Ivo Vegter’s “Magic Money Tree Theory” is full of fantasy

In his July 28th critique of Modern Money Theory in the Daily Friend, the Institute of Race Relations’ online newspaper, Ivo Vegter builds several straw-man arguments that have nothing to do with MMT. Vegter’s article, tritely entitled “Magic Money Tree Theory”, was in response to an article by Duma Gqubule in which Gqubule listed SARB credit issuance as one of the funding options for the proposed Basic Income Grant (BIG).

Vegter’s argument is full of contradictions. Early in his piece, he says that MMT “did not emerge from any of the great schools of economics”, but then quotes Jeff Deis as saying “MMT finds origins in early twentieth-century chartalism“.

To back his claim that MMT “did not emerge from any of the great schools of economics”, Vegter provides a link to an article on MMT co-pioneer Warren Mosler’s website, which contains the following passage:

MMT is a reformulated blend of some older macroeconomic theories called Chartalism and Functional finance. But, it also adds a fresh dose of monetary accounting for intellectual muscle mass. Chartalism is a school of economic thought that was developed between 1901 and 1905 by German economist Georg F. Knapp with important contributions (1913-1914) from Alfred Mitchell-Innes. Functional finance is an extension of Chartalism, which was developed by economist Abba Lerner in the 1940’s.

Vegter then waxes lyrical about the shortfalls of Quantitative Easing, and inflationary monetary policy, but MMT does not advocate for QE, nor for inflationary monetary policy. QE is a policy choice that existed before MMT, and MMT is all about preventing inflation.

Leading MMT scholars have never advocated for QE, but rightly pointed out that it would lead to inflated asset prices, lower interest rates but no broader inflation. 20 years of QE in Japan and a decade of QE in the US, EU and the UK have proven them correct. This does not mean that they support QE. It just means they understand the monetary system.

This is how leading MMT scholar L. Randall Wray put it in a recent article.

“MMT does not support quantitative easing (QE), nor does it prescribe “helicopter drops,” for the simple reason that there is no such thing as a “helicopter-money” alternative to financing a fiscal-stimulus package. Instead, what MMT does is describe how a government that issues its own currency actually spends, taxes, and sells bonds as a matter of course. In doing so, the theory demonstrates that a government like that of the US does not, in fact, face financial constraints.”

“What MMT actually prescribes has nothing to do with sending “cash” to people or banks. Nor is the Fed “doing MMT” when it engages in QE or lends hundreds of billions to financial institutions. MMT merely underscores the fact that the Fed faces no financial constraints on its ability to buy assets or lend; it does not prescribe any particular action in this direction – and indeed is skeptical of such policies.”

“So, what does MMT prescribe? In terms of concrete policy proposals, MMT economists have long supported the idea of a universal, federally funded job guarantee program, which would act as a macroeconomic stabilizer during times of crisis. Jobs, not cash, is MMT’s answer to economic downturns. It calls for moving the payrolls onto the federal budget, putting recipients to work (on responding to the crisis, when it can be done safely), and letting the private sector hire them back as the economy recovers.”

Having built up a straw-man argument to make it seem like MMT scholars support the issuing of currency to finance financial speculation (QE), Vegter then contradicts that implication to say “All they want is that governments, instead of funneling (sic) new money to the banking sector and its wealthy clients, pour it directly into the real economy, to alleviate poverty and fund grand projects favoured by the left like green technology, smart cities and electric cars.”

Surely even Ivo Vegter must see the difference between issuing currency for financial speculation that boosts profits for non-productive financial sector companies and the already rich, and issuing currency to fund productive investments that increase our available supply of green energy, goods and services; reduce private sector costs (including the costs of extreme inequality, climate change and habitat destruction); and increase the incomes of our poorest citizens.

The SA Reserve Bank’s constitutional mandate is to “protect the value of the currency in the interest of balanced and sustainable growth“. Increasing the supply of locally produced energy, goods and services protects the value of the currency. Doing that while decreasing our extreme inequality, unemployment and poverty, while protecting our environment, makes growth more balanced and sustainable.

In order to maintain the value of the Rand, the state has to regulate the supply of Rands so that there is enough money in the private sector to support productive investment and employment which increases the supply of energy, goods and services.

