacher.  With your help, I can dedicate more time and effort to being an activist for real change in the lives of our people.

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Posted in Uncategorized | 1 Comment

Why the SA Reserve Bank must finance land reform and emerging farmers.

News this week that government will make 700 000 hectors of land available to young black farmers is a welcome development. There has been some discussion around whether transferring ownership of land would be better than the state’s strategy of long term leasing. I’ll leave that debate for others to pursue. In this piece I will discuss how these emerging farmers, and the broader land reform process, should be funded.

A smooth and just process to transfer land from the state and white farmers to black farmers is an urgent and critical issue that will either make or break the South African economy. We only need look to our northern neighbour Zimbabwe to see what happens if we get land reform wrong: The threat of expropriation of land without compensation can result in capital flight and a drop in investment into local crop production, leading to hyperinflation as a result of a catastrophic drop in local food supply, and a drop in forex income from exports, coupled with increased and unavoidable forex spending on imports of food and other essentials.

There is no question that land reform must and will happen. The question is, how do we implement a just and smooth land reform process that prevents capital flight and ensures continued local investment in agriculture and the broader economy. In short, how do we implement land reform in such a way that it protects the value of the Rand and is in the interest of balanced and sustainable growth?

Hold on a second. Where have I seen those words before? Oh, thats right, the Constitution of South Africa says “the primary object of the South African Reserve Bank is to “protect the value of the currency in the interest of balanced and sustainable growth“. What a coincidence!

The SARB is constitutionally mandated to do what it can to ensure that South Africa’s land reform process does not lead to hyperinflation and the destruction of our economy.

There is plenty that the SARB can do to prevent capital flight and drop in local investment in food and other productive businesses. The threat of expropriation without compensation (EWC) deters land owners from productive investment and spurs disinvestment and capital flight from South Africa. The premise for expropriation without compensation is the fallacy that the state “does not have the money” to pay market prices for land it expropriates. This is simply not true.

The reality is that because the state issues Rands (the SARB is an organ of the state), it can never “not have the money” to do anything. The state can issue and spend or lend as many Rands as it likes. The only limiting factor on how much money the state can safely issue is how the spending or lending of those Rands affects inflation.

The question is not whether the state can afford to pay market prices for the land it expropriates. It can. The real question is how that spending will affect inflation.

We already understand that expropriation without compensation can lead to inflation or even hyperinflation if it results in capital flight and a drop in local productive investment, resulting in a drop in local supply, increased imports and reduced exports.

But how will SARB-financed expropriation with compensation at market prices affect inflation? Similarly how will the SARB financing of emerging farmers with low interest loans or grants affect inflation?

The state buying land from farmers at market prices and giving that land to suitably qualified black farmers might result in a slight increase in the price of farm land, but the price of food and other goods will remain pretty much constant as long as the production of crops on that land does not decrease. In order to ensure that crop production does not decrease, the SARB can also finance the training of potential land recipients, and also finance the equipment needed to farm the land. This would have very little inflationary effect.

Some of you might ask why the SARB should fund this process and not the Land Bank. The Land Bank is not like a commercial bank in that it does not create new money when it issues loans. It is only a development finance institution which means it must borrow money on the market first before it lends. The result is that it cannot provide funding to farmers at interest rates below the rate it pays at the market to borrow money itself if it is to avoid going bankrupt.

Because the Land Bank does not borrow Rands directly from the SARB at the repo rate like other banks do, farmers cannot access finance at the optimal rate (closer to repo), making hurdle rates for farmers higher than necessary. The Land Bank also does not have access to the amounts needed to fund land reform. For these reasons, the SARB should either fund land reform directly or by providing loans at repo to the Land Bank so that the Land Bank can finance land reform cheaply.

If the SARB issues loans to the Land Bank at repo, the Land Bank can offer qualified black farmers ultra-low interest loans with which they can buy farmland and equipment.

There will probably be political push back against expropriation with compensation from those who believe that white farmers should not be compensated for expropriated land because the land was stolen from the indigenous people of South Africa. While that sentiment is understandable, one should remember that if a farmer’s land is expropriated at market value, the farmer is not gaining materially from the transaction. Most farmers are emotionally and financially invested in their farms and if given the choice, would rather keep their farms. They would still be losing their farms… for most farmers that will be a huge loss.

