Impact of Slow Global Growth on South Africa

PESA Editorial – South Africa - 1Q2017/18

Former Minister of Finance, Pravin Gordhan delivered the much anticipated South African budget on 22 February 2017. The budget reflects the difficult economic environment with unemployment having increased to 26.7% in 2016 (2015: 25.4%). The economy continued slowing in 2016 with growth estimated at 0.5% (2015: 1.3%) and inflation recorded 6.4% (2015: 4.6%) which is above the national target of 3-6%. The rising inflation prompted to South African reserve bank to increase interest rates by 75 basis points (bps) in 2016 (2015: 50bps) and cumulatively interest rates have increased by 200bps to 7.0% since 2014. In this context, domestic fixed investment declined by 3.6% (2015: 5.3%)1. In addition, concerns about political risk and instability since the December 2015 Minister of Finance reshuffle have kept South African fiscal sustainability under the scrutiny of credit ratings agencies. The budget was therefore strategically used as a signal to credit ratings agencies of the government’s response to these deteriorating economic conditions and its commitment to fiscal consolidation to reign in public debt.

 

South Africa was able to avoid a credit ratings downgrade narrowly at the end of 2016. All three major ratings agencies (Moody’s, Fitch Rating and Standard and Poor’s) affirmed South Africa’s credit rating at investment grade but Fitch revised its outlook from stable to negative citing continued political instability within in the ANC as the key driver for the revision2. On 30 March 2017, President Jacob Zuma announced a reshuffle of almost 1/3 of his cabinet which heightened the risk of a credit rating. On 3 April 2017, Standard and Poor’s downgraded South Africa to junk status whilst Fitch and Moody’s have put South Africa on a watch list. Fitch Ratings is likely to downgrade South Africa due to concerns that the recent reshuffle will derail commitments made in the budget towards fiscal consolidation and lead to a deterioration of prudent public financial management.

 

 

The choice of ministers in President Zuma’s latest reshuffle signal his intention, which is to continue with his programme of state-driven infrastructure investment. The fact that ministers in three critical infrastructure-related Ministries of Energy, Finance, and Transport have been fired shows the possible intentions of political meddling. This is also reinforced by the 2017 budget allocation which places strong fiscal commitment towards energy and transport investment amongst others. Minister Gigaba, who replaces former Minister of Finance Gordhan, is much less of a conservative and is more charismatic; perhaps some of his learnings and mixed achievements whilst at Home Affairs would assist him in his new portfolio. Some might argue that Minister Gigaba that perhaps a less conservative approach is needed for South Africa to navigate the challenging space of slow growth, rising inflation and interest, and unemployment. The blind commitment to market economics under former Minister of Finance Trevor Manuel, which decimated South Africa’s manufacturing sector and killing the clothing industry, provides a clear example of the limits of conservative market economics.

 

However, appointments in Energy and Transport should raise concerns about political meddling in these portfolios. Both ministers appointed to energy and transport have experience in provincial government from the Gauteng and Limpopo provinces respectively. This may be a strategic move by President Zuma given that state-owned enterprises, provincial and local government have the lion share of public sector infrastructure investment. In addition, public financial management is driven by patronage networks and political expedience at provincial and local government hence the continued poor audit outcomes. Moreover, the many cases of mismanagement of state-owned enterprises which has led to deteriorating financial sustainability are a major source of growing public debt and provide the best opportunities for political meddling.

 

 

Therefore these placements can be understood as a strategic move by President Zuma in order to capture rents from public infrastructure investment by pursuing a decentralised approach to investment which could open the political space for political meddling. However, strong institutions have been established to regulate government budget appropriation and spending such as the Municipal Finance Management Act and other pieces of legislation which either reduce opportunities for political meddling or expose improper financial management through the audit process. Moreover, the National Treasury has recently launch an online platform called Municipal Money (https://municipalmoney.gov.za/) with the intention of increasing transparent in provincial and local governments’ public financial management.

