Introduction

COVID-19 has had profound economic implications in South Africa. To promote aggregate
demand in economies, Covid-19 had generated massive increases in government spending and
debt across the globe. There has recently been an interest in a new theory known as Modern
Monetary Theory (MMT). This approach encourages the government to increase its debt to fund
its spending. Modern Monetary Theory would not be effective in South Africa. This statement
will be supported through discussing the theoretical and empirical literature on the theory,
evaluating the success of MMT in South Africa using the IS-LM and AS-AD models and
critically assessing verified data on South Africa’s economy. Additionally, a policy
recommendation for how the South African economy can recover following the COVID-19
pandemic will be discussed.

Theoretical literature and empirical literature on MMT

When it comes to federal government spending, modern Monetary Theory (MMT) is a

framework that states that monetarily sovereign countries which spend, tax, and borrow in a
currency that they fully control, are not operationally constrained by revenues (D’Souza, 2021).
Warren Mosler, an American economist and theorist, and Bill Mitchell, an Australian university
professor and a significant creator of the theory, pioneered the Modern Monetary Theory in 1992
(Likos, 2021). MMT is a significant shift from traditional economic theory. It posits that
governments in possession of their own currency should be able to spend freely since they can
always produce additional money to pay off their debts (Edwards and Mohamed, 2020). Inflation
occurs when an economy's production is constrained by physical or natural factors, such as full
employment or when supply fails to meet demand causing prices to rise (Edwards and
Mohamed, 2020). According to MMT, as long as there is underutilized economic capacity or
unemployed labour, increased government spending will not cause inflation (Edwards and
Mohamed, 2020). Governments can control inflation, according to MMT advocates, by spending
less or extracting money from the economy through taxes (Edwards and Mohamed, 2020). A
budget deficit is defined as when a government's expenditures exceed its revenues throughout a
fiscal period (D’Souza, 2021). According to the MMT, budget deficits are unimportant as all
spending could be financed via the creation of cash and therefore a country does not need to rely
on taxes or government debt to meet its expenditure needs (D’Souza, 2021). Rising budget
deficits are good for economies, according to the theory, if increased government spending does
not lead to inflation (Edwards and Mohamed, 2020). The theory has many limitations. It has
been accused of being limited to wealthy countries that can simply print their own money
without having to worry about global economic consequences, whereas, less affluent countries
are concerned about foreign investors selling their bonds and depreciating their currency, raising
interest rates and inflation (Matthews, 2016). Additionally, MMT overestimates the revenue that
money creation creates in economies as if the cost of printing is less than the value of the money,
then only can the government profit from it (Matthews, 2016). The central argument of MMT is
that sovereign currency-issuing governments are financially unconstrained and do not require
taxes or bonds to support government spending (Matthews, 2016). As a result, MMT exaggerates
the possibilities of money-financed fiscal policy while underestimating the economic costs
(Matthews, 2016). MMT overestimates the ability of fiscal authorities to control inflation rates
(Matthews, 2016). By neglecting the Phillips curve, MMT oversimplifies the difficulties of
achieving non-inflationary full employment (Palley, 2013). Its policy recommendations ignore
political economic issues, while its interest rate policy recommendation is likely to cause
instability (Palley, 2013). An implication of the MMT is that it leads to inflation. Expectations of
increased inflation as a result of MMT could have an influence on investing by lowering the
value of future cash flows and as a result, the present value of assets is expected to decline
(Stanley, 2019).