Recipients of expropriated land on the other hand would benefit materially from the transaction equal to the market value of the land given to them and the finance for equipment and the training made available to them.

While I’m sure the process will be messy and difficult, I believe that we cannot delay land reform any further. The endless policy uncertainty that farmers and other investors have been faced with regarding the threat of expropriation without compensation is proving extremely costly to South Africa’s economy in terms of capital flight and drop in local productive investment.

Even more pressing is the frustration and anger building up amongst the majority of black South Africans who suffer greatly from the legacy of colonial conquest, forced removals, apartheid discrimination and exclusion, and other injustices who remain landless, unemployed and poor while most whites who benefited from those injustices are employed, relatively wealthy and own property of some kind.

We must move with haste to implement a just and smooth land reform process. Lack of funding can no longer be used as an excuse. The SARB is constitutionally mandated and able to fund land reform immediately.

There is no legitimate excuse for the delay. Its been 25 years since apartheid ended. Let’s get on with it so that we can build an inclusive, united, prosperous nation.

If you found this article useful, please consider contributing to my Patreon account.  patreon.com/buddywells

Till recently, I have self funded my research and writing with my income as a musician and teacher.  With your help, I can dedicate more time and effort to being an activist for real change in the lives of our people.

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Posted in agriculture, capitalism, central banks, corruption, debt, democracy, economics, education, employment, entrepreneurs, equality, financial, freedom, government, human rights, inequality, inflation, land reform, Modern Monetary Theory, non-racialism, politics, prosperity, quantitative easing, racism, Rand, Rand depreciation, Reserves, revolution, SARB, socialism, South Africa, South African economy, tax, taxation, Uncategorized, wealth creation | Leave a comment

Dismantling the myth of the “Mbeki boom years”

South Africa’s mainstream economists seem obsessed with running government budget surpluses. Many commentators continually point to Mbeki era government surpluses in 2006 and 2007 as examples of good policy and debt reduction. In this article I will explain how the Mbeki era government surpluses were in fact funded by massive private sector deficit and household debt accumulation.

Thabo Mbeki was South Africa’s president from 1999 until 2008, which are often referred to as the “golden years” for SA. GDP growth reached a high of around 5% from 2005 to 2007.

GDP Growth SA
SA’s Current Account Balance as % of GDP

SA even briefly achieved a small current account surplus in 2001 and 2002 (see above), before shifting to large current account deficits of around 5% of GDP from 2007 to 2009. This means that in 2001 and 2002, South Africans earned more forex income from exporting goods, services and investment than we spent on importing goods, services and investment, but from 2003 onwards we spent much more on imports than we earned from exports.

Below is a graph showing the sectoral balances for SA from 2000 to 2014. SA’s sectoral balances show that the public sector surpluses in 2006 and 2007 (blue line above 0) were funded by private sector deficit which reached over 6% of GDP in 2007 (black line below 0). The red line far above 0 shows that the foreign sector ran massive surpluses from 2003 to 2009, also funded by the massive SAn private sector deficit of those years.

Note that the private sector surplus from 2000 to 2004 was funded mostly by government deficit spending. From 2006 to 2007, both the foreign sector and public sector ran surpluses, which means the South African private sector ran a deficit equal to the sum of those surpluses. I wonder if our mainstream economists who celebrate the budget surpluses in 2006 and 2007 even realise it was funded by increased private sector debt? And do they understand that private sector debt increased far more than public sector debt decreased during those “surplus” years?

Sectoral Balances show South Africa public sector surplus 2006 and 2007 was funded by private sector deficit.

While much is made of the fact that public sector debt was reduced by 14% from around 43% of GDP in 2000 to around 27% of GDP in 2007, nothing is ever mentioned about the fact that private sector debt increased dramatically over that time: From 2000 to 2008, household debt to GDP jumped over 15% and household debt to disposable income jumped from around 55% to just under 90%.

area chart of South Africa Household Debt: % of GDP from January 2001 to December 2019
Household debt to disposable income shot up to almost 90% in 2008

The private sector credit boom from 2000 to 2008, and the “wealth effect” due to rising real estate prices that it fuelled, contributed greatly to the high GDP growth SA achieved during those years. Conversely, the drop in private sector borrowing since 2008 has played a large role in South Africa’s slow growth rate since then.

