Address by Daniel Mminele,
Deputy Governor of the South African Reserve Bank,
at the networking lunch co-hosted
by the South African German Chamber of Commerce and Industry,
the Eastern Cape Economic Development Corporation
and the East London Industrial Development Zone
East London, South Africa
24 February 2017
Economic prospects for 2017
1. Introduction
Good afternoon, ladies and gentlemen.
And to the co-hosts of this networking lunch, allow me to express my gratitude for
creating the opportunity for us to interact today. It is not often that I find myself in the
Eastern Cape, addressing a business gathering such as this one.
I was intrigued to learn a few things about this city, such as the fact that it is home to
the only dodo egg in existence and that a remarkable number of our national sports
heroes hail from here. The German influence is also quite evident, as reflected by
some of the names given to the suburbs and surrounding towns, such as Berlin and
Hamburg.
Today I would like to engage you on economic developments and some of the main
themes which I believe will shape the year ahead for the global and domestic
economy. But before I do that, I would like to briefly touch on conditions in this
region.
2. Economic situation and developments in the Eastern Cape
The Eastern Cape, also known as the Adventure Province and the Province of
is an important contributor to South Africa's economic
Possibilities, fortunes. The
to around 12 per cent of South Africa's population
province is home and makes up
around 8 per cent of South Africa's
GDP1, making it the fourth-largest contributor to
GDP.2 The Eastern Cape economy is characterised by the dominance of the
secondary and tertiary sectors, with the manufacturing industry accounting for almost
the province's
14 per cent of GDP, while trade and finance contribute approximately
20 per cent each. The automotive sector is an important contributor to
manufacturing, accounting for 30 per cent of manufacturing employment and 32 per
country's
cent of manufacturing gross value added, generating 51 per cent of the
South Africa's passenger vehicles.3
motor exports and producing half of
Unfortunately, the latest growth statistics for the province are disappointing. On a
quarter-on-quarter basis, the national economy expanded by an annualised rate of
0,2 per cent in the third quarter while the Eastern Cape economy contracted by 0,3
per cent. On a year-on-year basis, the South African economy grew by 0,7 per cent
while the Eastern Cape economy grew by 0,6 per cent.4
Comparing the Eastern Cape to other regions, the province has experienced one of
the lowest growth rates in recent years. The decline in its economic activity can
mainly be attributed to the manufacturing and trade sectors. This slowdown has
mimicked the trend in the national economy, which witnessed a contraction in the
manufacturing sector of 3,2 per cent quarter on quarter in the third quarter of 2016
compared to the 8,1 per cent quarter-on-quarter expansion in the previous quarter.
The latest unemployment statistics from the Quarterly Labour Force Survey show
that the number of people employed in the Eastern Cape grew by 5 000 over the
fourth quarter of 2016. At the same time, the number of job seekers grew by 9 000,
thus resulting in a slight increase in the unemployment rate: it rose by 0,2 of a
percentage point to 28,4 per cent in the fourth quarter of 2016 from the third quarter
of 2016. Unemployment in the Eastern Cape is thus above the national
unemployment rate of 26,5 per cent, which in itself is unacceptably high. Youth
unemployment is even higher, with the national figure at 35,6 per cent. And
considering that the Eastern Cape is said to have the lowest absorption rate of just
over 30 per cent, this means that the challenges in finding a job for the youth in the
province are even more daunting. I was, however, very interested to read about the
success of the East London industrial zone, which has grown rapidly in the past two
years to now account for almost 3 500 direct manufacturing and services jobs, at a
time when the manufacturing sector has been struggling considerably. We need
more initiatives of this nature to address the unemployment problem in this province.
Of promise are the processes put in place by national government to revive rural
economies. Here, for example, I refer to the investment programmes in Special
Economic Zones and Agri-Parks as well as the training initiatives underway for the
youth in the Eastern Cape. The province has also been a strong beneficiary of
investment in renewable projects. The Coega Development Corporation has an
optimistic outlook for the province in terms of investment, with investment growth
expected to reach an estimated R44,6 billion in 2020. Furthermore, the
establishment of the Beijing Automobile International Corporation automobile
manufacturing plant and other major investment projects within the Coega Industrial
Development Zone bodes well for the province.
