OVERVIEW OF THE SOUTH AFRICAN ECONOMY
In April 2020, the government announced a massive social relief and economic support package of R500 billion – amounting to around 10% of the GDP to mitigate against the blow of COVID-19 in the country. President Cyril Ramaphosa announced the intervention as the country saw a rise of COVID-19 cases.
The package formed part of the second tier of the country’s three phase economic response to stabilise the economy, address the extreme decline in supply and demand and protect jobs. The social relief and economic support package was to cater for an extraordinary health budget to respond to the pandemic, the relief of hunger and social distress, support for companies and workers and the phased re-opening of the economy. The third phase would be the economic strategy implemented to jumpstart the recovery of the economy as the country emerges from the pandemic.
In March and April 2020, the South African Reserve Bank (SARB) cut the repo rate by 100 basis, taking it down to 5.25% and 4.25%. respectively.
In addition to continued easing of interest rates, the bank took steps to ensure adequate liquidity in money and government bond markets, and to ease capital requirements to free capital for on lending by financial institutions. By June 2020 more than 18 million South Africans had received temporary COVID‐19 grants which, along with other interventions for vulnerable households, costed about R41 billion. In its first few weeks of operation, the COVID‐19 loan guarantee scheme had provided small businesses with over R10 billion worth of loans.
As of mid‐June 2020, the Unemployment Insurance Fund (UIF) had provided R23 billion in COVID‐19 relief to over 4.7 million workers. Balance sheets and operational capacity of the broader public sector were adjusted to form part of the national response. These included SOCs, the social security funds and public entities such as the National Health Laboratory Service and the South African Social Security Agency.
In addition, the government strengthened its working partnership with the private sector in response to the national emergency. The private health sector made valuable contributions, providing critical care beds at a favourable rate and complemented efforts to ramp up testing. The Solidarity Fund, a private‐sector initiative, augmented government’s efforts to procure medical and personal protective equipment. To support economic relief efforts, the banking sector extended nearly R12 billion in debt relief to over 124 000 small and medium‐sized enterprises.
Commercial banks granted 90‐day payment holidays to more than two million clients for relief, totalling R16.5 billion by August 2020. Initiatives such as the Sukuma Relief Programme and the South African Future Trust provided interest‐free loans and grants to small and medium‐sized firms.
In June 2020, the National Treasury revised the 2020 Budget national share from R758 billion to R790 billion. The revision of the budget would also see the provincial share decrease from R649 billion to R645 billion. The local government share increased from R133 billion to R140 billion due to its centrality in South Africa’s response to the COVID-19 pandemic. An additional R11 billion was allocated to local government through the equitable share. A further R9 billion was reprioritised within allocated conditional grants to fund additional water and sanitation provision and the sanitisation of public transport. The National Treasury also announced that the country’s economy was projected to contract by 7.2% in 2020 as a result of the COVID-19 pandemic – the largest contraction in nearly 90 years. Inflation was likely to register 3% in 2020. The February budget forecast growth of 0.9% and expected that the global economy would expand by 3.3% in 2020. The National Treasury now expects a global contraction of 5.2% – bringing about the broadest collapse in per capita incomes since 1870. It further elaborated that while the scenarios outlined in the special adjustments budget are intended to illustrate potential policy outcomes, data and projections may change significantly in the months ahead.
Special Adjustments budget
In June 2020, the government announced a special adjustments budget with the aim of reporting on the COVID‐19 fiscal measures and the resulting adjustments to the division of revenue and departmental allocations; and setting out government’s commitment to strengthen the public finances, and to position the economy for faster and inclusive growth. The budget highlighted that in 2020, fiscal deterioration accelerated and for 2020/21, significant tax revenue underperformance was expected, and expenditure would increase as government reprioritised and allocated funds to contain COVID‐19. The main budget deficit and gross borrowing requirement would increase sharply. Gross national debt is expected to reach 81.8% of the GDP in 2020/21 compared to the 2020 budget estimate of 65.6%. The National Treasury expected the economy to contract by 7.2% in 2020. Households and firms were grappling with the combined effects of economic restrictions and the continued spread of the virus. The public finances, which had reached an unsustainable position before the pandemic, were dangerously overstretched. Without urgent action in the 2021 budget process, a debt crisis would follow. Failure to arrest the debt trajectory could see debt‐service costs consume around 31% of main budget revenue by 2024/25. The stock of debt could cross the 100% mark in 2023/24, reaching 140% in 2028/29.
