It has been a tough year for South Africans and, unfortunately the ‘Ramaphoria’ feel-good factor didn’t linger beyond the first few months of the year. Policy uncertainty, particularly around land reform, whittled away at business confidence over the course of the year and, as a consequence, private sector investment remained severely constrained. To make matters worse, SA entered into a technical recession in the first half of the year following two consecutive quarters of negative gross domestic product growth. To add insult to injury, a de-coupled global economic backdrop (with a strong United States economy outstripping the rest of the world) resulted in a strong greenback and a lack of US dollar liquidity outside the United States. This caused pain to emerging market countries with high levels of US dollar-denominated debt.
The rand proved to be exceptionally volatile over the year. After a strong showing following the ANC elective conference in December 2017, which pushed all the way through to the inspirational State of the Nation Address by President Cyril Ramaphosa in February, foreign investors began to sell-off SA bonds, equities and the rand as a hedge against emerging market anxiety. This saw the rand depreciate by close to 25% against the US dollar over a six-month period. A ramping up of trade war rhetoric from United States President Donald Trump certainly didn’t help matters.
In October, the Medium Term Budget Policy Statement highlighted the significant fiscal challenges facing SA, particularly considering the higher-than-previously-anticipated debt projections. As a result, a credit rating downgrade to sub-investment grade by ratings agency Moody’s remains a very real threat.
Fixing the rot
Over the past year it was easy to become negative about the SA story, especially with a variety of inquiries and commissions on the go, all highlighting just how bad things were with respect to state capture and mismanagement at the South African Revenue Service. But this spotlight should be regarded in a positive light. It is, after all, part of a repairing process. There have also been constructive engagements between big business and the Presidency and President Cyril Ramaphosa has been pragmatic and consistent in his messaging. However, while there have been important management changes in SA’s s state-owned enterprises this has not yet led to any de facto reform initiatives and considerable policy uncertainty remains.
We have previously articulated the importance of reform in unlocking the considerable potential that SA has on the economic growth front. National Treasury published in its 2018 budget review the potential economic impact of selected reforms. Treasury pointed out that an improvement in confidence could add 0.5% to potential gross domestic product while telecommunications reforms would add 0.6%. Removing barriers to entry adds another 0.6%, while transport reform and prioritising tourism and agriculture could add a further 0.5%. This adds up to a potential growth rate of 3.7%, which would serve to make inroads into SA’s exceptionally high unemployment rate. The big question is, therefore: When are we going to see evidence of these reforms?
The road ahead
There is a widespread expectation that the ANC will win the national elections, which are likely to be held in May 2019. The common wisdom is that the greater the extent of the victory the greater will be Ramaphosa’s ability to consolidate the ruling party and initiate with urgency the necessary structural reforms. Land reform is unlikely to be conducted in an irresponsible and economically damaging manner and should not result in a loss of property rights. Greater title and involvement in the formal economy by a greater proportion of the population means upside economic growth potential. However, there is always the risk that any ongoing populist measures could constrain reform potential, in which case business confidence would battle to recover from its current severely depressed levels.
It is impossible to overestimate the importance of reform and the growth it inspires in alleviating poverty and social ills. Growth is mentioned a great deal in this article, in part because it triggers a positive reinforcing cycle. Debt levels become a smaller proportion of an ever-expanding economic pie, the county becomes more credit worthy and debt service costs come down. Government spending can then be better allocated towards investment which, in turn, allows the economy to grow more rapidly.
According to a recent World Bank report, only about 60% of working age South Africans participate in the labour force and of those more than 27% are unemployed. Among the youth the unemployment rate is over 50%.
The question is: What does this all mean from an investment perspective? Well, markets reward growth. In such an environment corporate earnings are boosted and valuations are enhanced. Greater productivity also reduces inflation and interest rates which also boosts valuations.
In short: Reform is a win for investors and for SA as a whole.
Other articles in this issue of Global Perspectives
- Dust yourself off…
- A world still in transition
- A tough year passes into the rear-view mirror
- Emerging market trends to watch
- Oil market sets up opportunity on the horizon