‘We need to get the economy back on the highway’

After an economically and politically tough 2017, which saw the independence and the mandate of the Reserve Bank under attack, 2018 is promising to be a cracker of a year for Reserve Bank governor Lesetja Kganyago.   

In January, he was named Central Bank Governor of the Year by specialist publishers Central Banking, and selected as the chairman of the International Monetary and Finance Committee, whose mandate is to advise the International Monetary Fund’s board of governors. 

He is the first sub-Saharan African to chair the committee, whose 24 members consist of ministers of finance and central bank governors.   

And if Kganyago is having sleepless nights over the state of Capitec or the broader economy, he doesn’t show it. 

Meeting with finweek on 31 January, the morning after the controversial Viceroy Research report on Capitec wrought havoc on the bank’s share price, prompting the Reserve Bank to issue a statement to reassure depositors, Kganyago is his usual jovial self. 

“We’re not concerned about our financial system. Our system is solid.”

Recently back from the World Economic Forum in Davos, he also seems bullish on the prospects for South Africa. 

“Last year in Davos, one had to go out and find people to talk to. This year we were struggling to fit people into the programme who wanted to talk to us,” he says. 

“There is a positive sentiment about South Africa.”  

A number of local factors have contributed to this. One is the outcome of the ANC’s elective conference in December, which has removed the political uncertainty that has weighed on the economy. 

“We know who the leadership of the ANC is; we have a good idea of what the policies are,” Kganyago says, admitting that some of the decisions taken at the conference may be seen as investor-unfriendly, such as land expropriation without compensation.   

“But at least we know what the policies are. There are lots of things that [US President Donald] Trump is doing that are investor-unfriendly, but at least they know what he stands for. It is the certainty that people are looking for. So tick that one, to say that the political uncertainty is now behind us.” 

Other positive, confidence-boosting actions include the removal of the Eskom board ahead of Davos, and the steps law enforcement authorities have started to take to address corruption, Kganyago says.   

Low growth

One concern is South Africa’s low growth, and the decline in the country’s potential growth rate. 

Kganyago explains the potential growth rate as the speed limit of the economy – in economic policy management, your aim is to get the economy on the highway, where you can drive at the maximum 120km/h and where the risk of hitting “constraints” like a stop sign or traffic light is much lower.

“We used to have a potential growth rate closer to 4%; our potential growth rate is now below 2%. 

That is worrying, because we still have a negative output gap, which means that the economy is growing slower than even this lower potential growth rate,” he says. 

Contrast this to 2005/06, when the economy was growing faster than its potential. 

Because SA’s potential growth rate has declined, it means that when growth accelerates, the economy might hit constraints at lower levels, Kganyago warns.

“The policy prescription of dealing with that is very straightforward – you’ve got to do the structural reforms to raise the potential growth rate so that you do not hit those constraints. For the economy to grow faster, you’ve got to raise its potential growth rate.”

In SA, because growth is below its potential, the expectation is that inflation should be dampened. 

But in the Reserve Bank’s outlook inflation is going up and is expected to rise above 5% later this year, Kganyago says.

He believes the recipe for getting the economy back on the highway is spelt out in the National Development Plan. 

Economic growth is a combination of mainly two things, capital and labour, he explains. 

“In there you could use the technologies that are used in capital and in labour. Whatever the economists cannot explain in growth between capital and labour, we assign to technological progress, or total factor productivity.”

In SA, skills become a constraint. “When this economy was growing at over 4%, we experienced a skills shortage. So you’ve got to continuously invest in skills, bearing in mind that there are skills that also become redundant. 

Investment in the network industry is another. These things are not rocket science; we know about them. They are spelt out in the National Development Plan,” Kganyago says.  

Rising interest rates

In South Africa’s favour is an enabling global economic backdrop.  

With the developed world normalising monetary policy, or increasing interest rates, the Bank’s expectation was that it would lead to a repricing of the financial assets of emerging-market countries and a realignment of global exchange rates, Kganyago says. 

In lay terms, the expectation was for a sell-off in stocks and bonds, and a weakening of the rand.

“When the US Federal Reserve first indicated in 2013 that it is going to normalise rates, SA was seen as one of the vulnerable countries. At that time, the current account deficit in SA was over 6%; the budget deficit was over 5%,” he says.

The expectation was that when interest rates start rising in the developed world, SA would find it difficult to attract the funds needed to finance its current account and budget deficits.

“Inflation was outside of its target range, which meant that should the normalisation of monetary policy lead to a depreciation of the rand, you were going to be even more out of the target for a more pronounced period of time. This meant that you would have no choice but to tighten policy [by increasing rates in SA].”

Fast forward to 2018, and the picture looks different. The current account deficit is at 2%; the projected budget deficit is around 4%.

“It is higher than we would like it to be, but it is definitely lower than what it was in 2013. Inflation is within the target range, which means that if the currency depreciates, there is a cushion,” he says.

All of this is coinciding with rising commodity prices and a global economy that’s the strongest it’s been since the 2008/09 financial crisis. “A strong global economy is beneficial for small, open economies like SA,” Kganyago explains. 

“It looks like this positive sentiment towards emerging markets, the growth of the global economy, and the rise in commodity prices underpin the strength of the rand. So it’s not just about some political sentiment, but also driven by fundamental factors.” 

Ratings downgrade

But will all of this be sufficient to avert a widely expected Moody’s credit rating downgrade after the Budget announcement on 21 February, which would lead to SA’s removal from the Citigroup World Bond Index (WGBI) and could trigger significant capital outflows?

“You know, I’ve quoted this before – restoring business and consumer confidence is the cheapest form of stimulus that you can have. In the main it would deal with many of the cyclical factors and it would lead to growth.

“What Moody’s does with our credit rating depends on what we do as South Africans to deal with the issues that Moody’s raised. None of those issues require the central bank to do something.

“But they raised issues about SOE [state-owned enterprise] governance, and the risks that the SOEs could pose to the fiscus; they’ve raised issues about the pace of fiscal consolidation.

“The people down the road [at Treasury] are working frantically to come with a fiscal stance on 21 February,” says Kganyago, who worked at Treasury for many years, including as director-general from 2004 to 2011.

“I’m sure they will do a good job, and then we will take it from there with Moody’s,” he says with a big smile, like a man who believes all the boxes will be ticked in time.

This article originally appeared in the 15 February edition of finweek. Buy and download the magazine here.