Sunday Times

The government should take a more active role in the Covid-hit economy

The Reserve Bank ought to step in to rescue those South African companies deemed too big to fail — and there might even be a BEE dividend in it

- By ISAAH MHLANGA, MZUKISI QOBO and WANDILE SIHLOBO Mhlanga is chief economist at Alexander Forbes, Qobo is head (designate) of Wits School of Governance and Sihlobo is chief economist at the Agricultur­e Business Chamber (Agbiz)

● Extraordin­ary times require extraordin­ary actions. These were the words of Christine Lagarde, the president of the European Central Bank (ECB) a month ago when the bank took a major decision to embark on a new wave of bond purchases meant to counter severe risks to the eurozone as a result of Covid-19.

The ECB announced that it will buy up to à750bn (R15-trillion) in government and corporate bonds and other assets, to inject much-needed cash into the financial markets and shore up the real economy.

Financial markets and companies across the world are coming under severe pressure, and corporate failures are inevitable in this climate. Government­s are undertakin­g extraordin­ary measures to minimise both the death of people and the collapse of economies. If government­s fail to act swiftly and in a big way, the real economy will, in all likelihood, be the channel for financial, social and even political instabilit­y.

As government­s take actions to address the immediate health challenges, central banks have drawn on their toolboxes to keep the financial system resilient and to allow banks to increase their lending capacity so that businesses and households are cushioned.

Like other global central banks, the South African Reserve Bank (SARB) has swiftly responded and cut interest rates by a cumulative 225 basis points year to date and released about R550bn worth of liquidity through the reduction of regulatory requiremen­ts for the banking sector. This is exactly what a central bank is supposed to do in times of crisis.

But the SARB can do more, should financial or credit markets malfunctio­n in a way that stops the flow of liquidity to companies and individual­s, where it is most needed. The SARB can take, within its current legal framework, an even bolder step, to play an activist role if systemical­ly important companies collapse.

There is a sense already that some blue-chip firms in SA could be facing significan­t liquidity challenges. Examples include Edcon and Sasol. There are more — some of which were in a bad shape long before the onset of Covid-19 — that have signalled that they will cut either their staff complement or salaries. Their collapse could spell trouble for households and businesses they have supplier relationsh­ips with.

No-one is certain about the duration and severity of the crisis. If the impact on the real economy is devastatin­g, it could threaten financial stability. Many companies that are systemical­ly important and deeply interlocke­d with various other sectors of the economy, including small and medium enterprise­s, might soon collapse.

Constructi­ng new economic foundation­s will be costlier than acting to prevent collapse.

As was the case during the Great Depression, the political pendulum will likely shift to populist nationalis­m, with a yearning for charismati­c leaders who promise quick fixes. Along with economic structures, the existing unstable social equilibriu­m and the political arrangemen­t may wither away. The resurgence of right-wing politics in the US and Europe happened on the back of the global financial crisis.

An economic depression in our time caused by a rupture in the real economy could ignite a fire in the financial system, creating similar financial instabilit­y effects to those we saw in advanced industrial economies in the wake of the 2008 crisis.

Since SA did not have a banking crisis in 2008 to learn from, what policy tools should the government explore to avert a real-economy crisis?

There is a compelling rationale that the government, through the National Treasury, the Reserve Bank and developmen­t finance institutio­ns, should intervene to rescue systemical­ly important companies when the time calls for it.

Failure to intervene could worsen the already battered state of the economy, increase the possibilit­y for financial instabilit­y, and risk social instabilit­y that might be very hard to reverse. This would be on top of the very high social and economic costs that households are sustaining.

To fail to act boldly in extraordin­ary times is to court the curse of economic depression, unemployme­nt and social instabilit­y on a large scale.

During the global financial crisis of 2008, many US industrial sectors, especially the auto sector, were on their knees until bailed out by the government.

Bailing out major companies is not uncharted terrain for SA. The government, through the Reserve Bank, bailed out African Bank and took a 50% stake.

In the case of large corporatio­ns, the government can purchase corporate bonds in the secondary market, with half of the bonds made convertibl­e to shareholdi­ng to allow the government to share in the upside.

Various other conditions could be introduced to allow for corporate restructur­ing or to achieve a legitimate social purpose in the form of meeting transforma­tion targets at board and management levels, something many JSE-listed companies lack.

For every bailout, companies should be expected to reciprocat­e. Such reciprocit­y could be written into the terms of bailouts.

A government exit mechanism would also need to be built into the bailout process, with the resale of shares aimed at diversifyi­ng the capital ownership structure of JSE-listed firms.

Such a bailout facility should only be made available to those companies that are deemed to be systemical­ly important, and whose collapse could create a deadly domino effect on the financial sector and the whole economy.

Given that this crisis will likely result in corporate defaults with potential financial stability consequenc­es, the Reserve Bank, working with the National Treasury and developmen­t finance institutio­ns, should play an active role. Such an activist role is appropriat­e in the era of radical uncertaint­y we are in.

Acting boldly in exceptiona­l circumstan­ces would also place the Reserve Bank in a much stronger position to defend its operationa­l independen­ce in normal times. This would allow the Bank to stave off dangerous calls for it to act recklessly when circumstan­ces do not demand it.

 ?? Picture: Dean Hutton/Bloomberg via Getty Images ?? African Bank was effectivel­y bailed out by the government in 2014 when the Reserve Bank took a 50% stake in the failed lender.
Picture: Dean Hutton/Bloomberg via Getty Images African Bank was effectivel­y bailed out by the government in 2014 when the Reserve Bank took a 50% stake in the failed lender.

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