Lesetja Kganyago: Overview of the South African economy
Address by Mr Lesetja Kganyago, Governor of the South African Reserve Bank, at the
95th annual ordinary general meeting of shareholders, Pretoria, 31 July 2015.
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The Bank has come through yet another difficult year, and the coming year looks no less
challenging. At the global level, the past year has been dominated by the expectation of a
sustained recovery in the United States and United Kingdom. Despite negative growth in the
US during the first quarter of this year, partly due to adverse weather conditions, recent
positive labour market trends appear to have remained resilient, and there are increased
signs that the recovery will be sustained.
Although growth in the Eurozone remains relatively weak, it has emerged from a recession
and there appear to be some positive responses to the significant monetary policy stimulus
implemented by the European Central Bank since earlier this year. The past few weeks were
dominated by renewed concerns about the sustainability of Greek debt and the possibility of
Greece leaving the eurozone. The near term risks from this crisis appear to have been
averted for now, but the longer term sustainability of the Greek debt burden remains a
concern. Growth in Japan remains positive but very slow.
The outlook for emerging markets deteriorated over the past year, with negative growth rates
in both Brazil and Russia, and a slowdown in China, as the economy rebalanced away from
domestic investment towards consumption. While there has been a general expectation that
China would at worst experience a soft landing, i.e. growth of just under 7,0 per cent, recent
developments including the bursting of the Chinese equity market bubble, and systemic risks
to the financial markets and the property market, increase the downside risks to the outlook.
The growth moderation has already contributed to the persistent decline in commodity prices
that began in 2011, and accelerated in the past two months. The adverse effect on South
Africa's terms of trade was ameliorated somewhat by the sharp decline in international oil
prices that started in the middle of last year. Although growth in African economies remains
relatively robust, oil and other commodity producers face an increasingly difficult outlook.
Uncertainty regarding the pace and timing of US policy interest rate normalisation continued
to dominate global financial markets and the pattern of global capital flows. The changing
outlook regarding domestic US growth, labour market trends and inflation caused a great
deal of volatility in financial markets. Although an increase in the policy rate is expected
sometime this year, the exact timing is still uncertain, as is the pace and timing of future
increases. Monetary policy in the UK is also expected to be tightened later this year or early
next year. By contrast, monetary policy in Japan and the eurozone remains highly
accommodative, and is expected to remain so for some time.
Changing expectations with respect to monetary policy stances in the advanced economies
are likely to keep emerging-market currencies relatively volatile, as capital flows respond to
these developments. The rand was particularly vulnerable to changes in risk perceptions,
having depreciated by about 10 per cent on a trade-weighted basis during the financial year
under review. Since April 2015 it has depreciated by a further 4,5 per cent. However,
domestic factors also contributed to this depreciating trend. These included the persistently
wide current-account deficit of around 5 per cent of GDP, the strained labour relations
environment, and the weak growth outlook.
The past financial year was particularly difficult for the domestic economy, which had to
contend with a protracted strike in the platinum sector followed by a strike by metal workers.
The downward pressure on growth was exacerbated by the resumption of regular electricity
load-shedding by Eskom, which is expected to continue for some time.
The outlook for the economy remains subdued following a growth rate of 1,5 per cent in
2014. The Bank forecasts economic growth of 2,0 and 2,1 per cent in 2015 and 2016, rising
to 2,6 per cent in 2017 when the electricity supply constraint is expected to ease to some
extent. Growth in private-sector gross fixed capital formation remains weak but it improved
somewhat in the second half of 2014 and the first quarter of 2015, following a contraction in
the first half last year. Household consumption expenditure grew by less than 2 per cent
amid low credit extension to households, weak employment growth and a sharp decline in
consumer confidence.
Headline inflation, which had exceeded the target for five consecutive months during 2014,
returned to within the target range of 3 to 6 per cent in September and has remained within
the range since then. In the wake of the international oil price decline, inflation reached a low
of 3,9 per cent in February 2015 and has been increasing steadily since then, and measured
4,7 per cent in June. The Bank expects inflation to temporarily breach the upper end of the
target range during the first two quarters of 2016, with upside risks and pressures from the
weaker exchange rate as well as food and electricity prices. Wage settlements in excess of
inflation and productivity increases are expected to contribute to the persistence of inflation
at the upper end of the range. Core inflation is expected to remain within the target but
uncomfortably close to the upper end of the range.
