SA economy: We ought not to be here

Earlier this month South Africa’s GDP growth numbers confirmed that the country had experienced a technical recession in the first quarter of this year. Although the data itself caught most economists by surprise, nobody could have been shocked.

South Africa’s economy is very obviously in a poor state. Indicators such as retail sales and business confidence are at multi-year lows, and fixed investment has dried up.

This is made more concerning by the fact that global conditions are currently supportive of the country’s economy. As Investment Solutions economist Lesiba Motata pointed out at the CoreShares ETF Exchange on Thursday, the strong rand is helping imports, there is continued demand for South Africa’s raw materials, and growth in the US and China is positive for the world.

South Africa is not however taking advantage of this.

“What we are experiencing is very idiosyncratic and domestic in nature,” said Motata. “The challenge is that even though as a small open economy we are being helped by the globe, the cabinet reshuffles and junk ratings are dampening confidence. They are thwarting the fledgeling growth that was coming.”

Below potential

Citibank economist Gina Schoeman added that while the technical recession might have grabbed people’s attention, it’s important to be honest about how the economy has been stagnant or even declining for some time.

“It’s the market definition to call it a technical recession after two consecutive quarters of negative growth,” she said. “But there are other definitions of recession, such as running below your potential growth rate. We can argue about what our potential growth rate is in South Africa, but we can all agree that we’re well below it.”

She said that a key problem in the country is the persistent high level of political uncertainty that is discouraging investment.

“If you are a corporate that has to look ahead three years on decisions to get a suitable return on your investment, have you been able to do that in South Africa the last 10 years with any certainty?” she asked.

Schoeman also pointed out that while the most recent credit downgrades have received significant attention, South Africa has been in a downgrade cycle since 2012. During that time the government has failed to implement reforms necessary to halt further downgrades.

Slow creep

Unlike Brazil, however, the country has not suddenly plunged into a deep recession. As Konrad Reuss, sub-Saharan Africa’s regional head at Standard & Poor’s (S&P), pointed out, the decline has been gradual.

“Brazil was more like a meltdown,” Reuss said. “It has fallen off a cliff. South Africa hasn’t done that. Here, its really a slow creep. Most of the indicators we look at are just slowly moving in the wrong direction.”

He pointed out that some however still remain positive for ratings agencies. S&P’s institutional assessment is still neutral and monetary policy and the monetary framework are positive.

“But you get the feeling they are busy undermining what is left,” Reuss warned. “Threatening the operational independence and inflation targeting at the Reserve Bank, for instance. That would be quite a significant negative.”

He added that while S&P accepts the need for transformation in the country, it needs a robust base from which to happen.

“We appreciate that this country still has to go through significant transformation,” said Reuss. “Whether you want to call it ‘radical economic transformation’ or something else, leave that aside. Transformation has to happen. And from a ratings perspective that transformation would best happen in a faster growing economy, where National Treasury has greater fiscal flexibility to support it, and where investor sentiment is on our side.”

Meeting the challenges

The question is what does the country need to do to prevent a downgrade spiral?

“We would want to see accelerated structural reforms that would deal with parastatals, particularly their governance and management,” said Reuss. “Government also needs to put a cap on the growing contingent liabilities.

“We want to see reforms that enhance and underpin business confidence so we see a turnaround in investment,” he added. “And from National Treasury’s side, there can only be one direction, which is further fiscal consolidation until we see a turnaround in revenue collections that for years have not been going in the right direction.”

While Reuss said that the risks remain to the downside, Motata argued that there was still reason to be optimistic.

“Given that all these challenges are inward and self-induced, does that not give us a greater probability of sorting them out?” he asked. “What if I argued that the market response and continued support from international investors is expressing the view that South Africa is a fallen angel?”

He said that many people in government have a clear understanding of the issues at hand and what needs to be done. While the state is clearly found wanting on implementation, this can change very quickly.

“When you look at policy and those constructing policy, South Africa is still on course,” Motata argued. “What if we painted a scenario where the right candidate wins at the ANC’s December conference? If that were to happen you’d be surprised at the pace at which reform could be expedited, at which the leadership quality is put back together. Increasingly when I listen to those in authority and the people making policy, there is an acceptance that we ought not to be there, and that in itself could generate much better decisions.”

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