Net private sector savings dropped to below 0 for the first time around 2008.

When the National Credit Act of 2005 was fully implemented in 2008, and the global economic crises hit simultaneously, the private sector stopped borrowing and banks stopped lending, leading to a steady decline in household debt levels from 2008 until today despite historically low interest rates.

Household Debt to GDP for SA

Important to note (see sectoral balances above) is that because the foreign sector was in surplus from 2008 to 2020, the funding which the private sector used to reduce its debt (2008 – 2012 and 2014 -2018) came from large public sector deficit spending into the economy. That private sector debt reduction would not have been possible without the public sector running large deficits. Sectoral balances dictate that if government does not deficit spend an amount at least equal to the foreign sector surplus (current account deficit), then the private sector will be in deficit.

Apart from selling assets to the foreign sector, the only way to reduce net SAn debt (public sector + private sector) is by achieving a current account surplus (foreign sector deficit). While we have a current account deficit, either the private sector or the foreign sector (or both) must fund that foreign sector surplus by running a deficit.

The “Mbeki boom” was really a big local private sector credit bubble, helped along by high commodity prices (export income) and a credit fuelled global economic boom which burst in 2008. Global GDP growth is usually around 3% per year but ran at around 5% from around 2005 to 2008 (see below)

Global Price Index of All Commodities (PALLFNFINDEXQ) | FRED | St. Louis Fed
Global GDP Growth (source IMF)

On reviewing all the data presented, it should be clear that the budget surpluses of 2006 and 2007 were funded by private sector deficit, and that it was that massive growth in household debt that drove the higher GDP growth rates seen during the “Mbeki boom”.

It is also clear that the National Credit Act which came into effect in 2008, coupled with a slowdown in global growth led to a drop in private sector debt accumulation, which coincided with a drop in South African GDP growth. Household debt decreased and growth slowed despite historically low interest rates. This is particularly relevant now because our policy makers still seem to be under the illusion that dropping interest rates must lead to increased borrowing, and thus stimulate the economy. I hope this article helps to dispel that myth too.

If you found this article useful, please consider contributing to my Patreon account.  patreon.com/buddywells

Till recently, I have self funded my research and writing with my income as a musician and teacher.  With your help, I can dedicate more time and effort to being an activist for real change in the lives of our people.

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Posted in capitalism, central banks, corruption, debt, democracy, economics, education, employment, equality, financial, government, inequality, inflation, Modern Monetary Theory, politics, prosperity, Rand, Rand depreciation, revolution, SARB, socialism, South Africa, South African economy, tax, Thabo Mbeki, Trevor Manuel, Uncategorized, wealth creation | 2 Comments

The Case for Pay Gap Moderation

On the 16th of August 2012, 34 of our countrymen were massacred by police on a rocky hillside next to the township of Marikana after a protracted strike for a living wage. The company they worked for averaged billions in profit per year, and execs made 10s of millions (100s of times more than than rock drillers doing the real work).

Today, 8 years later, pay gaps in SA remain extreme: The average gap in pay between worker and executives in South African companies is 80 times. Amongst top JSE listed firms, pay gaps are around 300 times. In this article I will examine what drives our extreme company pay gaps, and explain why moderating them is logical, just and beneficial to our businesses, communities and nation.

Pay gaps are driven by disparate bargaining power. Bargaining power (privilege in the form of wealth, education, power, access to capital, access to successful role models etc.) is extremely skewed in SA, largely due to injustices like colonial conquest, forced dispossession, apartheid, unequal education, state corruption, racism, systemic racism and other injustices.

Any person in South Africa who is in a privileged position should bear in mind the historical and current injustices that allowed us access to the privileges we enjoy. We should also remember that those who are less privileged than us are often in that disadvantaged position largely because of historical and current injustices.

