Yesterday, the Bank of Namibia raised its
repo rate by 25 basis points, or 0.25%. This means that interest rates for
loans across the board should rise by 0.25%, and borrowers across the country
have to adjust their expectations based on this. But what is the Bank of
Namibia? Why do they have the right to control money flowing out of our
pockets?
The easy way to answer this, is simply to
state that the Bank of Namibia is a central bank, and it derives its authority
from our constitution – Chapter 17, Article 128. But that is what is called a
mathematician’s answer – entirely accurate, but entirely useless.
As with most institutions in the modern
age, central banks originated from the last great empire – the British Empire.
Back in the 1690’s, the Kingdom of England was involved in a war with France,
and King William III’s government found it difficult to procure funds for this
war. Credit of a government, up until that point, was tied to the reigning
monarch, and different ones had different levels of fiscal responsibility.
Monarchs are notorious for not wanting to relinquish authority until they have
no other choice, and so too here.
Up until that point, the printing of
currency was under the sole authority of the king, which is why he was having
credit issues. Lenders did not want to lend money to a king who would just
print more currency, and thus devalue the money they lent to him. Thus, the
Bank of England was born, to which was entrusted not only the accounts of all
of government, but also the exclusive right to issue bank notes. When the Bank
of Namibia was established this was one of the responsibilities it gained.
Initially, all of the money printed by the
bank was backed by gold, but the first cracks in this system appeared in 1797,
when a bank run to convert paper money into gold occurred. The Bank of England
suspended conversion into gold, and in the analysis of the bank run afterwards,
it was resolved that the central bank should not only act to stabilize the
currency, but also act as a lender of last resort for other banks. And so the
final few functions normally attributed to central banks was born.
As wars proliferated, so did central banks,
as kings and presidents were unable raise the necessary debt to sustain their
war efforts. But central banks survived the wars, and in peacetime they grew to
serve an important function. After all, stabilizing the currency is of great
importance for economic development – and although it was originally meant in
terms of foreign exchange, central banks increasingly saw the need to stabilize
price levels, or inflation.
Inflation, in a sense, is the result of the
printing of money. After all, money is a claim to goods and services. If we
have the same amount of goods and services available, but more money was
printed, a greater ‘share’ of this money would be required to acquire the same
goods and services. If money were printed recklessly and in excess of economic
production, the value of money would fall rather quickly, and we’d have high
inflation. In extreme cases, such as that of Zimbabwe, when the money printing
reaches such levels that you get hyperinflation, people lose faith in their
currency, and no longer transact in it.
This is quite important, because while as
previously mentioned money could in the past only be printed provided it was
backed by gold, that is no longer the case. Until 1971, this was still broadly
true, but after US president Richard Nixon suspended the convertibility of the
US dollar into gold, no country was willing to do so any more.
Our money, right now, is backed by our
faith in the money being able to be exchanged for goods and services. You trust
that that N$10 note you have can buy goods and services to that value, and when
you hand it over, it will be accepted. But without control, that faith could be
shattered, and the Namibian Dollar could go the route of the Zimbabwean one.
That is why the Bank of Namibia has a
mandate to ensure inflation remains in the range of 3% to 6%. Well enough above
zero that we are not in danger of sliding into deflation, small enough that it
can be reliably modelled for, and not disruptive to the general economy. It is
also why the Bank of Namibia is independent from government, so that it can
focus on this mandate without interference, and without the executive
influencing policy.
But where other central banks have a bit
more policy options, the Bank of Namibia has only a few due to the currency peg
to the South African Rand. And its main policy instrument is thus the Repo
Rate. After all, most money creation these days happens via commercial banks,
who extend credit. This is via fractional reserve banking, a topic for another
day. But suffice it to say that by increasing the cost at which bank can lend
from the central bank, the Bank of Namibia thus reduces the amount of credit
commercial banks can extend, thus reducing the money in circulation. By
reducing money in circulation, there is less money chasing the same amount of
goods and services, and inflation subsides, ceteris paribus.
With inflation in January having peaked at
5.3%, there is certainly currently upward pressure on inflation, and it seems a
measure of inflation control is needed right now. After all, if you ‘spare the
interest rate,’ you spoil the nation…
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