Impact of MMT on the South African economy

South Africa is a country plagued with poverty and due to this, it is a country with a persistently
low gross domestic product. The main economic variables that will be focused on is government
expenditure, taxation, government debt and inflation. MMT has identified the following
requirements for the system to function: the country must be self-sufficient in terms of its
currency (monetary sovereignty) and inflation must be controlled (Oberholzer, 2020). Monetary
sovereignty allows the central bank to print local currency to buy government debt (Mabbet and
Schelke, 2014). As a result of COVID-19, there has been an increase in government expenditure
to boosts aggregate demand and consumption, resulting in more production and a quicker
recovery from the economic consequences of the pandemic (D’Souza, 2021). There are two
basic causes of hyperinflation: an increase in the money supply and demand-pull inflation
(Amadeo, 2020). If South Africa’s government starts producing money to pay for its spending,
hyperinflation occurs as the South African Reserve Bank cannot print copious amounts of money
(Amadeo, 2020). When the money supply expands, prices rise in the same way that traditional
inflation does and as interest charges consumes more of the government's earnings, the
government will eventually be unable to borrow any longer and inflation will follow if the
government resorts to printing money to pay its debts (Amadeo, 2020). Government debt,
according to MMT theorists, is simply money that the government has invested in the economy
(D’Souza, 2021). MMT argues that by reducing expenditure and raising taxes, inflation and
consumer demand can be controlled (D’Souza, 2021). Under MMT, tax revenues are not utilised
to fund the government, instead, taxes are employed to keep inflation under control (Year in
Review, 2016). The government influences households' disposable income through raising or
lowering taxes. Households will have less money after a tax increase because they will have a
lower disposable income (Year in Review, 2016). Given the country's poverty and the
consequently low disposable earnings received by individuals, this could be considered
inefficient in South Africa.
Figure 1. The IS-LM model and the effects of expansionary fiscal policy

Source: The Economy: Economics for a Changing World

The LM curve is unaffected by fiscal policy (Algan, Carlin and Segal, 2017). In Figure 1, the IS1
curve is shifted right to become the IS2 curve because of the expansionary fiscal policy.
Consumption has a multiplier impact, which enhances national income and product and the
interest rate increase offsets the expansionary effect (Algan, Carlin and Segal, 2017). In the IS-
LM model, as government expenditure grows, the equilibrium shifts from point A to point B,
raising the rate of interest from r1 to r2 and the income level from Y1 to Y2.
Figure 2. Fiscal expansion offsetting a decline in private consumption

Source: The Economy: Economics for a Changing World

The economy begins at point A, where aggregate demand equals output in a goods market
equilibrium. COVID-19 has pushed the economy into a recession (Algan, Carlin and Segal,
2017). The recession begins when consumer confidence plummets, lowering c0 and the economy
moves from point A to point B as the aggregate demand line goes downward (Algan, Carlin and
Segal, 2017). If the government boosts spending from G to G' to offset the drop in aggregate
demand, aggregate demand rises and the economy changes to point C (Algan, Carlin and Segal,
2017).
Data on South Africa over the period 2000-2020
Table 1. South Africa’s revenue, external debt stock, gross national expenditure, and GDP
growth over the period 2000-2020.

Country Series Year 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010
Name Name :
South Revenue 25.67 26.75 25.38 25.52 26.95 28.83 30.12 30.32 29.62 27.47 28.11
Africa (% of
GDP)

South External 19.92 21.68 31.11 22.23 19.00 16.75 21.24 24.31 25.91 27.64 29.51
Africa debt stocks
(% of GNI)

South Gross 15.50 14.90 17.52 17.19 16.35 15.68 17.23 16.65 17.40 17.48 18.01
Africa savings (%
of GDP)

South Gross 97.86 97.17 95.86 96.72 99.49 99.77 100.1 100.28 101.8 100.08 98.76
Africa national 9 2
expenditure
(% of
GDP)

South GDP 4.20 2.70 3.70 2.95 4.55 5.28 5.60 5.36 3.19 -1.54 3.04
Africa growth
(annual %)

Source: World Development Indicators

Table 2. South Africa’s revenue, external debt stock, gross national expenditure, and GDP
growth over the period 2000-2020.
Country Series Year 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020
Name Name
South Revenue 28.20 28.46 29.48 31.00 31.71 31.2 31.11 31.2 32.41
Africa (% of 3 6
GDP)

South External 29.24 38.12 39.26 41.29 40.16 49.3 52.24 48.2 54.95
Africa debt stocks 8 0
(% of GNI)

South Gross 17.54 15.10 15.36 15.66 16.48 16.5 16.14 14.8 14.95 14.79
Africa savings (% 3 8
of GDP)

South Gross 99.15 101.19 102.3 101.26 101.13 99.2 98.84 99.1 99.12 94.87
Africa national 1 4 5
expenditur
e (% of
GDP)
 South GDP 3.28 2.21 2.49 1.85 1.19 0.40 1.41 0.79 0.15 -6.96
Africa growth
(annual %)

Source: World Development Indicators

Figure 1.