Because bargaining power in South Africa is extremely disparate largely due to injustice, the question we must ask ourselves is: Is it moral and just to leverage our own bargaining power to capture much larger shares of our company’s productive gains at the expense of those of our team-mates with less bargaining power?

In our market driven system, the salary of a worker is not determined by the quality of his work or the value that his labour adds to a product or company, but rather by the supply of labour. The more jobless people there are who can do that work, and the more desperate they are for work and money, the more bargaining power an employer has compared to the employee. Is it responsible for to take advantage of this lack of bargaining power to drive down the wages of employees so that our own reward can be increased?

Large wage gaps cannot just be explained through the law of supply and demand.  A large factor influencing wage gaps is the simple fact that executives often decide their own salaries and also the salaries of their workers.  This explains the disparity between the salary of a teacher, nurse or policeman, and the salary of a member of parliament: There is a shortage of teachers etc, but always a surplus of politicians. Politicians may argue that their job is more important than a teacher’s, but I doubt anybody else would agree with them. Teachers add huge value to society, and there is no doubt as to who makes more sacrifices and works harder, though admittedly there are some hard working and dedicated politicians.

The private sector is similar. When bosses don’t decide their own salaries, it is common knowledge that most remuneration boards are made up of like-minded executives who sit on each other’s boards and scratch each-other’s backs.

We should also remember that market price is not just affected by the supply of a commodity (in this case labour). It is also affected by the demand for money. A poor and desperate person will sell a valuable product for less than a rich person would, because he/she needs the money more urgently than the rich person who can shop around for a better price or wait for a better offer. Employers take advantage of this bargaining power and consequently the wage gap is growing continuously.

Part of the reason why inequality is so persistent is that many people still imagine there is some sort of magical divide between the rich and the poor, between capitalists and labour. Fundamentalist capitalist and socialist ideologies entrench this imagined divide. This is a form of Apartheid. These divisions are imaginary. There is no divide.  We are one people.

At the moment we are not acting responsibly.  The total pay of the CEO compared to that of entry-level workers averages around 150 times for JSE listed companies, while the gap in larger companies is around 300 times.  In a well-publicised example in 2011 one executive accepted 10 000 times more than his lowest paid employees earned.

These unsustainable income gaps are leading us to a crises point, and our crises can only be averted through responsible leadership.  Our business leaders have an opportunity to use their vast potential to shape a society they are proud of, in which we value and trust each other, and interact with each other in a respectful manner.      

How we value something is reflected in how we reward each other for it.  We should ensure that work is rewarded according to the quality of the work, the difficulty of the task, how much time and effort is expended, how dangerous it is, and the value that that work adds to a product or company and society in general.

Rock drillers that work in companies making billions in profits should not have to go on strike to earn a living wage. They should not be told by executives earning hundreds of times more than them that there is no money to pay them more. Execs in companies going bankrupt should not be getting massive bonuses.

In rewarding adequately, we demonstrate the true value of hard work, and we encourage quality people to do the kinds of work that would most benefit our country, our society, our companies and our people. However, because we have lost our values and use “the market” as an excuse, most employers reward people according to how desperate their employees are for work and money…the more desperate our workers are, the less we reward them, regardless of the quality of their work or value added.

Our people are more important than “the market”. We are the market. We have the power to shape a better world.  If we cede our responsibility in how we value each other to “market forces”, then inequality will continue to grow, leading to more mistrust, disrespect, social unrest, more crime, less investor confidence, more strikes etc.

Ever increasing inequality will inevitably lead to revolution.

Evolution would be far more beneficial, and in order to evolve peacefully to prosperity and unity, we have to take back our power, act responsibly and tackle inequality, by choosing to truly value each other.  

The benefits of Pay Gap Moderation:

Pay-gap moderation creates jobs!

By spreading capital into the communities that need it most, pay-gap moderation allows more people to save, invest or simply spend their money on the goods and services the rest of us sell. We will always lack jobs if there are too few employers. By distributing money into the communities we will create more employers.

Less industrial strike action


With pay gap moderation, labour strikes would arguably occur less frequently as employees in struggling companies would be more willing to make a sacrifice if they knew that their bosses were making sacrifices alongside them, and that they would get a fair share once the company starts making profit.

