The Reserve Banks' Dilemma: The balancing act
February 14, 2023
Last week I read an article from the Unhedged article by Robert Armstrong - titled Is the Fed ignoring market risk? - made me think about the role of the reserve banks in the economy and financial markets.
For the uninitiated, the Fed (The Federal Reserve) is the central bank of the United States that is responsible for printing money, among other things.
To save you a read, but I strongly recommend reading it, the essence of the article is asking whether it is the Fed's role to listen to the market and control the market risk? This question is not straightforward as it sounds because the formal mandate of the reserve banks is to keep the economy stable - implicitly to protect the ordinary Joe. However, the how of this critical mandate is left to the central bank to decide.
The Unhedged article argues that the reserve bank must be able to "jawbone the market" for it to be able to keep the economy stable.
The market vs consumer
But what happens when keeping the economy stable means the reserve bank has to decide between the market and the consumer? For example, in South Africa, the reserve bank (SARB) has to fight the market in pursuit of a stable Rand by raising the interest rate, even though this comes at a cost for the consumer.
Should the SARB raise the interest rate to attract foreign currency, raising the demand for the Rand, thereby making the Rand relatively stronger or at least not become weaker?
Unchecked power
This seems unfair to the consumer when the movements of the Rand are driven by the international markets - in high oil prices and a strong dollar. In defence of the SARB - as if they need one - their primary mandate from the constitution is "to protect the value of the currency in the interest of balanced and sustainable economic growth".
Should they broaden their mandate to take into account the squeezed consumer? Even when we know that a broad mandate comes with more power. We all know the saying goes, "great power comes great responsibility". Who would bet against a possibility of a bad actor capturing SARB and its power going unchecked? We all know how this will turn out.
So what?
As a person on the street you might be thinking to yourself so what? On our next post we give factors and reasons on why you should care.