However, much more needs to be done to sustainably raise growth in the Province
province's
of Possibilities. The Coega Development Corporation predicts that the
economy should perform better going forward, but it is expected to reach a rate of
only 2,3 per cent by 20205.
3. Themes that shaped the global economy in 2016
At the beginning of 2016, the International Monetary Fund (IMF) forecast that global
economic activity would increase by 3,4 per cent for the year, with advanced
economies projected to grow by 2,1 per cent and emerging market and developing
economies (EMDEs) by 4,3 per cent.6 Fast-forward to a year later and the actual
outcomes have been weaker, with the projection for 2016 global growth now lowered
to 3,1 per cent, advanced economies downgraded to 1,6 per cent and EMDEs to 4,1
per cent.
A number of themes and events shaped the economic and financial market
landscape during 2016, and I would like to briefly touch on a few of these.
At the start of the year, one of the key risks was that of a possible hard landing in
China. There were concerns around whether China would achieve an orderly
rebalancing of its economy towards domestic consumption and away from export-
driven growth while at the same time dealing with rising financial imbalances and
concerns about a potential property bubble bursting. While these risks have not
disappeared, they did not materialise as feared and, thus far, Chinese authorities
seem to have managed to continue supporting economic activity while navigating the
China's
complex transition. economy has undergone a structural shift, where
consumption's share of GDP has
increased to over 50 per cent from just over 35 per
cent in 2012. Although China's rebalancing
has been negative for commodity
exporters, one cannot deny that, in the long term, it could open a path towards more
sustainable and balanced growth, and if successful in dealing with domestic
challenges, China could contribute to reviving global optimism. It is interesting to
growth for 2016 was
note that, in January 2016, the IMF forecast for China's 6,3 per
cent; this number has since been revised to 6,7 per cent.
The UK7 referendum was the next major event, where the outcome was somewhat
of a surprise. The decision to leave the European Union (also known as Brexit)
prompted a strong negative reaction from UK financial markets, at least initially. In
other parts of the world, financial markets took the news in their stride, bar a few
knee-jerk reactions. I would agree with the sentiments that this muted global reaction
to Brexit is testament to the much-strengthened financial systems in the aftermath of
the latest global financial crisis, although one cannot discount the actions of the
advanced economy central banks who stepped in and offered liquidity support to
financial markets at the time. Although the initial fallout from Brexit was relatively
well-contained, going forward, as the rules of engagement are defined and the terms
of the divorce are hammered out, not only will the implications for the UK become
Europe's
clearer, but Brexit will also be a key factor moulding economic, financial as
well as political landscape.
The final major event of 2016 was the outcome of the US8 presidential elections,
once again largely unexpected. Many consider this outcome to be a reflection of the
backlash against globalisation, and there is a concern that, over the course of 2017,
elections in some of the key advanced countries could move in the same direction.
Popular opinion has shifted towards a negative narrative, where globalisation is said
to be creating unfair competition from foreign firms and labour, with the result that
countries are increasingly turning inward.
Nonetheless, financial markets have shown resilience against a weak global
backdrop. In 2016, we witnessed a historic rally in bonds, in the process raising
some concerns over frothy valuations. Corporate bonds also benefitted from the
decline in sovereign bond yields. And while it was a mixed bag with regard to
currencies, the uncertainty and downside risks from the Brexit decision were
certainly reflected in the exchange rate of the British pound. In general, however, the
US dollar gained ground on expectations of a higher policy rate. EMDEs regained
their allure as emerging market currencies were among the best performers across
foreign exchange markets. Commodity prices also recovered from their lows. Finally,
concerns around the risk of US policy normalisation possibly causing some
dislocation in financial markets also turned out to be misplaced.
All in all, 2016 was a tough year, but one that was better than most of us had feared
it would be.