A fiscal crisis could deduct more than R2 trillion from the GDP over the next decade. The special adjustments budget was a bridge to the October 2020 MTBPS. This would be followed by preparation of a set of far‐reaching reforms which are expected to stabilise public debt, contain the budget deficit, and fully restore economic activity to build confidence, increase investment and promote job creation. Spending was adjusted by removing funds underspent due to delays caused by the lockdown from the baselines of affected departments; suspending allocations for capital and other departmental projects that could be delayed or rescheduled to 2021/22 or later; suspending allocations to programmes with a history of poor performance or slow spending and redirecting funds towards the COVID‐19 response within functions or towards government’s fiscal relief package. In addition, the following measures were taken: • A total of R40 billion would be drawn down from social security funds’ cash surpluses to provide wage support to vulnerable employees due to the pandemic. • Consolidated spending for 2020/21 has been revised from R1.95 trillion in the 2020 budget to R2.04 trillion, mainly due to additional funding of R145 billion allocated for government’s COVID‐19 response. The allocations increase spending on transfers to almost 35% of total expenditure, while the share of all other components declines. Debt‐service costs are now the fourth‐largest spending item, similar in size to what government spends on health services. The special adjustments budget for 2020 showed a tax revenue shortfall of R304.1 billion in 2020/21. The consequences of COVID‐19 will lead to a drop in year revenue estimates compared to the prior budget. According to the budget, South Africans can expect a temporary shrinkage in tax base as businesses close and jobs are lost. Revenue shortfalls include tax relief measures amounting to R26 billion in foregone revenue. Improved tax collection and administration will be key to achieving fiscal stabilisation.
More rapid and sustained economic growth is the central requirement to building a prosperous and equitable South Africa. This remains government’s core policy objective. Higher growth would also reduce pressure on the public finances. Achieving this requires decisive steps to build confidence, promote investment and employment, reduce anti-competitive practices and eliminate regulatory blockages.
Economic growth has been weaker than forecast and is only expected to reach 0.9% in 2020, rising to just 1.6% in 2022. Electricity shortages have put the economy under great strain and demands from Eskom and other financially distressed state‐owned companies (SOCs) drain public resources. In 2019/20, revenue collected was expected to be R63.3 billion lower than forecast in the 2019 Budget Review.
By 2022/23, gross government debt is expected to rise to 71.6% of the gross domestic product (GDP).The most immediate and crucial reform is to ensure adequate electricity supply for businesses and households.
The South African economy contracted by 1.4% in the fourth quarter of 2019, following a contraction of 0.8% (revised) in the third quarter. Transport and trade were the main drags on overall activity. Seven of the ten industries contracted in the fourth quarter. Finance, mining and personal services managed to keep their heads above water, but this was not enough to prevent the economy from sliding into its third recession since 1994.
A decline in both freight and passenger transport dampened growth in the transport and communication industry, which slumped by 7.2%. The transport and communication industry contributed the most to the 1.4% fall in GDP (-0.6 of a percentage point). Retail trade sales and restaurant trade were up in the fourth quarter, but this was insufficient to counteract the fall in motor trade, wholesale and accommodation, which dragged the trade industry lower by 3.8%. The industry was the second biggest drag on the GDP.
The country produced less motor vehicles and transport equipment in the fourth quarter, contributing to the 1.8% dip in manufacturing. Wood, paper and publishing production was also down, further hurting the industry. Petroleum production was up, however, as a result of recovery from plant maintenance in the previous quarter, but this was not enough to lift overall manufacturing growth into positive territory.
The prize for the longest losing streak goes to construction. With its sixth consecutive quarter of economic decline, the beleaguered industry has only seen one quarter of positive growth since the beginning of 2017. Non-residential construction fell sharply in the fourth quarter, with approvals for office space construction – in square metres – falling to its lowest point in two decades.
Agriculture experienced its fourth consecutive quarter of negative growth, falling by 7.6%. Late rains and heatwave conditions across the country – in particular the Eastern Cape and Free State provinces – affected the production of field crops. The country also produced less horticulture products in the fourth quarter. Ironically, as drought affected one industry, heavy rains damaged another. Flooding at some power stations and disruptions to coal deliveries, caused by rain, contributed to the electricity, gas and water supply industry’s poor showing in the fourth quarter.
The industry didn’t escape the shock of the heatwave either. Falling dam levels in various parts of the country resulted in water restrictions, reducing activity in the water supply industry.
The number of civil servants employed decreased across all levels of government, with the exception of municipalities. This dragged the industry lower by 0.4%. In particular, contracts for part-time employees came to an end across a number of higher education institutions. There were also a number of terminations and retirements across other spheres of government.
