Abstract
The 2008 global financial crisis fundamentally challenged the "benign neglect" orthodoxy, which posited that central banks should ignore asset price fluctuations unless they directly impact inflation outlooks. Since then, the debate has shifted toward "leaning against the wind," suggesting that monetary policy should proactively respond to financial misalignments. This paper investigates the empirical relationship between a broad set of financial stress indicator variables and the monetary policy interest rate in South Africa from January 2000 to December 2013. To address the lack of consensus on which financial variables are most relevant and to mitigate model uncertainty, the study employs Extreme Bounds Analysis (EBA) as proposed by Leamer (1985) and Sala-i-Martin (1997). This methodology assesses the robustness of 15 financial stress indicators across thousands of regression specifications, categorizing them into bond, equity, commodity, and exchange rate markets. The empirical results reveal that sovereign bond spreads, A-rated bond spreads, corporate bond spreads, stock market returns, credit extension growth, and property market returns are robustly associated with the South African repurchase rate. In contrast, variables such as oil market returns, the VIX S&P500, and sector-specific betas appear fragile and weakly linked to policy decisions. These findings suggest that the South African Reserve Bank implicitly accounts for specific financial imbalances in its policy deliberations. The study provides a necessary precondition for designing optimal monetary policy frameworks that integrate financial stability without compromising inflation targeting objectives.
Keywords. Monetary policy; Financial stress indicators; Extreme bounds analysis; South Africa; Asset price misalignment.
JEL. C52; E44; E52; E58; G12.
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