If demand for labour, energy, goods, services and speculative assets (non-productive financial investments) is outstripping supply and driving prices higher, the state can reduce the amount of Rands it spends into the private sector and limit bank lending. It can also remove excess Rand supply by increasing taxes, and the interest the private sector pays to the state for Rands. But that only makes sense when the economy is running near full capacity.

While there are large numbers of unemployed and idle resources, as is the case now in South Africa, it would make more sense to respond to demand pull inflation (if there was any) by increasing investment by state and private sector in order to increase the production of energy goods and services to meet excess demand.

During economic downturns, because liquidity and demand for goods and services is lower, the private sector has less incentive and ability to invest productively. Households and companies are loath to borrow, and prefer to pay off debt, while banks’ appetite for lending is reduced due to increased risk of default. This limits the supply of Rands created by bank lending.

In order to maintain employment and productive investment, our state, as issuer of Rands, has the capacity to increase private sector demand, employment and productive investment, by spending more Rands into private sector bank accounts while taxing less out. This increases private sector savings without increasing private sector costs or debt. When those savings are spent onwards, sales, incomes and profits increase. Increased savings and profits make private sector investment more likely.

As issuer of Rands, our state spends Rands into existence without having to worry about making a profit in Rands. A limitless supply of Rands means that the only benefit our state can gain from earning a Rand surplus funded by private sector deficit is a reduction in demand driven inflation or a reduction in inequality.

Maximising employment while controlling inflation is something that MMT focusses very closely on.

The least inflationary way for government to spend Rands into existence is through funding the productive employment of South African citizens and resources in ways that increase supply while reducing private sector costs. It can do this either by employing idle labour and resources directly or by providing finance to the private sector at the lowest rate possible.

Price increases can be driven by factors other than local demand for goods and services. Global demand, a drop in production or bottlenecks in the supply of energy, goods and services, and administered costs like taxes, interest rates, and electricity prices can drive prices higher.

Counter-intuitively, these non-demand driven price increases can be slowed by government spending Rands into existence. For example, if prices are being driven higher by constraints in supply of skills, energy, goods and services, the state can directly employ South Africans to produce those things and to build infrastructure to reduce producer costs and bottlenecks in supply. It can also incentivise private sector productive investment, through transfers, subsidies, and low interest loans to achieve the desired productive output.

Money creation by the state can also reduce administered price increases such as rates, taxes and Eskom and municipal electricity tariffs, which the SARB has often identified as a major driver of inflation. Because national government, municipal and SOE’s costs are driven higher by interest payments on their debt, it follows that reducing the interest rate paid by these state entities would allow them to reduce taxes, rates and tariffs that are currently been levied to offset unnecessarily high interest payments.

The SARB, as monopoly issuer of currency, can purchase debt securities (driving down yields). Even better, the SARB can issue low interest loans directly to these state entities in order to reduce the state’s inflationary interest payments to rent-seeking private sector middlemen, who currently benefit from “lending” Rands that the state creates back to the state, at exorbitant rates.

The interest rates that the state currently pays to “borrow” the Rands it issues are high only because the SARB has made a policy choice not to influence those rates lower. This policy choice should be challenged as it runs counter to the SARB’s constitutional mandate to “protect the value of the currency in the interest of balanced and sustainable growth“. All wasteful, inefficient expenditure by the state is inflationary, and the hundreds of billions that the state pays every year in interest to rent-seeking middlemen for Rands is no different, nor less corrupt.

So, contrary to Vegter’s view, the equation is not quite as simple as “increasing money supply = increasing price level”. Apart from distributing existing money from savers to spenders using taxation, money creation to finance productive investment is the least inflationary way stimulate demand, employment and economic growth. This is true of money created by both state spending and bank lending.

Money creation to finance consumption and financial speculation is the most inflationary as it drives up prices of consumer goods and financial assets. This is also true both of money created by state spending and money created by bank lending.

MMT has been clear about all of this right from the start. That is why MMT proponents have always preferred a Job Guarantee instead of a Basic Income Grant (BIG), and favoured direct monetary finance of by Central Banks of fiscal spending on productive employment over Quantitative Easing, which drives up asset prices while driving interest rates lower.

Vegters piece is full of contradiction and straw-men. He starts his article by repeating the well known “household fallacy“, quoting gold standard era author Adam Smith who famously said: “What is prudence in the conduct of every private family can scarce be folly in that of a great kingdom.