Monetary policy had to contend with the continued dilemma of trying to balance rising risks to
the inflation outlook (driven to a large extent by supply-side shocks) and a weak economy. A
tightening monetary policy cycle commenced in January 2014 with a 50 basis point increase,
followed by a further 25 basis point increase in July 2014. This move was prompted by a
combination of rising inflation risks and the need to normalise the real policy rate, which had
been negative for some time. The lower oil price also allowed for a pause in this cycle. The
Bank's Monetary Policy Committee (MPC) emphasised the likely moderate nature of the
cycle given the negative output gap, and that further moves would be highly data-dependent.
In its most recent meeting earlier this month, the MPC decided to continue on its path of
gradual policy rate normalisation, amid continued upside risks to the inflation outlook.
Consequently, the repurchase rate was increased by 25 basis points to 6,0 per cent per
annum. The Bank remains committed to achieving its primary mandate of price stability but
will continue to conduct policy in a manner that is sensitive to the fragile state of the domestic
economy.
Progress towards operationalising the financial stability mandate of the Bank continued in
line with the Twin Peaks Regulatory Model which expands the responsibility of the Bank for
prudential regulation and supervision beyond banking, and locates the Prudential Authority
within the Bank. The Financial Sector Regulation Bill, which is expected to be tabled in
Parliament during 2015, assigns to the Bank the responsibility to maintain, promote and
enhance financial stability. The Bill gives effect to the policy framework for macroprudential
regulation and supervision and further provides for interaction and coordination between the
Prudential Authority within the Bank and other financial sector regulators. Once passed, the
Bill is expected to have significant resource and personnel implications for the Bank.
In the year under review, the Bank continued to develop its capacity to oversee and monitor
the broader financial sector with the adoption of a macroprudential surveillance approach.
At the microprudential level, the past year saw the first significant bank failure in South Africa
in over a decade when African Bank Limited was placed under curatorship. In cooperation
with National Treasury, the Bank and the private sector, the issue was resolved and
prevented systemic spillovers, which includes the application of bail-in provisions. This was
in line with the Key attributes of effective resolution regimes of the Financial Stability Board,
which South Africa has undertaken to adhere to as a G-20 member country. African Bank
Limited remains under curatorship and, once it is restructured, it is anticipated that the
resulting "Good Bank" will be relisted in the foreseeable future.
Let me now turn to the Annual Report.
The Bank remains committed to complying with best practice in terms of integrated reporting,
insofar as it is practical for a central bank to do so, taking into account the overriding
legislation and confidentiality requirements. The 2014/15 Annual Report reflects a holistic
account of all relevant and material financial and non-financial information, which will enable
stakeholders to evaluate the performance and impact of the Bank's operations and the
implementation of its mandate. We have again this year enhanced the look and feel of the
printed annual report and produced an interactive and easy to navigate HTML version on the
website. We hope that you have enjoyed reading the report.
I am pleased to report that, having made losses in the previous five financial years, the Bank
has returned to profitability. I should emphasise, however, that the Bank does not have a
profit-maximising objective and that its operations are conducted in the broader interests of
the country, in pursuit of its mandate and responsibilities. The Group recorded an after-tax
profit of R0,63 billion compared with a loss of R1,3 billion in the previous financial year. This
improvement in the financial position of the Bank was attributable mainly to unrealised profits
due to declining global bond yields and the depreciation of the rand against major currencies,
which increased the rand value of the interest earned from investing the country's
foreignexchange reserves. Operating cost increases were attributable mainly to the higher cost of
producing new currency, higher staffing costs, as well as the change in the actuarial
assumptions related to post-retirement benefits.
This year the shareholders' Roadshow was held only in Pretoria on 14 July, as there were no
timeous confirmations received from shareholders who wished to participate in the event at
the Cape Town and Durban branches via a video conference facility. Unfortunately, we have
found that the interest from shareholders in attending the Roadshow meetings has
diminished over time and accordingly we have decided that we will no longer hold the
Roadshow events prior to the AGM each year. However, I encourage shareholders to
communicate with the Bank via email or post when necessary and we will always respond to
your enquiries and the Bank will continue to correspond with the shareholders where there
are significant developments which would be relevant to them. In addition, the Bank holds
Monetary Policy Forums twice annually in Pretoria and in various centres around the country
and you are welcome to attend those meetings.