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Rustenburg – Commodity pricing has “hurt” the income of commodity producing economies like South Africa, as a result they need to diversify their source of income, according to Sizwe Nxedlana, chief economist at FNB.
Nxedlana was one of the speakers at the Insurance Institute of South Africa (IISA) Insurance Conference 2016, held at Sun City, on Monday. He shared on the outlook for the economy going forward, given that South Africa is a commodity producing economy.
South Africa’s gross domestic product (GDP) growth rate has been on a steady decline over the past five years. The period between 2015 to 2019 is expected to be the second slowest since the end of the Second World War. “The only time it has been slower, was during the double-dip recession in the period leading up to ’94 elections,” said Nxedlana. A contraction is expected in 2016.
Growth is proving difficult as production levels in various industries, mining, manufacturing and export volumes, are underperforming. This is despite the rand being weak. “We should be competitive but we are not,” he said.
The only consolation is that this slow growth is not unique to South Africa, he said. Other commodity producing economies such as Brazil and Russia are also underperforming, and are in recession. Contributing factors are the slowing economic growth in China and the associated decline in commodity prices. China’s economic growth rate, which is at 6%, may not be recovering soon, said Nxedlana.
There is also volatility in capital flows to emerging markets, mostly influenced by Federal Reserve (Fed) rates which impact funding costs. The impact of the drought in Southern Africa has impacted agricultural output which influenced GDP growth negatively. This was accompanied by food price inflation. In countries dependent on hydropower, the resulting periods of blackouts impacted economic activity in these countries too, explained Nxedlana.
A possible downgrade
Brexit has been less of an issue for emerging market economies. With commodity prices falling, national revenue takes a beating, explained Nxedlana. If the Fed raises interest rates, funding becomes expensive. The combination of the two, calls for domestic spending to be adjusted downward. The adjustment would be “less painful” if sources of income were diversified, he said.
Fixed investment is falling too. Fixed investment should be boosting production, but it is not there, particularly in the private sector. This is because business confidence is low. “The less confident you are, the less willing you are to put money at risk,” said Nxedlana. The lack of confidence can be addressed by governance and regulations to ease doing business. This would incentivise investment, he added.
South Africa could expect a sovereign downgrade, but not because National Treasury isn’t tightening its belt, said Nxedlana. “Our credit worthiness as a country has deteriorated. Government finances have deteriorated.”
As a result government has been slowing its spending and raising taxes. Part of the reason that we were not downgraded in June is because these actions started to work. “We see evidence of government finances becoming rehabilitated.”
The problem with fiscal belt tightening is that it is bad for growth. “We do not think sufficient reform will be delivered or implemented in time to prevent a credit downgrade.” A grading of BB+ has already been priced in, so it won’t really have a significant impact on financial market volatility, the permanent depreciation of the exchange rate or an increase in government funding costs. These effects were already priced in during December 2015, he explained.
Silver linings
The reduced spending is a reflection that there have been less imports. This leads to a lower trade balance which makes us less vulnerable. Weak demand growth has helped contain core inflation, likely to peak in the fourth quarter of 2016. This signals that we are approaching the end of the hiking cycle, said Nxedlana.
Headline inflation likely to peak in Q4 of 2016 (StatsSA, FNB)