But at the conclusion of his piece he concedes that unlike households and companies, who cannot issue currency, a government with its own central bank and sovereign, free floating currency can’t run out of money and can “always pay its bills“.

He agrees that economies usually have excess capacity but then says that doesn’t mean “policymakers only rarely have to worry about inflation”, as if MMT doesn’t implore policy makers to focus exclusively on inflation when deciding government budgets.

Then to cap it off, he makes the bizarre claim that MMT is socialist by concocting another straw-man: “MMT claims that wealth is not created by private industry and productive work, but is bequeathed to the private sector by the government“.

I have never come across a single claim by any MMT scholar that private industry and productive work doesn’t create wealth. MMT merely observes, correctly, that government deficit spending funds private sector financial surplus.

If I watched you buy bread on your credit card from your baker, I would be correct if I observed that your deficit spending had just funded an increase in your baker’s savings. In observing that, I am not claiming that his increase in financial wealth was not a result of his industry and productive work.

Vegter seems to see socialism in everything that he doesn’t understand or agree with. There is nothing socialist about the state supporting private industry and productive work by financing it at the lowest interest rate possible.

Any concerns about the state crowding out the private sector can only become valid once the economy is running at full capacity. While there are idle resources and unemployed people, state employment can only crowd in private sector investment, by increasing demand, savings, sales, incomes, profit, supply of skilled labour, infrastructure etc.

That government deficit spending increases private sector savings is fact.

That government debt owed to the private sector equals private sector interest baring financial assets, is also fact.

In MMT pioneer Warren Mosler’s own words: “There is really not that much “theory” in Modern Monetary Theory. MMT is more concerned with explaining the operational realities of modern fiat money. It is the financial X’s and O’s, the ledger or playbook, of how a sovereign government’s fiscal policies and financial relationships drive an economy. It clarifies the options and outcomes that policy makers face when they are running a tax-driven money monopoly. Proponents of MMT say that its greatest strength is that it is apolitical.

The people who call MMT “Magic Money Tree” are the kinds of people who tend to believe in magic. Accounting realities are not for them. Real world economics is not for them. They would rather believe in fairytales like “The Invisible Hand” and “free markets”.

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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Why Mike Schussler is wrong when he says “Inequality and poverty will not be fixed by spending”

While the influential economist Mike Schussler deserves praise for his informative infographics and graphs, I strongly disagree with his economic analysis. I am sure that Schussler is well meaning, and the following article is not an attack on him personally, but rather what I feel is a necessary and overdue response to the popular misconceptions that he promotes, and which largely go unchallenged.

In his June 2nd article in Moneyweb entitled “Inequality and poverty will not be fixed by spending” Schussler’s makes the argument that South Africa’s economic problems of inequality, poverty and unemployment are due to our state spending too much on the wages of public servants. He claims that if government does not reduce its spending on wages, and if it implements a Basic Income Grant (BIG), it will run out of money, and all our institutions will collapse, unless it raises taxes, which will reduce employment even further, and lead to capital flight. In this article I will explain why Schussler’s call to limit public sector spending on wages is counter-productive.

Schussler’s thesis is based on the popular, but mistaken assumption that government finances are limited to the amount it collects from taxation, SOE profit and bond sales. This is a false constraint. The state is monopoly issuer of Rands, and can thus spend as many Rands as it likes to into existence, and it makes sense for it to do so while there is insufficient demand, growth and employment, as long we can keep inflation low.

All national government spending is financed by SARB money creation through an overdraft facility on treasury’s exchequer account at the SARB. This spending by overdraft creates bank reserves and bank deposits (creating Rands), driving up private sector savings. Savings, when spent or invested onwards, drive up private sector production, sales, profits, incomes, employment, tax revenue and GDP growth. Sales, incomes and profit are all taxed, returning the Rands created by state spending back to the state within a few transactions, destroying those Rands previously spent by government. Until the Rands that government spends into existence are taxed back to the state (and destroyed), they just add to private sector savings.

For a more in depth explanation of how state spending (money creation) funds taxes and bond sales (money destruction) click here.