4. A global economy that is expected to turn the corner in 20179
The latest IMF World Economic Outlook (WEO)10 projects a pickup in economic
activity over the next two years, driven by EMDEs which are growing at well above
the world average. Global growth for 2016 has been estimated at 3,1 per cent and is
projected to increase to 3,4 per cent and 3,6 per cent in 2017 and 2018 respectively.
It is expected that advanced economies will experience a lift in activity from an
estimated 1,6 per cent in 2016 to 2,0 per cent in 2018. The US in particular is
projected to grow by 2,3 per cent in 2017 and 2,5 per cent in 2018, from an
estimated 1,6 per cent in 2016. Much of this pickup in growth is premised on
expectations of fiscal stimulus, tax reforms as well as cuts in both personal and
corporate marginal tax rates. Incentives to repatriate corporate profits held abroad
are also likely. However, the timing as well as the actual size and mechanics of the
fiscal stimulus are highly uncertain at this stage and implementation may take time. It
is largely expected that the net stimulus will only take effect by 2018. On the other
hand, trade policies and immigration reforms could offset these effects while there
could also be a potential drag from a stronger dollar and higher longer-term interest
rates.
Euro area growth is set to remain steady at 1,6 per cent in both 2017 and 2018. The
European Central Bank will be slowing its purchases of bonds from April, and while
monetary policy is set to remain accommodative, the decision to slow quantitative
easing has already seen the trend towards increasing negative yielding debt reverse,
such that more recent numbers point to a deceleration from around US$13 trillion in
2016 to US$9 trillion more recently. Fiscal authorities appear to be increasingly open
to providing fiscal support and implementing structural reforms. However, the
potential banking problems in Italy and the rising political risks associated with a
number of upcoming elections, including in Germany and France, will likely weigh in.
In the UK, the economy has so far proved relatively resilient against Brexit risks, but
this is unlikely to be the case going forward; indeed growth is projected to slow from
2,0 per cent in 2016 to 1,4 per cent in 2018. The UK growth forecast for 2017 was
revised up by 0,4 per cent in the latest WEO Update, to 1,5 per cent.
By all accounts, the deflation fears which once gripped the advanced world, apart
from Japan, seem to be abating. This is partly due to the increase in oil prices
following the agreement among OPEC11 members and several other major
producers to limit supply.
Emerging markets are set to accelerate from an estimated growth of 4,1 per cent in
2016 to 4,8 per cent in 2018. As the IMF points out, this projection largely reflects a
gradual normalization of conditions in a number of large economies that are currently
experiencing macroeconomic strains. China is expected to grow by 6,5 per cent in
2017, as a policy bias of easy fiscal policy and accommodative monetary policy is
expected to remain in place. However, the rapid expansion of credit, combined with
insufficient progress in addressing corporate debt, raises the risk of a sharper
slowdown or a disruptive adjustment. India is forecast to grow by 7,2 per cent in
government's
2017, although this forecast was trimmed somewhat due to the
decision to demonetise almost 90 per cent of the currency in circulation. This move
induced a temporary negative consumption shock owing to cash shortages and
payment disruptions. Both Brazil and Russia are expected to return to positive
growth in 2017.
So while the global economy is expected to turn the corner this year, there are a
number of risks that warrant attention. These include the possible shift towards
inward-looking policies, the continued threat of a potentially severe slowdown in
China, greater protectionism, a sharper-than-expected tightening in global financial
conditions (as monetary policy in advanced economies is expected to be less
accommodative going forward), and increased geopolitical tensions related to the
rise of populism; and Brexit, amongst others. As much as a fiscal stimulus from
advanced economies should be positive, the change to a less accommodative
monetary policy stance in advanced economies, in particular the US, combined with
a stronger US dollar, can have adverse consequences for emerging markets,
including accelerating capital outflows and putting the rebound in emerging market
economies in jeopardy. However, having said this, it is also true that emerging
markets are more resilient than before as macroeconomic fundamentals have
improved considerably and vulnerabilities have declined.
5. A domestic economy that is expected to recover in 2017
The domestic economy recovered from negative growth in 2009 to grow at 3,0 per
cent in 2010 but slowed to 1,3 per cent in 2015. The challenges mounted such that,
at the beginning of 2016, the South African Reserve Bank projected growth of 1,5
per cent for 2016. Some months later, the forecast was lowered to no growth at all.
