4½ Threats to SA's economy | Fin24

4½ Threats to SA's economy

Jun 13 2019 09:40
Lloyd Gedye

Global stock markets lost $2tr in the month of May, as the growing trade war between the US and China continues to rock business confidence. At the same time the US threatened to apply tariffs on goods originating from Mexico, but later decided against it. For now.

South Africa, with its open economy and volatile currency, is a deer in the headlights. Still staring down the barrel of further ratings downgrades, the country recently reported a 3.2% contraction in its GDP for the first quarter of 2019 – the worst contraction since 2009, following the 2008 global financial crisis. 

After the release of the first-quarter GDP numbers, the rand slipped by as much as 2% at one stage. It has since recovered somewhat.

South Africa appears to be getting its house in order, says Mergence Investment Managers portfolio manager Peter Takaendesa. But only just in time to find the global environment deteriorating.

“The country has begun the turnaround,” argues Takaendesa. “It’s in motion, but the headwinds are strong.”

The ANC has added to the turmoil, with contradictory statements about whether it has or has not resolved to expand the Reserve Bank’s mandate to include job creation and is considering quantitative easing to deal with government debt.

It’s a nervy time for investors. But which risks to the local economy should really be front-of-mind?

Threat one: Trump’s trade wars

US President Donald Trump has declared the word “tariff” a beautiful word. After the month of May, many investors around the world probably see things in a very different light. During May, Trump raised tariffs from 10% to 25% on $200bn of Chinese goods imported to the US. 

This brings the total of Chinese goods subjected to 25% trade tariffs to $250bn.

The remaining $300bn in Chinese goods imported into the US is currently the subject of a proposed 10% tariff. Goldman Sachs suggested in an investor note released on 2 June that there is a 60% chance of this 10% tariff realising, up from a 40% chance previously.

The Chinese have responded tit for tat. In mid-May, after the trade talks broke down, China announced tariffs that would affect 5 140 US products, worth $60bn. Of this number, 2 493 products were subjected to tariffs of 25%, with tariffs of between 5% and 20% on the rest.

China has a remaining $10bn of US imports to levy tariffs against, according to Reuters, but has threatened that it could limit the export of rare earth metals to the US and has suggested the creation of a blacklist of “unreliable foreign companies”. 

The Chinese have alleged that the US has a never-ending and ever-changing stack of demands. US officials have denied this, blaming China for the stall in trade talks.

Either way, the trade dispute has rocked global markets.

Economists are claiming that Trump is impossible to forecast and that it is now clear that the market has been far too optimistic about the trade war being resolved.

Global markets enjoyed a considerable rise in major indices in 2019 up until May, mainly due to an overall view that a trade deal between the US and China would be reached, says Michael Porter from Unum Capital.

“In the last two months the trade tensions between the US and China have escalated and as a result markets are well off their highs,” he says. At the time of writing, “the S&P, All Share and UK FTSE 100 are still up 9.48%, 6.38% and 6.55% year-to-date respectively”.

Porter says this is still “positive”, but well off the highs. “The risk currently is that, should these trade tensions continue or escalate, the risk to the downside is a very much real risk to global markets,” he says.

Trump appears keen to double down and in May also threatened to open up a trade war with Mexico. He threatened the country with a 5% tariff on all goods imported from Mexico into the US, if it doesn’t address US migrations concerns. He has since decided against it, but warned that tariffs remained a possibility. 

Mexico exports 80% of its goods to the US, according to Reuters, and is a major agricultural supplier to the US. Any tariffs could therefore potentially increase food prices in the US. Mexico also exports cars, toys and cellphones to its northern neighbour.

Mexico’s deputy foreign minister for North America, Jesús Seade, told Reuters that, in the case of tariffs, the most logical response would be an “eye for an eye”, but suggested that a trade war with the US was “the last thing” Mexico wants.

The Trump-related uncertainty created in global markets acts as a dampener to growth, says Porter. He describes the trade war as a “lose-lose situation for global markets”.

“Remember that [Trump] is up for US elections next year, so this can still continue for some time.” 

Emerging markets are sure to suffer the most as a result of these global trade wars, and South Africa, with an open economy, is no different, says Takaendesa. “When elephants fight the grass gets hurt.”

Ashburton Investments fund manager Nico Els agrees, adding that there is nothing that the South African government, for example, can do to buffer itself against the fallout of the trade war.

“There are lots of concerns about the trade wars,” says Els. “Fears of a global recession are piling higher and higher every day.”

Developments around Brexit and the US/Iran conflict in the Middle East are adding to the turmoil, explains Els. 

He says this is not good news for the South African economy, which needs a stable global environment to prosper.

South Africa will feel the impact in rand volatility, according to Takaendesa.

One place where South Africans will experience the direct impact is at the fuel pumps. Takaendesa explains that the dollar-oil price normally decreases when the global economy is suffering. However, the fuel price in South Africa usually goes up during periods of tough global conditions as the impact of a weaker rand tends to be more significant than the decrease in global oil prices.

Porter says trade wars definitely have a negative impact on an emerging market’s currency.

Higher fuel prices in SA will likely also result in a rise in inflation locally due to the knock-on effects on logistics and food prices, he says.

“The consumer will come under more pressure; this will impact the country’s growth, which already saw a shocker contraction in the first quarter of the year,” says Porter, warning that “two negative quarters will put us under a technical recession.” 

The retail industry will suffer as the consumer will spend less, he says, while insurers and asset managers – who invest heavily in the markets – will also be negatively impacted.

Takaendesa expects the local impact of a prolonged trade war to be concentrated in the exporting sectors of the economy, as well as “autos and mining”. This is especially true if the trade barriers “combine with weaker growth in our trading partners”.

He says that all sectors of the equity market will be affected if the trade wars result in a material slowdown in global growth. However, cyclical sectors will suffer more than the defensive sectors.

This is an extract from the cover story that originally appeared in the 20 June edition of finweek. Buy and download the magazine here or subscribe to our newsletter here.

cyril ramaphosa  |  donald trump  |  economy