Current policy is to reduce the daily overdraft on government’s exchequer account to 0 at the end of each day by deducting Rands from government’s Tax and Loan accounts held at commercial banks (destroying bank deposits and reserves), but this does not have to be the case. The UK government’s extension on its overdraft facility on its ways and means account at the Bank of England last year is an example of what is possible, but extending the overdraft is just one way which the SARB can finance treasury. The SARB Act allows the SARB to issue loans to treasury and SOEs or the SARB can carry out QE to indirectly finance government “borrowing”. Prior to the appointment of primary dealers around the turn of this century, the SARB bought government bonds directly and sold them onwards. The SARB Act can be changed by parliament and it has been changed quite regularly.

While demand, employment and growth is too low, and inflation is cost pushed, if the SARB issues bank loans to treasury, municipalities or SOEs as the SARB Act says it can, that debt the state owes to itself (the SARB is an organ of state), can be rolled over indefinitely, at no cost. It only makes sense for government to run a surplus (tax more of the Rands that the state issues out of the private sector than it spends into it) when demand pull inflation is too high. SARB profit is paid to treasury, and the SARB creates Rands at almost 0 cost, so this arrangement costs the state nothing.

When you see it through this lens, as long as demand pulled inflation is low, there is no reason for government to limit its investment in productive employment, which increases the supply of energy, goods and services, and doing so increases the supply of Rands to the private sector, who can use those Rands to create more employment by spending or productively investing (increasing the tax base and tax payments), paying off its debt, or saving.

Schussler claims that government spending dis-incentivises productive investment by driving up taxes and interest rates. But that is only true if government chooses to remove an amount equal to its spending, from the private sector, using taxation and bond sales.

As explained above, SARB funded govt spending increases private liquid savings. Savings fund investment. A more liquid private sector, with lower debt and more flush with savings to spend or invest, is not a deterrent to investment. Quite the opposite!

If government directs its money creating spending towards paying its citizens to build infrastructure, teach, nurse, police etc, that brings down private sector costs (transportation, education, healthcare etc cost the private sector less). Lower costs and higher demand for product encourages productive investment.

Schussler bases his claims that South Africa’s public sector is bloated on our relatively high public wages to GDP ratio. What he neglects to take into account is the fact that a nation with extreme unemployment and inequality must have a higher than normal public wages to GDP ratio. This is because (a) the country is running so far below full capacity (GDP would be much higher if more people and resources were employed), and (b) a much higher percentage of our population is almost totally dependent on the state (requiring more public servants per capita).

South Africa’s public sector is not bloated. The state employs only around 3,5 public servants per 100 citizens, around half the amount of state employees per capita in the USA, even though a much larger percentage of our population depends almost entirely on the state, due to our higher unemployment, poverty and inequality.

Our problems of unemployment, inequality and poverty are not caused by the state spending too many of the Rands it creates into the private sector, but rather by the fact that the state is not spending enough employment creating Rands into the private sector and is taxing too many Rands out of the private sector. It is doing this because economists like Schussler have convinced us that government shouldn’t spend more than it earns in taxes, and when it does, that it should make up the shortfall by borrowing the Rands it issues only from private sector middlemen at inflated interest rates.

Most of our economists don’t understand that state spending creates new money and that the money that govt extracts from the private sector using taxation and bond sales is destroyed. They apparently still believe that the state spends “taxpayers money”, and therefor needs to tax before it can spend.

We must educate these economists so that they stop placing false constraints on public spending, and so the state can stop taxing us too much and for the wrong reasons. Governments don’t spend taxes. Taxes are essential and useful, but only to remove money from the private sector in order to control inflation and inequality, to strengthen the Rand, and to discourage unwanted behaviour. For more on optimising tax policy click here.

We can lower taxes and increase public spending as long as demand, employment and growth is too low and inflation is mild and not driven by local demand pull. Currently prices in SA are being driven higher mostly by international demand, supply constraints and administered prices. Higher taxes and interest rates just add to these cost push factors, and reduce already insufficient demand even further. Public spending financed by low interest loans from the SARB, instead of by taxes and bond sales at higher interest, increase demand, employment & growth without adding to cost push. Lower production costs and higher demand incentivise productive investment.

High interest payments by the state and SOEs, are currently major drivers of high taxes and increasing SOE tariffs. Interest, tax and SOE tariffs (such as Eskom electricity tariffs) add to private sector costs. The SARB, as monopoly issuer of the Rand at near 0 cost to itself, has full control over the interest rate that both the private sector and the public sector pay on Rands.