Workers are incentivised

Workers would have more incentive to work harder at making their company a success.

More investment

Greater equality leads to social and political stability, encouraging investment and leading to an economic environment in which business can flourish.

The East Asian countries of South Korea, China, Taiwan and Japan took active steps to ensure that wage inequalities were kept within bounds during their development, and have grown far more quickly than countries like SA, which have not made an effort to limit inequality. Nothing scares investors away more than social and political instability and uncertainty!

Pay-gap moderation is non-racial:

Pay-gap moderation is completely non-racial. It creates a culture of equality, respect, goodwill and prosperity. It brings people together, whereas the race-based BEE schemes, though currently necessary, and despite their limited success, continue to divide us into race categories. With pay-gap moderation, race-based empowerment would be far less necessary.  
No matter who owns our companies, or what colour executives are, if workers in our companies continue to earn poverty wages, poverty and inequality will remain, and real, meaningful transformation will be impossible. Pay gap moderation is the most efficient and effective way to simultaneously limit income inequality and stimulate the economy.  


Pay gap moderation limits the power of personal and structural racism:

The pay gap in SA companies is the most lasting, damaging and pernicious legacy of apartheid and centuries of personal and structural racism.  Economic inequality empowers racists, and is the backbone of racism.  Pay gap moderation helps to limit economic inequality and because South African economic inequality is largely along racial lines, limiting economic inequality also means limiting racial inequality.  
Extreme pay gaps can no longer be seen as “normal”.  

Pay-gap moderation is more effective than taxation at distributing wealth

Pay-gap moderation is a far more efficient means of distributing wealth than our current model of taxation and welfare for the following reasons:

  1. With taxation, the government is the “middle man” between the rich and the poor. Government is ineffective at distributing that money to where it is really needed. Salary-gap moderation takes out the “middle man”.
  2. Without salary-gap moderation, taxation actually increases inequality, because to compensate for the high taxes on their income, executives pay themselves more. In order to be able to be able to afford this, they pay their workers less.
  3. The tax-to-welfare model creates a culture of dependency whereas salary-gap moderation shows workers the true value of hard work by rewarding them appropriately for it.
  4. Whereas taxation siphons value from successful companies, salary-gap moderation would ensure that successful companies’ employees benefit from their hard work, retaining more value within the company, and leading to a happier and more stable and motivated work force.

In fact, because pay-gap moderation distributes wealth, there will be less need for welfare and therefore less need for taxation. Less taxation will boost the economy by making business cheaper and more competitive. Tax revenue that would have gone to welfare could now be spent on education, health etc.

​Pay gap moderation rewards excellence

With pay-gap moderation there is still reward for entrepreneurialism, risk, excellence, innovation and hard work By paying people appropriately for their efforts you demonstrate the true value of hard work.  

If you found this article useful, please consider contributing to my Patreon account.  patreon.com/buddywells

Till recently, I have self funded my research and writing with my income as a musician and teacher.  With your help, I can dedicate more time and effort to being an activist for real change in the lives of our people.

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Posted in capitalism, corruption, debt, democracy, economics, employment, entrepreneurs, equality, evolution, financial, freedom, government, inequality, leadership, Modern Monetary Theory, non-racialism, politics, prosperity, racism, Rand, revolution, SARB, South Africa, South African economy, tax, taxation, Uncategorized, wealth creation | 1 Comment

How neoliberal economists, media and free market “think tanks” promote policies that enable corruption, and then use that corruption as an excuse to call for more neoliberal, free market policies.

Corruption is very much the defining issue in SA right now.  In this article I will examine how policies proposed by neoliberal economists, and “free market” think tanks, such as government outsourcing to private sector companies and privatisation, has expanded the market for corruption, and how the corruption that resulted from those neoliberal policies is used as an excuse to call for even more neoliberal “structural changes”, a smaller state, privatisation, outsourcing etc.   

