Economic Recovery in Danger of Being Derailed by Political Turmoil

SOUTH AFRICA - Forecast 18 Apr 2017 by Iraj Abedian

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Summary and Assumptions:
• South Africa’s Growth: Economic growth in South Africa for 2016 came at a post 2008/09 financial crisis low of 0.3%. Real growth however tuned negative during the last quarter of 2016 as it contracted by 0.3%, following a growth rate of 0.4% in the third quarter of 2016. Prospects for the South African economy are looking grimmer following the most recent events in the political economy sphere. Along with the downgrade of the country’s credit rating by both S&P and Fitch during the first week of April 2017, uncertainty in the country’s economy has escalated. Real economic indicators have also been going down. We therefore expect a GDP growth of less than 1% for 2017, with a downside risk of a mild recession.
• Business Confidence: In line with the low business confidence environment that prevailed for most of 2016, gross fixed capital formation contracted for all but one quarter during 2016, and also contracted in annual terms. Weak growth in investment contributes to slow growth in potential output, and therefore this environment of low investment that characterized 2016 unfortunately means that economic growth will be negatively impacted for the coming years. However, growth in gross fixed capital formation was positive in the last quarter of 2016, and if this continues into 2017, then economic recovery from 2017 has a better chance of materializing. Furthermore, the investment component of Private Sector Credit Extension started picking up during January 2017. This indicates that the private sector’s sentiment towards the South African economy was turning more positive towards the end of 2016/beginning 2017. However, the prevailing environment of high uncertainty will most likely reverse the gains in business confidence along with investment rates.
• Consumer Confidence: Low consumer confidence translated into weak consumer demand that saw retail sales weakening. Inflation rate remains high and continues to erode consumer spending, while the relatively higher interest rates mean that debt servicing costs for consumers are high. Real final household consumption expenditure also declined in 2016. We expect low consumer confidence to persist in 2017.
• Unemployment: Average quarterly unemployment rate has been rising since 2014 in the past few years, and was at its highest in 2016 when it recorded a high of 26.7%. This was in line with general economic activity in the country that was low during 2016.
• Exchange Rate, Inflation & Interest Rates: South Africa’s average annual inflation rate accelerated significantly from 4.6% in 2015 to 6.4% in 2016, and the latest inflation data (Feb 2017) puts South Africa’s inflation rate at 6.3%. The rand has been a subject of much interest in the past few weeks. The political turmoil creating an environment of heightened uncertainty has resulted in significant depreciation and volatility in the rand and there is much speculation with regard to its future movements. We no longer foresee a cut in interest rates by the South African Reserve Bank in the near future due to the ongoing political turmoil, and we expect the repo rate to remain at 7%, with the possibility of interest rate hikes should the country’s macroeconomic environment become even more volatile.
• The Fiscus: Government’s efforts at fiscal consolidation have so far resulted in a deficit that did not change from 2015 to 2016 and a government debt to GDP ratio that increased during the period. With the general perception that the newly appointed Minister of Finance will not be as fiscally prudent as his predecessors, the odds are high that these variables are going to deteriorate in the coming years.
• Current Account: The deficit on the current account narrowed both during the last quarter of 2016 and for 2016 as a whole. This is a welcome positive development as this will provide a better buffer from external shock, which is especially important at the moment given the current environment of heightened uncertainty. Higher commodity price and the depreciating rand will continue to benefit the current account during 2017. The first quarter of 2017 is likely to see a deterioration in the trade balance (and hence a slight increase in the current account deficit) due to the stronger rand at the end of 2016 / beginning of 2017.