As the SARB cannot issue forex, the only interest rate that the state pays that the SARB does not have control over is the rate it pays to attract forex to make up for any balance of payments shortfall (the difference in South African forex earnings from exporting goods, services and investment and forex spending on importing goods, services and investment). But the balance of payments shortfall does not equal the government budget deficit.

For example, in the year 2020-21, South Africa’s government budget deficit amounted to R552 billion, while in the same year, there was no balance of payments shortfall. South Africa achieved a current account surplus of R108 billion in 2020 which means that SA was a net lender to the rest of the world. It makes absolutely no sense for government to have financed the R552 billion budget deficit of 2020-21 at the higher rate needed to attract forex, when the SARB could have loaned the Rands needed to fund treasury’s budget deficit at the repo rate. To protect SARB’s policy rate, any excess bank reserves (created from the resultant government spending) could be sterilised by issuing SARB debentures or govt bonds to the South African private sector at slightly higher than repo.

When Schussler points to high capital costs as a reason for government not to deficit spend more Rands into our private sector, he is perpetuating the fallacy that the market decides the interest rates (bond yields) that our state pays to private sector middlemen for the Rands that the state issues. That is incorrect. The SARB (the organ of state that is monopoly issuer of Rands) decides the rate which the state and commercial banks pay to borrow Rands.

The market only appears to decide the interest rate government and SOEs pay on Rand denominated public debt, because our policy choice is for SARB not to issue loans to treasury directly, or to buy government bonds on the market (QE). This policy choice means that government increases inequality by transferring hundreds of billions of Rands per year in unnecessarily high interest payments to bond holders, who are already net savers, while extracting that amount from tax payers (a large portion of whom are poor and in debt). MMT pioneer Warren Mosler calls interest payments “basic income grants to people who already have money”, and he has a point.

South Africa has a large amount of corporate savings and pension funds that are either tied up in non-productive financial investments, or invested overseas. South Africans have more invested overseas than foreign investors have invested in South Africa. The problem is that we are not investing that money in growing our productive, forex earning, job creating sectors… our real economy. High interest rates incentivise non-productive financial investment while they drive up the costs incurred by our productive sectors (cost of capital, taxes and SOE tariffs etc), while driving down demand for our products and services, which dis-incentivises productive investment.

Since 1994 our non-productive financial sector, who benefit from higher interest rates, has grown to become the largest sector in our economy, even larger than our state, yet we don’t hear calls from Schussler to reduce the size of a “bloated financial sector”, or reduce the incomes of those in our financial sector which are far, far higher than public servant salaries at the executive level, and a major driver of inequality. For a break down of jaw-dropping South African financial sector executive remuneration click here.

The gap in public sector incomes is lower than that of the private sector, so it follows that increased public sector employment reduces inequality. There is no reason to offset employment creating public spending with employment destroying taxation while demand pulled inflation is too low.

Schussler says in his article that we should reduce public spending on wages and grants because public servants and grant beneficiaries might spend a portion of their income on imports, meaning an outflow of money from South Africa. But that is true of all earners in South Africa, including the bondholders to whom the state transfers 100s of billions per year, and financial sector employees earning 100s of millions per year. The richer we are, the more share of our income we can spend on imports and outward investment, but that doesn’t mean that we should reduce employment and incomes as Schussler suggests.

The best way to reduce imports and offshore investment by South Africans is for the state to invest more of the Rands that it creates in increasing local production of energy, goods and services (through direct employment, and through subsidies, low interest loans and transfers to the local productive sector), and by increasing productivity (investing in education, infrastructure etc). It also makes sense to put in place tax policies and capital controls to incentivise local private sector productive investment and spending on local products and services, and dis-incentivise spending on imports, outward investment and non-productive financial investment.

Schussler makes a valid point that we should reduce public sector inefficiency, wasteful-expenditure and corruption.

Most wasteful expenditure is happening through unnecessary government outsourcing to private companies, something that government will have to do more of if it employs less people directly as Schussler is advocating for. Instead of employing workers directly, and paying them a decent salary, outsourcing allows government officials to direct hundreds of billions in public money towards connected, rent seeking private company shareholders, executives, “consultants” and themselves (bribes / kickbacks), while those companies pay their workers peanuts. How this will reduce inequality is anyones guess.

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.

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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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

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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 | 3 Comments

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,

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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 | 3 Comments

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.

Don’t forget to follow to receive email notification of new posts.  

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