Neoliberal ideology is based around the idea that the private sector is more efficient than the state, and that smaller government and less regulation on markets benefits populations.  Neoliberalism reached its zenith in the 1990’s and early 2000’s after the US emerged as sole superpower from the cold war but has waned considerably since the market crash of 2008 which exposed serious flaws in unregulated markets. 

During the 1990’s much of the world rushed to deregulate and open up local markets to global capital and corporations. South Africa was caught up in this market optimism.  State owned companies like Sasol and Iscor were privatised, the Rand was freely floated on the market in 1995, and exchange controls were greatly relaxed to allow a more free flow of capital to and from South Africa. 

The tender system

The policies put in place by the newly empowered ANC government were heavily influenced by international agencies like the IMF, “think tanks” and private sector “consulting” companies. 

One of the free market reforms that then Minister of Finance Trevor Manuel undertook on the advice of these organisations was to allow government officials all over the country to procure services directly from the private sector.  Prior to that, government carried out much of its duties in-house, and all procurement had to go through a single board based in Pretoria (now Tshwane).

Trevor Manuel’s “reforms” created a larger, unbalanced, lightly regulated market, in which government officials can trade public money that they hold no personal stake in, with private companies that stand to make billions.

Transactions within the private sector are balanced in that both the seller and buyer has a stake in the goods and services being sold and the money used to buy them.  For this reason, private sector transactions don’t need much regulation. 

The tender market is different, in that government officials trade in public money they have no stake in, while the companies they transact with can benefit to the tune of billions.  

Because the tender system creates a market that is unbalanced, it must be highly regulated, or it will be abused.  This is exactly what is happening in South Africa.  We are learning the hard way that its foolish to apply free market principles to an unbalanced market.

The regulations placed on the tender market are full of loopholes.  There are no limits on profits made doing business with the state and no maximum salary cap placed on earnings of executives, “consultants” etc. within companies receiving tenders.  Money spent by government on private companies is not tracked and those companies are not audited properly.  All this means that companies can use laundered income from the state in order to pay bribes to officials (often using payments to accounts in offshore tax havens).

The media, anti-corruption agencies, political parties, and general public tend to make the fight against corruption about certain individuals.  For a long time, the faces of corruption were ex-president Zuma and the Guptas.  When Cyril Ramaphosa became president, many naively believed that corruption would miraculously end.  But since then evidence of continuing corruption continues to flood our screens.

The current “face of corruption” is Ace Magashule, but South Africans would be foolish to believe that by removing certain individuals, or even certain political parties, corruption will end.  Corruption is a systemic problem:  The tender system creates a market for corruption and incentivises it.  The only way to limit tender corruption is to limit unnecessary outsourcing by government, and by placing stricter regulations on procurement from the private sector.

Recent reports that the Department of Public Works outsourced the building of a border fence to a private company, and massively overpaid for it, raises the question:  Why does the Department of Public Works need to outsource to build a fence?  The only possible answer is that if it did not outsource, no-one would benefit from corruption.  The tender system incentivises wasteful expenditure.

Gateway legislation

If South Africans want to reduce corruption, we should ensure that the state in-sources as much as possible.  There is no reason for the state to outsource to build a fence.

If insourcing is impossible, I propose the following regulations to channel public spending to where it’s really needed:

  1. The state should only procure from South African owned companies.
  2. The state should place a cap on the maximum pay in those companies.
  3. The state should insist that all companies it procures from and grants exclusive licences to pay all their workers a living wage.
  4. The state should insist that companies doing business with the state don’t make excessive profit from a tender contract, and that workers in that company share adequately in those profits.  Investor shareholders must make a decent profit, but profit from public tenders should not be excessive.
  5. Companies receiving state tenders should be audited by state agencies.  Government should spare no expense in this regard.  
  6. As corruption and wasteful expenditure is inflationary, the SARB should invest in a system to track where public money being spent ends up.  A blockchain based currency system might help.   

By procuring only from South African companies with lower pay gaps, more public spending remains within our economy and is spent onwards within our economy, increasing the fiscal multiplier, and reducing our current account deficit.  Reducing our current account deficit in turn reduces South African debt and strengthens the Rand, allowing for lower interest rates.