 

Nevertheless, the reshuffle decisions by President Zuma show some intent towards creating an environment for political meddling given that none of the ministers are Executive Authorities to a number of state-owned enterprises faced with mismanagement and financial losses have been fired. For example, currently state-owned enterprises such as the South African Postal Office (SAPO), South African Broadcasting Corporation (SABC), South African Airways (SAA), the Passenger Rail Agency of South Africa (PRASA), the Independent Communications Authority of South Africa (ICASA), and Eskom have all either had their Board of Directors dissolved, or require continued government bailouts, or had a number CEO changes. However, ministers who were responsible for these ministries have been redeployed instead of being fired. The recent defense of Minster of Social Development by President Zuma in parliament, despite clear mismanagement and oversight of the South Africa Social Security Agency (SASSA)3, also signals his intention towards impunity which may be of concern.

 

This new incumbent minister are faced with mounting socioeconomic challenges and difficult trade-offs and dilemmas as they assume their new positions. The current slow economic growth and rising instability caused by inequality, unemployment and poverty necessitate greater government spending. In addition, the socioeconomic condition and legacy of Apartheid require concerted government intervention to ensure a more equitable distribution of income, overcome the racial legacy and support much needed structural transformation. But on the other hand, limited fiscal space and valid concerns about public debt sustainability in the context of deteriorating financial management and transparency within the state necessitate stringent measures to ensure efficient and effective use of public funds.

 

Due to low commodity prices, which have remained depressed since 2014, the mining sector’s contribution towards economic growth and investment has been severely curtailed. In addition, the 2015 drought has had a severe impact on agricultural output. Even though there are speculations that the agriculture sector may be on its path to a recovery4, the global trading environment does not support growth in exports due to growing isolationism in the United States and uncertainties about the future of the European Union as a result of Brexit. In this context, economic growth has been slow and insufficient to finance public investment and social welfare demands. Hence the state has started accruing debt in order to finance national development. Thus governance is faced with a dilemma between fiscal sustainability and social development or sustainable economic growth.

 

Public debt has risen from 26.4% of GDP in FY2009/10 to 45.5% of GDP in FY2016/17. This has been driven by strong public investment in infrastructure in transport, energy, water and sanitation, and housing. Although this trend is expected to increase in the medium-term, public debt is expected to only reach 48.2% of GDP in 2019/205. This is still sustainably below the current SADC prudential limit and macroeconomic convergence level of public debt at 60% of GDP and a fiscal deficit between 2-4% of GDP6. South Africa’s public debt situation has remained within these SADC limits since 2012. However, the sustainability of public debt is undermined by sustained slow growth and pressure to further increase public debt to finance the nuclear investment project which is currently estimated to cost up to ZAR1.4trillion7. This would put public debt in distress given that net public debt is currently estimated at ZAR2.2trillion in FY2016/17. With the nuclear investment, public debt would rise to approximately 67% of GDP all things constant.

 

 

Despite the possible negative impact of growing infrastructure investment on public debt, public investment is much needed in the current economic conditions. Government investment has taken up the burden of national development in the context of slowing private investment. The challenge though is that government is now faced with fiscal sustainability challenges due to slow growth and competing needs for public finances towards social development. The current economic conditions provide a conundrum for government, both domestically and throughout the Southern African Development Community (SADC) region.

 

However, market responses could also have a bearing on future fiscal sustainability. The possibility further downgrades from Moody’s and Fitch is a likely risk. This would increase the borrow costs, deter foreign investors and further deteriorate the public debt situation. Moreover, President Zuma and new incumbents have a much more difficult role that adhering to fiscal consolidation in order to regain investor and credit ratings agencies’ confidence. Therefore, transparency in public investment and procurement going forward will have a strong bearing on public perception, fiscal sustainability and the successful implementation of public investment.


1 South African Ministry of Finance
2 Fitch Ratings
3 Parliamentary Monitoring Group; South African Department of Social Development.
4-5 South African National Treasury
6 Southern African Development Community
7 There are various estimates for the possible cost of South Africa’s proposed nuclear investment. Some have estimated it at ZAR500-750million whilst the media has touted the ZAR1trillion number. However, others have argued that the costs will depend on location, proximity of inputs and disposal, and the availability of the required labour skills.


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