GNU partners to influence foreign investment, jobs, economic growth in SA, says economist

Foreign investment, jobs and stellar economic growth all depend on the government of national unity (GNU) which chose a reform path underpinned by mostly centrist economic policies and respect for the Constitution.

While the domestic macroeconomic outlook will be heavily influenced by inflation and interest rates in the United States (US) and other developed markets, the country’s gross domestic product (GDP) growth picture will be influenced by the GNU partners’ ability to find common ground in diverse areas such as healthcare, international relations, labour and procurement, Arthur Kamp, chief economist at Sanlam Investments, says.

He says besides some rather glaring policy differences, the political alliances formed after the election will face major tests in the coming years thanks to the next round of local elections, likely in 2026 and the 2027 African National Congress (ANC) party elections which will test support for President Cyril Ramaphosa.

“If it survives these tests, the GNU could pull the economy from its decade-long doom loop. The negative doom loop derives from the complex interplay of declining foreign capital inflows and infrastructure failures that pushed the country’s real economic growth potential to below 1%,” he says.

“Under this lower growth scenario, government finances came under significant pressure, further weighed down by rising unemployment and the growing number of citizens dependent on the state for welfare grants.”

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Before the election, SA was battling various challenges

He points out that at the dawn of the 2024 election, South Africa was battling to make headway in the context of larger budget deficits, a rising debt ratio and sovereign debt rating agency downgrades, putting upward pressure on interest rates and weakening the Rand.

“Our doom loop culminates with the ‘crowding out’ of the private sector and lower foreign capital inflows due to insufficient potential returns on investment. Our hope is that economic reforms under the GNU will steer South Africa to a higher growth scenario. The alternative slide towards populism would be fiscally catastrophic.”

Kemp says low net foreign capital inflows have been a binding constraint on economic growth since about 2014. Without this capital, South Africa cannot run a large enough current account deficit, forcing the country to save more and consume less.

“For an economist, the stark illustration of this savings ‘shift’ comes courtesy of the growth in government’s share of total outstanding bonds, rising from 60% in 2008-9 to over 80% today,” he says.

“On its own, government absorbing a huge slice of available savings is not critical, provided it spends efficiently. Unfortunately, the ratio of expenditure on consumption versus infrastructure remains hopelessly misaligned.

“As a consequence, the balance sheet of the state is deteriorating, pushing the country further along an unsustainable fiscal path. This penchant for consumption rather than investment is a leading cause of rating agency downgrades and pressure on interest rates.”

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Inflation and interest rates

Turning to inflation and interest rates, Kemp says before commenting on local inflation and interest rates, we must consider these measures from a global and United States perspective. “Why the US? Because the US dollar, as the world’s reserve currency, sets the tone for emerging market currencies and interest rates, including South Africa. The US Federal Reserve (Fed) also still sets the world benchmark interest rate.

“At our update for the first half of the year, Santam Investments observed that despite positive signs of global disinflation, global central banks were waiting for the Fed to cut interest rates – and that situation persists to present day.

“Core inflation in the US and other developed markets remains sticky, with the Fed taking a cautious approach to rate cuts due to the firm US labour market. The main driver of the disinflation has been a material improvement in global supply chain pressures, but there are a range of macro factors working against this.”

He warns that one cause for concern is that the deflationary effect from lower global goods prices is beginning to fade. There are three structural forces in play that could keep inflation sticky and prevent central banks from cutting rates.

These include geopolitical risk, which is reigniting global supply chain pressures, a marked decline in global growth expectations and increased global protectionism. The result of geo-economic and geopolitical fragmentation is a lower growth higher inflation trade-off than previously, Kemp says.

“Against this backdrop, developed market central banks may prefer high real interest rates for a bit longer. For Santam Investments, the key fact emerging from our detailed assessment of global inflation and interest rates is that we are shifting out of an era of very low real interest rates to one of higher real interest rates in the benchmark interest rate of the world, which feeds through to the rest of the world.”

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The downside of maintaining the Sarb inflation target

Returning to South Africa, Kemp says the South African Reserve Bank (Sarb) did a sterling job in terms of maintaining its inflation target, but stable inflation coupled with rising bond yields resulted in lower private sector borrowing and investment. Real credit extension is negative at the moment and has still not recovered since the 2008-9 global financial crisis.

He points out that without private-sector borrowing, the economy cannot grow to its full potential. Other growth constraints include infrastructure, with the Sarb estimating that load shedding cost the country 1.5% in GDP growth last year, he says.

“Headway has been made in addressing electricity supply concerns, but logistics and water infrastructure shortcomings pose a significant threat to growth too,” he warns.

Sanlam Investments believes that 3% annual GDP growth is achievable if the economic reforms targeted by Operation Vulindlela are achieved. The project, which aims to improve the country’s infrastructure, is gathering momentum thanks to many of the necessary legislative reforms finally being put in place.

Why does this reform-led GDP growth matter? Kemp says that if we continue on our current GDP trajectory, unemployment will top 40% by 2035. If South Africa grows at 5% per year, we can reduce unemployment from the mid-30s to around 20%.

While electricity has been the primary beneficiary of Operational Vulindlela to date, as evidenced in Sarb’s latest Financial Stability Review, it reveals a sharp upward trend in production capacity registered with Nersa, up by seven gigawatts since mid-2022 and around three gigawatts in installed rooftop solar. If government can emulate its electricity successes in transport and other critical areas of the economy and implement its reform programme successfully, it may yet reignite foreign capital inflows, Kemp says.

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The focus for households and consumers

For households and consumers, the focus remains on the currency, inflation and interest rates. Sanlam Investments believes the Rand is trading more or less where it should be presently.

Kemp says over the longer term, based on a purchasing price parity assessment, the Rand does seem relatively cheap against the US dollar, perhaps held back by the Lady R incident and the Financial Action Task Force (FATF) greylisting.

“As for interest rate cuts, although the Sarb does not follow the Fed blindly, it still uses Fed rate decisions as one of the tools to guide domestic decisions. However, the bank is under pressure to cut rates and its next Monetary Policy Committee meeting will be hard-pressed to ignore the 12-month core inflation forecast of just 4.5%.”

Sanlam Investments expects the local repo rate to fall from 8.25% presently to around 7.5% by the end of next year. It also expects that households should start to benefit from Operation Vulindlela’s successes as medium-term GDP growth trends towards the 2%-3% channel.