Insisting on companies paying a living wage will ensure that public spending benefits entire communities, spreads capital more broadly, reduces poverty and inequality and drives up demand for the goods and services the rest of us sell, thus creating employment for others. 

Capping maximum pay and profit reduces avenues and incentives for corruption.

Neoliberal media

The same powerful neoliberal lobby groups that promoted privatisation and outsourcing are now using the corruption that has resulted to call for more outsourcing and privatisation.  They point to corruption and say “See!  Government is corrupt and inefficient.  We should reduce the size of government further, privatise and outsource more, and have even less regulation.”  Ideology and dogma makes it impossible for them to accept that insourcing and (where insourcing is impossible) tighter regulation is what is needed. 

Its also becoming clear that there is an entirely more sinister game being played.  The state spends almost R1 trillion per year on procurement from private companies.  Companies and political groupings that benefit from government tenders are using the media, anti-corruption lobby groups and think tanks to influence who gets political power to grant tenders and which companies benefit from them.  We now see newspaper wars between media houses backing different political and economic factions fighting for a share of the spoils.

Part of the reason there is no focus on real structural solutions, but rather a focus on corrupt individuals, is because political parties, large media houses and think tanks are politically and financially entwined with those who stand to gain from government procurement and don’t really want to disrupt the unbalanced procurement market.  They benefit too much from it.

So, even though government only employs around 2 public servants per 100 citizens (a tiny amount considering how many citizens are totally dependent on the state), South Africans will continue to be brainwashed into believing that government is too large, and that government should employ less people, and outsource more.

We will continue to be told that government is crowding out the private sector, even though resources are being under-utilised and our labour force is massively unemployed (including graduates).  We must recognise these claims for what they are: Lies!

Government can only crowd out the private sector when resources and labour are being used near full capacity, but free market proponents are either immune to logic or they have a stake in the game being played, and who plays it.  

No matter who plays the game, corruption will remain, unless the rules of the game are changed.  To reduce corruption and ensure government spending benefits all our people and all our businesses like it should, we must change the rules of the game.

If you found this article useful, please consider contributing to my Patreon account.  patreon.com/buddywells

Till recently, I have self funded my research and writing with my income as a musician and teacher.  With your help, I can dedicate more time and effort to being an activist for real change in the lives of our people.

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Posted in capitalism, central banks, cheating, corruption, debt, democracy, economics, employment, entrepreneurs, equality, financial, freedom, government, human rights, inequality, inflation, Modern Monetary Theory, politics, prosperity, Rand, Rand depreciation, revolution, SARB, socialism, South Africa, South African economy, tax, taxation, Uncategorized, wealth creation | 2 Comments

SA’s R760 billion budget deficit: The most cost effective way to fund it.

South Africa’s Minister of Finance, Tito Mboweni, has stated that due to the consequences of the Covid-19 crisis, government will run a deficit of around R760 billion this year.  The budget deficit is the difference between tax revenue collected and total spending by government.  Budget deficits are financed by borrowing either from the foreign sector, the SAn private sector or from the South African Reserve Bank. 

In this article I will outline why:

(1) The most cost effective way to fund the budget deficit is for treasury to borrow from the foreign sector only an amount equal to our balance of payments shortfall,

(2) As long as inflation is below target and demand is too low, the rest of the budget deficit should be funded by loans at the repo rate from the SA Reserve Bank 

(3) Borrowing from our private sector only makes sense once demand pulled inflation threatens to breach the upper bound of the SARB inflation target.

Borrowing from the SA Reserve Bank

Because the SARB is the monopoly issuer of Rands, and thus controls Rand supply, interest rates on Rand denominated debt are determined by SARB policy.  Because SARB issues all Rands, the SARB is the cheapest source of Rands.  The SA Reserve bank creates Rands every time it lends to banks at the repo rate (currently 3,5%).

