Maarten Ackerman, Chief Economist and Advisory Partner, Citadel – 3 March 2020
Going into this print, a negative outcome was expected, but not to this extent. The number came in below expectations, and we have firmly re-entered a technical recession. However, this is merely a statistical measure of a recession, and South Africa has in fact been in recession since 2013 in terms of per capita growth, owing to the country’s inability to achieve growth of above 1% or at levels above our population growth, which is currently 1.4%. As a result, the country’s social issues such as poverty, inequality and unemployment continue to grow more acute.
Even the third quarter of 2019 was worse than previously thought, as quarter-on-quarter seasonally adjusted and annualised figures were revised downwards from -0.6% to -0.8%. This is clearly symptomatic of the impact of the structural issues weighing on the economy and, in particular, the effect of electricity constraints and Eskom’s woes.
A further 1.4% contraction in the economy in the fourth quarter of last year has brought total GDP growth for 2019 to just 0.2%. To put this figure into perspective, at the beginning of 2019 the South African Reserve Bank and National Treasury anticipated growth of around 1.5%. The anemic growth of 0.2% seen instead does a great deal to explain some of the fiscal challenges we are currently facing, as an economy that is growing 1.3% less than expected will have had a massive impact on revenue collection targets.
Job creation stymied
Of the three sectors which contributed positively to GDP in the 4th quarter, finance increased 2.7% (making a 0.6% contribution), but the 1.8% increase which came from mining was especially encouraging given the labour and electricity issues which that sector faces. Importantly, the mining sector was able to benefit from the strong rebound in demand for gold and the platinum group metals witnessed last year.
However, for the balance of the sectors – the real sectors – where we need to see job creation for the South Africa’s modest skills base, we saw some very big declines. Agriculture, weighing in at -7.6%, was the worst-performing sector, and construction fell by 5.9%. Even the important manufacturing sector was down 1.8%, which paints quite a bleak picture over the quarter.
Household expenditure holds up…
On the expenditure side, it was somewhat heartening to see that exports were up 2.3% for the quarter, boosted by a weaker local currency and again demonstrating the fact that the South African economy is very much dependent on the global environment. On the other hand, imports came under pressure owing to weak local demand and lower levels of economic activity.
That said, household expenditure surprisingly rose by 1.4%. This indicates that despite consumer confidence being at decade lows and challenges such as economic uncertainty, high unemployment levels and extremely modest social grant increases, households seem to be managing to make ends meet.
… which bodes well for fiscal policy
All sectors except transport made a positive contribution to household expenditure, which is positive, given that we are a consumer-based economy. This shows that policy steps which create a better environment for the consumer might help to support the economy going forward.
This ties in with this year’s budget where tax relief was combined with no tax increases, which should support this part of the economy. We note quite a strong increase in the purchase of semi-durable goods and a decline in durable goods. This shows less spending on longer-term purchases which are often concluded using debt, and thus demonstrates consumer concern regarding uncertainty and the extended economic outlook.
Ongoing collapse in infrastructural spend
Particularly shocking, however, was the 10% decline seen in gross fixed capital formation (GFCF), which we hoped would pick up going forward in line with increased levels of foreign direct investment (FDI). Following five negative quarters, the trend created by two positive quarters for GFCF seen in Q2 and Q3 of 2019 would ideally have continued. Unfortunately, with business confidence also at decade lows, this marked decline shows once again that the investment community remains uncertain about South Africa’s policy environment and the way forward.
Government spending urgently needs to fall
Looking at expenditure on an annual basis, government came in with the highest growth at 1.5%, which is concerning if you consider the recent Budget. The state needs to cut back on spending, which we haven’t seen thus far. Given that the Budget made no provision for an increase in the revenue side of the fiscus, the only way to move the economic growth needle will be for government to really start cutting back on expenditure. However, with the pushback we’ve seen from the trade unions, it is still uncertain if the state will be able to pull this one off.
On Budget day last week, the markets responded positively to the speech, but soon thereafter they acknowledged the difficult position that South Africa is in, with a tough Budget to deliver. There are some big assumptions in the Budget, specifically regarding the wage bill and economic growth. This GDP print serves to highlight that it will not be an easy task to deliver the Budget that was presented less than a week ago. This, of course, increases the risk of a potential downgrade by the rating agencies. If we continue this trend of low economic growth, we can be certain that we will be downgraded this year.
The market has, understandably, responded negatively to the news. There have been sell-offs in the bond market and the rand, indicating that the market is expecting that the local environment’s challenges will remain, and will continue to be a significant headwind for South Africa to achieve the fiscal targets that were set out in last week’s Budget.
The outlook is dismal and a downgrade appears unavoidable
Worse, the first quarter of this year is going to be very bleak as well. We are facing local issues such as load shedding and electricity supply constraints, while globally there has been a significant slowdown in China as a result of the coronavirus (COVID-19). One of our biggest trading partners, China has just reported a PMI index that dropped to 40.3, its lowest since the survey began in April 2004 and the fastest decline on record.
This means that our headwinds will definitely rise in Q1 2020, so the recessionary environment will probably continue into 2020. This will, in turn, place our Budget numbers at great risk of not being achieved, and the expected 0.9% growth for the year will almost certainly turn out to have been too optimistic.
A credit rating downgrade appears unavoidable.