Feature Article: Whether the rand rises or falls, exchange controls continue to fail

Perhaps the greatest irony of the recent case, Shuttleworth v South African Reserve Bank and Others, was that the laws relevant to the contest were themselves the cause of the very actions they were intended to prevent. In other words, had exchange controls not existed, Mark Shuttleworth might still be living in South Africa.

The exchange control laws created two problems for Mr. Shuttleworth as a resident of South Africa. First, by imposing paperwork and bureaucratic second-guessing on all transactions involving foreign-exchange, the exchange controls prevented the efficient and competitive operation of any international business or charity projects. Second, the bureaucratic controls imposed costs and barriers to the optimal international deployment of already existing capital.

Although South African exchange controls have been loosened considerably during the past 20 years, they are still in force and they still place hurdles before travellers and businesses, especially when large sums of money are involved. The sums involved in the Shuttleworth case were not only very large but also subject to a 10% levy imposed “as a condition for the granting of permission to expatriate blocked assets.”[1] For the privilege of moving the last of his own money out of the country, Mr. Shuttleworth paid, understandably under protest, a levy of more than R250 million to the Reserve Bank.

As if to highlight the irony, in a statement to the court the Reserve Bank described the purpose of the levy: “The 10% charge, generally speaking constituted a disincentive to the exit of large amount (sic) of capital, thus asserting to maintain the financial stability of the South African economy.”[2] No doubt, the 10% charge was a disincentive to his decision to expatriate his capital, and it is understandable that Mr. Shuttleworth would later sue (unsuccessfully) to have the amount of the levy returned. But the interesting fact is that, despite the legally imposed cost, Mr. Shuttleworth still chose to move the money out.

Although exchange rates fluctuate for myriad reasons, it is not irrelevant that since early 2010, when Mr. Shuttleworth received approval to expatriate the last of his funds, the rand has (after briefly rising) depreciated 23% against the US dollar. Exchange controls are most likely to be in force in countries that have other self-imposed problems. South Africa's relatively high inflation is entirely self-imposed and is one of many good reasons for South Africans to diversify into other currencies. It was Mr. Shuttleworth’s judgment that he would lose less by leaving.

The persistence of exchange controls, albeit liberalised, almost 20 years after the transition suggests a lack of confidence by the South African government in its own policies. It also signals a poor understanding of the rationale for its own policy of exchange-control liberalisation. Such signals are not lost on either South African or foreign investors. On the other side of this, a naïve belief that exchange controls give the government the ability to respond efficaciously to financial and economic crises, might embolden the government to enact the very types of policies that make such crises more likely.

The existence of exchange controls (in any country) is a special, and perhaps extreme, manifestation of a general failure to recognise that such regulations are more likely to aggravate, if not cause, the kinds of problems for which they are believed to be the cure. The Shuttleworth case itself is an apt example.

Proponents of regulation have claimed that exchange controls protected the South African financial system from the 2007-08 financial crisis. A weak response to such claims would suggest that “sensible” banking regulation protected South Africans, as it did residents in other countries such as Canada and Australia, neither of which has exchange controls. A more sophisticated response would emphasise that it was not the presence of supposedly protective regulations but rather the absence of the types of pernicious regulations that set up the American financial and real estate sectors for failure.

A proper analysis of that crisis cannot ignore the distortions created by a host of government interventions such as government loan guarantees, the regulatory compulsion of banks to make subprime loans, tax incentives to purchase property, government-backed companies created to hold mortgage bonds, government-backed insurance of bank deposits, and central-bank accommodation of the financial and real estate bubbles.

The key intellectual error underlying the existence of exchange controls lies in the belief that government officials have the knowledge necessary to co-ordinate our lives and to provide for our needs. History has demonstrated that where this belief is most firmly held and has manifested in the various shades of central planning, the people have suffered accordingly.

It is naïve to believe that government officials have both the knowledge and nimbleness required to protect us from the symptoms of international financial crises. In a world of fiat currencies with routine official interest-rate manipulation and credit expansion, it is no wonder that we have periodic currency crises and disruptions in the foreign exchange markets.

In the early 20th century, South Africa followed the lead of Britain in its experiment with exchange controls. Neither country can claim to have had a good experience with such controls – they never live up to their stated purpose – which is why Britain eliminated its controls in 1979. South Africa should do the same.

Author Richard J Grant is Professor of Finance & Economics, Lipscomb University, Nashville, Tennessee, and Publications Editor of the Free Market Foundation. This article may be republished without prior consent but with acknowledgement to the author. The views expressed in the article are the author’s and are not necessarily shared by the members of the Foundation.