Line Graph showing South Africa's External Debt, Gross Savings and
GDP Growth over the years 2000-2020
External Debt, Gross Savings and GDP Growth (%)

60.00

50.00

40.00

30.00

20.00

10.00

0.00
0 1 2 3 4 5 6 7 8 9 0 1 2 3 4 5 6 7 8 9 0
200 200 200 200 200 200 200 200 200 200 201 201 201 201 201 201 201 201 201 201 202
-10.00

-20.00

Years

External Debt Stock (% of GNI) Gross Savings (% of GDP)

GDP Growth (Annual %)

Source: World Development Indicators

Figure 1 reveals that external debt stock rate variable is high, the ling slopes upward for the most
part meaning that external debt stock has risen over the time and as the line is fairly steep, it
indicates that the external debt stock has increased at a noticeable speed. The graph shows that
gross savings rate is low over the entire 20-year period, the line has brief periods of increasing
and decreasing, reaching peaks and troughs, however overall, there is not much drastic
movement in gross savings and lastly, the flatness of the line indicates that gross savings is
decreasing slowly as when it reaches a trough or peak, it flattens out for a few years. The GDP
growth rate is very low as it reaches a negative value in 2009 and 2020, the line slopes
downwards which indicates that GDP growth is falling, and the flatness of the line shows that the
growth rate is decreasing slowly.

High amounts of external debt have a negative association with economic growth (Salmon and
de Rugy, 2020). On Table 2, in 2019, South Africa experienced the highest external debt stock at
a value of 54.95%. South Africa’s gross savings was reported at 14.70% in 2020. A low savings
ratio indicates that consumer spending may be excessive and that funds for investment may be
scarce (Salmon and de Rugy, 2020). Low savings may raise living standards in the short term,
but in the long run, a low savings ratio means fewer money are available for investment, and
economic growth may suffer (Salmon and de Rugy, 2020). South Africa does not have a high
savings rate implying that the circumstance mentioned before will apply to its economy. A
reduction in business sales or profitability is referred to as negative growth (Hayes, 2020). It can
also refer to a downturn in a country's economy, as measured by a drop in its gross domestic
product (GDP) in any given quarter of the year. In most cases, negative growth is expressed as a
negative percentage rate (Hayes, 2020). The GDP growth rate values in 2009 and 2020, indicated
on the Table 1 and 2, show that South Africa has experienced negative growth rates.

Policy Recommendation

To combat the effects of COVID-19 on the economy, an expansionary fiscal policy should be
implemented. An expansionary fiscal policy boosts aggregate demand by increasing government
expenditure or lowering taxes (Algan, Carlin and Segal, 2017). When an economy is in recession
and produces less than its potential GDP, this policy is most suitable (Algan, Carlin and Segal,
2017). By lowering interest rates, expansionary monetary policy aims to boost aggregate demand
and economic growth (Algan, Carlin and Segal, 2017). The cost of borrowing is lower when
interest rates are lower and this boosts aggregate demand and GDP while also lowering cyclical
unemployment (Algan, Carlin and Segal, 2017).

Conclusion

To conclude, the COVID-19 pandemic and the ensuing lockdown restrictions that followed, left
many ripple effects that are recognizable in South Africa’s economy currently. This paper has
critically discussed the Modern Monetary Theory (MMT) and with research, found that Modern
Monetary Theory would not be effective in South Africa. Through discussing the theoretical and
empirical literature on the theory, evaluating the success of MMT in South Africa using the IS-
LM model and critically assessing verified data on South Africa’s economy over the past 20
years, this finding was supported. Additionally, an expansionary fiscal was recommended for the
South African economy to combat the repercussions of the COVID-19 pandemic.
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