Abstract:
This paper analyses the impact of uncertainty about the true state of the economy on monetary
policy in South Africa since the adoption of inflation targeting. The paper uses an extended
monetary policy rule that allows analysis of the impact of uncertainty about the conditions in
financial markets on the interest rate setting behavior that describes the South African Reserve
Bank’s monetary policy decisions. The results indicate that the effect of uncertainty on the
interest rates has led to a more cautious monetary policy stance by the monetary authorities
consistent with a large body of literature that recognizes that an excessively activist policy can
increase economic instability. The results further show that uncertainty about the state of the
economy clusters around the financial crisis periods in 2003 and from 2007 to 2009. The
uncertainty about inflation was important to the interest rate setting behavior in 2003 and
between 2007 and 2008, while the uncertainty about the conditions in financial markets was
important to the interest rate setting behavior between 2008 and 2009.