The SARB does not have to buy government bonds in order to finance treasury.  The cheapest form of funding SA’s budget deficit is with a bank loan from the SARB to treasury at the repo rate.  The SARB is legally empowered by the SARB Act to issue loans to government.  When government spends that money loaned into the private sector, bank reserves increase as the SARB transfers reserves from treasury’s account at the SARB to the reserve accounts of the commercial banks at which the beneficiaries of treasury’s spending hold accounts.  Because this increase in bank reserves can drive interest rates below where the SARB would like them, the SARB must sterilise any excess reserves by selling SARB debentures to banks at the repo rate.  In order for SARB to remain solvent, it cannot lend to government at below the cost of sterilising the added reserves.  So a loan from the SARB at repo is the cheapest way to fund the government deficit.

SARBact3

While inflation is below target and cost pushed (not demand pulled), and demand, employment and growth are too low, funding government’s deficit with a loan from the SARB makes sense as it (1) reduces government’s interest payments, thus reducing wasteful expenditure which is inflationary; (2) increases demand, employment and growth, and (3) increases private sector incomes, profits and savings.

Borrowing from the South African private sector

Government can finance some of its budget deficit by selling bonds to our private sector.  Selling bonds to our private sector drains liquidity from the financial system, which drives up interest rates.  When demand pulled inflation is too high, and the SARB wants to increase interest rates in order to reduce demand pulled inflation, it makes sense for treasury to sell bonds to the private sector.

While inflation is below target and mostly cost pushed, and demand, employment and growth are too low, it makes more sense for government to fund its deficit with a loan at repo from the SARB than to sell bonds to the private sector.  As government deficit spending funded by SARB drives up private sector incomes, savings and profits, demand will increase.  If this demand is not met by an increase in local production, prices will increase (demand pulled inflation).

Because treasury pays higher interest rates to borrow from the private sector than is possible when borrowing from the SARB, it only makes sense to fund government’s deficit with bond sales to the private sector if demand pulled inflation threatens to rise above the SARB’s target, and the SARB wants to raise interest rates to reduce demand.

Foreign currency

If SA spends more forex on importing goods, services and investment than our forex income earned from exporting goods, services and investment, then we will have a shortfall in foreign currency.   This shortfall in foreign currency is called a current account deficit.

As you can see on the graph below, even though SA normally runs a current account deficit, SA’s trade and services account is fairly evenly balanced and has actually been in surplus for the last 4 years.  SA’s current account deficit is driven mostly by a large primary income deficit (foreign investors extracting profits, dividends and interest on their investments here).

Current Account 2020-08-08 at 12.59.11 PM

Attracting foreign investment (which is reflected on the capital account as opposed to the current account), helps to keep the exchange value of the Rand strong, as foreign investors buy Rands to invest here.  Foreign investment includes when foreigners lend us money.

To maintain the value of the Rand, and ensure we have enough forex to pay for imports, SA must attract foreign investment (reflected on the capital account) equal to our current account deficit.  Our current account deficit (capital account surplus) over the last decade has typically been around R150 billion per year.

I have seen no evidence thus far that our current account deficit will be higher than average this year.  In fact, over the 1st quarter of 2020 South Africa achieved a current account surplus for the first time in decades (see graph above).

Because foreign investment includes Foreign Direct Investment and investment in JSE stocks and other financial assets that are not government bonds, government bond sales to foreigners need only equal the difference between the Current Account deficit and Capital Account surplus from inflows of other foreign investment (FDI, JSE stock purchases etc).

In order to maintain Rand strength, the SA Reserve Bank must maintain high enough government bond yields and interest rates (on bank deposits) to attract whatever foreign capital is necessary to make up for the balance of payments shortfall (current account deficit – capital account surplus).

Because the interest rate needed to attract foreign capital is higher than the repo rate, it makes no sense to borrow more than necessary from the foreign sector.  This is especially true because interest payments to the foreign sector add to our current account deficit, weakening the Rand further, and increase SA’s debt.

Conclusion:

  1. SA only need borrow from the foreign sector an amount equal to the shortfall in our balance of payments (current account deficit – capital account surplus).
  2.  As long as demand pull inflation remains too low, the remaining budget deficit should be funded by loans at the repo rate from the SA Reserve Bank.
  3. Only once demand pulled inflation threatens to breach the upper bound of the SA Reserve Bank inflation target does it make sense to borrow from the SAn private sector in order to reduce bank reserves and drive up interest rates.

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