In contrast, three industries contributed positively to GDP growth in the fourth quarter. Personal services – which includes activities related to healthcare, social work, recreation and education – increased by 0.7%. Mining growth in the fourth quarter was driven largely by platinum group metals, iron ore and gold. Coal production fell in the quarter, mainly as a result of lower demand and heavy rains affecting production. Manganese and diamonds also pulled growth lower. The growth of 1.8% contributed only 0.1 of a percentage point to the growth of the economy.
The finance industry, once again, posted positive growth, showing resilience against tough economic conditions. The industry, which includes banking and insurance services, has enjoyed consistent growth over the last decade. The increase of 2.7% contributed 0.6 of a percentage point to overall growth.
The South African economy grew by 0.2% in 2019, the lowest reading since 2009 when the economy contracted by 1.5%. Agriculture was the main drag on growth in 2019, followed by construction, mining and manufacturing. Finance and government were the main positive contributors to growth.
Real GDP growth slowed from 0.8% in 2018 to a projected 0.3% in 2019. The National Treasury forecasts economic growth of 0.9% in 2020, 1.3% in 2021 and 1.6% in 2022. Downward revisions to domestic and global demand mean that average growth is projected at 1.3% over the next three years, well below the 1.8% average from 2010 to 2018. With the population growing at 1.4% over the next three years, per capita GDP is set to decline.
Serious risks to the forecast include further deterioration in the financial condition of SOCs, with attendant demands on the fiscus; unreliable power supply; and policy inertia and slow implementation of structural reforms.
Household consumption growth averaged 1.1% in the first nine months of 2019, down from 2.1% in the same period of 2018. This was a result of weaker employment, low growth in disposable income, fragile consumer confidence and high administered prices. The consumer confidence index remained at -7 index points in the second half of 2019, its lowest level since late 2017. Real disposable income growth decelerated sharply in the third quarter to 0.1% as nominal compensation growth slowed in line with moderating inflation.
Annual growth in credit extended to households, which averaged 6.4% in 2019 compared to 4.6% in 2018, continued to support consumption. Reductions in the prime lending rate have not been fully matched by declining debt-service costs. This is likely driven by debt growth outpacing growth in disposable income, and by rapid growth in costly unsecured credit (10.2%), compared with growth in secured credit (5.3%).
Over the next three years, household consumption is expected to recover gradually. A sustained increase in consumption requires faster growth in economic activity, employment and net wealth, and a reduction in household debt.
Global growth slowed to a post-crisis low of 3% in 2019, and will decelerate further in 2020. The COVID-19 outbreak has severely reduced output in the first quarter of the year, and the disruption was expected to intensify in the second quarter. After that, the outlook is uncertain, but most analysts expect a rebound which will push up growth by 2021, although more adverse scenarios are conceivable. In China, where the outbreak began, the economy likely contracted in quarter-on-quarter terms at the start of the year, but is now recovering. By contrast, in the euro area and the United States (US) – the other largest blocs in the global economy – the disease effects only became widespread towards the end of the first quarter, with the turning point not yet in sight. A number of other large economies have also locked down, often pre-emptively, which is prudent but will massively reduce economic activity in the short term. In the major economies, monetary policies have become even more stimulative. In particular, the US Federal Reserve has lowered its policy rate to just above 0%, completely unwinding the interest rate normalisation of 2015 – 2018, and restarted quantitative easing. Similarly, the Bank of England has cut interest rates to almost zero, while the European Central Bank has expanded its quantitative easing programme and established a new asset-purchase facility. Inflation in these economies is likely to slow further in 2020, having already been below targets in 2019 (at 1.5% in the US, 1.8% in the United Kingdom and 1.3% in the euro area). Advanced economy central banks are now, once again, all encumbered by the zero lower bound, which prevents interest rates from being lowered too far into negative territory. In the emerging markets, by contrast, interest rates have not dipped to zero and inflation has not persistently undershot targets, leaving these central banks with more policy space.
Investment contracted by 0.7% in the first nine months of 2019, due to slowing private sector investment growth and continued contractions in public investment. Weak balance sheets have contributed to pervasive capital underspending, and the winding down of construction activity at Medupi and Kusile power stations has also reduced investment. Growth in private sector capital spending is expected to have declined from 2.1% in 2018 to 1.7% in 2019.
Private sector investment, which is expected to average 12.6% of GDP in 2019, is forecast to recover moderately, reaching 12.8% of GDP in 2022. This pattern will be supported by improved global growth, the need to replace capital stock and an uptick in confidence over the forecast period. Large investment projects, such as the renewable energy Bid Window 4 projects, provide further support.
Although investment in SOCs is expected to remain constrained, initiatives such as the Infrastructure Fund are expected to crowd in private and public investment towards the end of the forecast period.
