Glass half full on SA’s foreign direct investment flows

South Africa must demonstrate a concerted effort to mitigate systemic issues such as corruption, transparency and a troubled economy in order to maintain foreign direct investment (FDI) inflows.

This is the view of Erik Peterson, a director of the Global Business Policy Council at US-headquartered management consulting firm AT Kearney, as South Africa grapples with anaemic economic growth, two bruising junk downgrades and heightened political uncertainty.

“The country should help promote the areas in which it shows the greatest potential for increased FDI flows, such as its booming manufacturing industry,” Peterson tells Moneyweb.

South Africa has returned to the AT Kearney FDI’s confidence index for the first time in two years, a sign that the country may continue to be a key destination for FDI for the next three years.

Although South Africa is back in the index, it has sunk to the bottom pile in number 25 out of 25 countries (see graph below) compared with its ranking of number 13 in 2014, pipping Switzerland and Malaysia.

Source: AT Kearney

AT Kearney’s index, featured in a report titled Glass Half Full, is an annual survey that measures markets in which global business executives in 30 countries are likely to invest in the next three years. It has tracked top FDI destinations over the past 19 years.

The index does not reflect the recent double-downgrades by S&P Global Ratings and Fitch to SA’s credit rating this month, as the survey was conducted in January 2017. S&P cut the foreign currency credit rating to sub-investment grade (or junk) while Fitch cut both foreign and local currency credit rating to junk following President Jacob Zuma’s axing of Pravin Gordhan as finance minister and his deputy Mcebisi Jonas. Moody’s will publish its rating in June.

Peterson, who co-authored the report, says it’s possible that the downgrades could have diminished investor confidence in South Africa as an FDI destination. “FDI is a long-term proposition so short-term developments such as [credit] rating changes likely do not have as much of an effect on FDI flows as on short-term portfolio flows.”

Investors make their FDI decisions based on long-term fundamentals, including the competitiveness and economic prospects of the market, rather than current events, he adds.

In a downgrade era, foreign investors would (in theory) become sellers of local bonds resulting in a flight of capital out of South Africa. The inflation rate would accelerate on the back of rand weakness – eroding the wealth of many investors.

FDI inflows rose by 38% in 2016 to an estimated US$2.4 billion (R32 billion), according to the index. Investments are going into the automotive, energy, telecommunications and services industries. “It shows that global investors are gaining confidence in the viability and profitability of South Africa as a destination for FDI flows… This could signal a nascent trend of global investors increasing their risk tolerance and eyeing emerging markets for growth opportunities,” says Peterson.

South Africa relies on foreign investments to deliver economic growth, job creation and infrastructure investments. It also relies on the so-called “hot money” of foreign inflows on the bond markets.

The country has a mixed outlook when it comes to attracting FDI in the coming years. AT Kearney’s reported notes that South Africa faces challenges related to governance, exchange rate volatility and decreased trust in political leaders, but it’s still a gateway for foreign investors in sub-Saharan Africa.

SA on a charm offensive

Finance minister Malusi Gigaba jetted off to the US for an investor roadshow last week without business leaders in tow in a bid to restore investor confidence in South Africa following the bruising downgrades. Gigaba, who promised that there would be no policy changes on fiscal consolidation, also met with Moody’s.

Dawie Roodt, chief economist at the Efficient Group, says Gigaba needs to demonstrate to foreign investors that the government is committed to reining in spending. “The state is spending too much money. There will be a fiscal deficit and debt levels will increase if he doesn’t spend less money,” says Roodt.

Government already debt currently stands at R2.2 trillion and the country pays R169 billion in interest every year.

George Glynos, chief economist at ETM Analytics, supports Roodt’s view, adding that foreign investors will want to hear about innovative ways that can improve the efficacy of every rand spent in the fiscus. “Fiscal sustainability is going to determine the way government chooses to spend money and ultimately acknowledge that the country’s problem is not necessarily one of tax collection but its expenditure, which is a far bigger elephant in the room,” says Glynos.

He says the private sector has reached its limits on bankrolling an inefficient government. “Gigaba has a battle on his hands because he has to try and establish a sense of credibility with foreigners who hold the purse strings.”

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