Question

During the Covid-19 pandemic and lockdown monetary authorities responded with accommodative policy and lending rates fell. In South Africa the repo rate was decreased to a historic low. During 2021 the economy recovered, and inflation started to increase. A significant part of the increase was cost-push inflation with specifically food and fuel prices increasing rapidly. By the November meeting the MPC had no choice but to start increasing the repo rate. Use the IS-LM-BP model to explain what this can mean for the levels of output/income and interest rates in South Africa. Draw the graph and explain the complete chain reaction.

Answer 1

Answer:

Domestic economic activity is normalising after the ferocious second wave retarded momentum. The outlook remains overcast by the future path of the pandemic; the accelerated pace of vaccination and release of pent-up demand provide an upside to the baseline growth path. Headline inflation has fallen back into the tolerance band and the trajectory is expected to be driven by supply-side factors. A faster resolution of supply chain disruptions, good foodgrains production and effective supply management could cause inflation to undershoot the baseline, contingent on the evolution of the pandemic and the efficacy of vaccines.