According to Roland, the continued rise of interest rates in South Africa has been detrimental toward the growth and development of the fast-emerging economy (par. 1).
The withdrawal of the stimulus package has worsened the state of economic performance. It is vividly understood that the problems started when the Federal Reserve opted to withdraw the growth incentive to the government. As it stands now, the pressure on the South African currency has been eased down slightly although economists are divided over the actual impacts to the South African economy.
The key interest rate was raised by a margin of 0.5 % to 5.5 percent. This took place in the first week of April 2014. It is surprising that the rise was executed after a period of six years. As much as Rand responded by a remarkable rise against other international currencies, the situation was not sustained at all. It is vital to mention that such an unprecedented rise in the index of exchange rates can harm an economy because sustenance is often a real challenge.
The monthly 58 billion dollars stimulus package must have hoodwinked the South African economy for too long. It is obvious that new economic challenges will be faced by the South African economy at a time when the country is still reeling from the effects of poor regional performance. At this point, we need to be asking ourselves one important question: Why should a strong emerging economy redirect its focus to foreign aid? Such stimulus often comes at a dear cost even (Peretti, Rangan and Inglesi-Lotz 112).
One important factor that the South African government should understand is that the global financial crisis is far from over. We may be duped by the improving economic outlook of the developed world such as the United Kingdom and the United States. However, the positive effects of economic growth have not been replicated across the globe. For example, the regional economies that heavily trade with South Africa are still struggling to resuscitate their domestic markets let alone cross border trading. The withdrawal of the stimulus package has ushered a new phase with unique challenges toward the performance of the South African economy.
Most emerging market economies are often vulnerable to marginal changes in key economic parameters. In the case of South Africa, the marginal rise of 0.5 percent may be interpreted differently from various sectors of the economy. For example, political uncertainty is a common economic fear in most emerging economies. It can be recalled that South Africa has faced myriads of localized political turmoil since it gained independence in 1994.
There was a time when foreign investors were hardly protected by the government owing to numerous attacks from the local population. When the government takes a decisive action to increase the base interest rate to 5.5 percent, it only spells doom for both the local and international investors.
In addition, financial records indicate that there are several deficits that have been noted in current accounts. This implies that the South African economic performance was not impressive even before the multi-million stimulus package was withdrawn. The mining sector is likely to be negatively affected since any slight rise in interest rate increases the price of minerals. A case example of gold is shown in the chart below:
On the other hand, some analysts argue that the market will not be impacted for a long time as much as the stimulus package is no longer in place (Lynch 54). Nonetheless, there are a number of long term issues that the central bank has never addressed. Such issues will continue to hamper growth significantly bearing in mind that a new set of challenges are bound to face the economy. Needless to say, any economic impact to an emerging market is usually felt at the lower level of production.
A case in point is the performance of small and medium-sized enterprises. The latter pays the highest tax regime to the economy. Moreover, most small and medium-sized enterprises often depend on loans from financial institutions. Due to the rise in the interest rates levied to commercial banks, the final tax burden will be passed to the SMEs that borrow heavily from banks and other financial entities (Das 55).
When the interest rate is compared from 1984 to the present date, it can be seen that the country should not be raising the rate at this time. When the world economic turmoil was at the peak, the rates remained almost stable for a long time. The worst effect of the rise in interest rate will be witnessed in the high cost of living a few months to come.
Finally, the South African government and especially the Central Bank should be in a position to comprehend the fact that the transmission of financial aspects such as interest rates and the base lending rates are crucial parameters in the overall growth of any economy. There are quite a number of macroeconomic models that can be used in the calculation of the most viable rates that an economy can sustain over a given time.
The real interest rate has myriads of theoretical and practical importance, especially when extrapolated over the entire economy. As already mentioned in the commentary, an increase in the interest rate may substantially deteriorate the performance of key sectors of the South African economy since the central bank has already delayed certain vital fiscal measures (Aron and Muellbauer 189)
Aron. Janine and John, Muellbauer. “Interest Rate Effects on Output: Evidence from a GDP Forecasting Model for South Africa.” IMF Staff Papers 49 (2002): 185- 213.Print.
Das, Sonali. “Real Interest Rate Persistence in South Africa: Evidence and Implications.” Economic Change and Restructuring 47.1 (2014): 41-62. Print.
Lynch, Thomas. “Interest Rate Swaps.” The Internal Auditor 53.4 (1996): 54-55. Print.
Peretti Vittorio, Rangan Gupta and Roula Inglesi-Lotz. “Do House Prices Impact Consumption And Interest Rate In South Africa? Evidence From A Time-Varying Vector Autoregressive Model.” Economics, Management and Financial Markets 7.4 (2012): 101-120. Print.
Roland, Denise. South Africa interest rate rise backfires. 2014. Web.