In March 2020, Moody’s Investors Service (Moody’s) downgraded South Africa’s long term foreign and local currency debt ratings to ‘Ba1’ from ‘Baa3’ and maintained the negative outlook – one notch below investment grade. According to Moody’s, the key drivers behind the downgrade were:
• structurally very weak growth and constrained capacity to stimulate the economy; and
• inexorable rise in government debt over the medium term.
The negative outlook reflects the risk that economic growth will prove even weaker and the debt burden will rise even faster and further than currently expected, weakening debt affordability and potentially, access to funding.
In April 2020, Standard & Poor (S&P) also lowered South Africa’s long term foreign and local currency debt ratings further into non-investment grade to ‘BB-’ and ‘BB’ respectively. The agency revised the outlook to stable from negative. According to S&P, the downgrade was a result of COVID-19 related pressures that would have significant adverse implications for South Africa’s already deficient growth and fiscal outcomes. The stable outlook reflected the balance between pressures related to very low GDP growth and high fiscal deficits against the country’s deep financial markets and monetary flexibility.
Job creation and wage growth are not easily achievable in the context of low economic growth. In 2019, formal non-agricultural employment fell 0.7%, bringing total employment to 11.3 million people. Annual private sector wage growth per worker was just 2.4% in the first nine months of 2019, compared with public sector wage growth of 7.2%. Total wage growth has outpaced profit growth since 2008.
Weak domestic demand continues to limit firms’ ability to pass higher prices on to consumers – a trend reinforced by low global inflation. Consumer price index (CPI) inflation and core inflation averaged 4.1% in 2019. CPI inflation is expected to rise to 4.5% in 2020, mainly due to rising meat and electricity prices, and is forecast to remain about 4.6% over the medium term. Inflation expectations remain well-anchored. There is a risk that higher administered prices and exchangerate depreciation could put upward pressure on inflation. Downward pressure could emanate from weaker-than-expected global inflation and continued pressure on retailer margins. Annual consumer price inflation was 4.6% in February 2020, up from 4.5% in January 2020. The CPI increased by 1.0% month-on-month in February 2020. The main contributors to the 4.6% annual inflation rate were food and non-alcoholic beverages; housing and utilities; transport; and miscellaneous goods and services. Food and non-alcoholic beverages increased by 4.2% year-on-year and contributed 0.7 of a percentage point to the total CPI annual rate of 4.6%. Housing and utilities increased by 4.7% year-on-year and contributed 1.2 percentage points. Transport increased by 6.2% year-on-year and contributed 0.9 of a percentage point. Miscellaneous goods and services increased by 6.3% year-on-year and contributed 1.0 percentage point. The annual inflation rates for goods and services were 4.9% and 4.3% respectively.
Government spending remains highly redistributive, with 55.4% of the budget allocated to learning and culture, health and social development. Total consolidated government spending is expected to be R6.14 trillion over the medium term. Main budget non-interest expenditure will grow from R1.54 trillion in 2020/21 to R1.65 trillion in 2022/23. Relative to the 2019 budget, main budget non-interest spending is reduced by R156.1 billion over the medium term. This is largely due to proposed measures, amounting to R160.2 billion, to reduce growth in the public service wage bill. The 2019 Medium Term Budget Policy Statement (MTBPS) noted that weak economic performance, revenue outcomes and balance sheets of several SOCs have necessitated reductions in government spending over the Medium Term Expenditure Framework (MTEF) period. The 2020 budget includes baseline reductions of R66 billion in 2020/21, R88.1 billion in 2021/22 and R106.8 billion in 2022/23. These include reductions to compensation ceilings and government programmes. Cost pressures, including new and urgent priorities, have been funded through a combination of reallocations and reprioritisations over the MTEF period. Despite these fiscal measures, government debt as a share of GDP continues to increase. Debt-service costs remain the fastest-growing expenditure item at an annual average rate of 12.3% and will increase to R290.1 billion in 2022/23. Total consolidated government spending is expected to grow at an average annual growth rate of 5.1%, from R1.84 trillion in 2019/20 to R2.14 trillion in 2022/23. Debt-service costs are the fastest-growing expenditure item over the medium term, rising at an annual average rate of 12.3% – more than double the average growth rate for total expenditure. Despite proposed reductions in compensation ceilings, compensation of employees continues to account for the largest portion of total spending, at 32.7% over the medium term. Transfers and subsidies, including transfers to local government and public entities, account for 33.1% of total spending. Public sector infrastructure spending remains proportionately low, as capital spending continues to be crowded out by rising consumption spending pressures, including the Public Service Wage Bill, and debt-service costs.