This more pessimistic outlook came on the back of continued disappointing growth
outcomes as a result of a severe drought affecting the agricultural and manufacturing
sectors, negative growth in the mining sector and a weaker-than-expected global
backdrop, combined with political developments affecting business and consumer
confidence. Subsequently, however, growth forecasts were revised higher to 0,4 per
cent as the second quarter of 2016 delivered a positive growth surprise. This
acceleration in growth was short-lived, however, as the third quarter witnessed a
slowdown to 0,2 per cent.
The primary sector, which had experienced sustained contractions since the second
quarter of 2015, saw a real production increase in the second and third quarters of
2016, although this recovery lost momentum in the third quarter. Agricultural
production logged seven consecutive quarters of contraction as it continues to
recover from a historically severe drought. The manufacturing sector has been very
volatile, contracting by 3,2 per cent in the third quarter after growing by 8,1 per cent
in the second quarter. The contraction was broad-based as this sector has been
hampered by weak global and domestic demand, rising input costs and low business
confidence. The construction sector is also under stress, while both retail trade sales
and domestic new vehicle sales have continued their negative trend.
-
The employment outlook remains bleak not surprising given the poor economic
situation. The official unemployment rate stood at 26,5 per cent in the fourth quarter
-
of 2016 down from 27,3 per cent in the third quarter but still about 2 percentage
points higher than a year ago.
Recent data suggest some downside risks to the 2016 economic growth forecast,
such as a continued decline in business and consumer confidence as well as the
contraction in mining output during both October and November. And while the
Barclays Purchasing Managers' Index
increased to just above 50 in January 2017, it
had been in negative territory for five consecutive months.
Looking ahead, the most recent growth forecasts of the South African Reserve Bank
suggest growth of 1,1 per cent in 2017 and 1,6 per cent in 2018. However, it should
be noted that the recent monthly data for the fourth quarter suggest that there may
be a downside risk to these forecasts.
It is clear that the deceleration in the South African economy has underlying
economy's
structural causes. The estimated potential growth rate has been revised
downwards to approximately 1,4 per cent. Restoring growth rates to historical
averages will require structural reforms, without which the economy is expected to
expand at rates of between 1,0 and 2,0 per cent for the foreseeable future,
generating little or no improvement in either employment or individual living
-
standards particularly when considered in the context of the 1,5 per cent annual
population growth over the past decade. What is required is an increased focus on
reforms in product and labour markets, an environment more conducive to
increasing investment levels (particularly in the private sector), and better-quality
education outcomes which are more consistent with the future needs of the
economy. Ensuring better delivery by state-owned enterprises is also critical given
the important role that these entities play in providing the infrastructure to support
growth in the economy.
It is well known that South Africa has endured an environment of high inflation and
low growth, a situation presenting a challenge to monetary policy authorities. The
main priority for the South African Reserve Bank is price stability in the interest of
balanced and sustainable growth. Faced with this situation, the Monetary Policy
Committee (MPC) has increased the repurchase rate gradually since January 2014,
by a total of 200 basis points, to the current level of 7,0 per cent. This hiking cycle
was more gradual when compared to previous hiking cycles, responding to a more
uncertain and volatile policy environment which, given the weakening growth
outcomes, at times required the MPC to pause and carefully evaluate incoming data
to inform future monetary policy moves.
During 2016, there was some upward pressure on consumer prices as these
generally remained above the upper end of the 3-6 per cent inflation target range
throughout the year. These upward pressures emanated from food price inflation,
which increased by close to 12,0 per cent in the final quarter of 2016, the highest
increase since 2009 when prices increased in excess of 15 per cent. The upward
pressure on food inflation was mainly as a result of the severe drought experienced.
The exchange rate of the rand also recorded substantial depreciations at times, such
as that which occurred in December 2015 and January 2016, exacerbating the
inflation outlook. Underlying inflation, as measured by core inflation (which excludes
food, fuel and electricity), is at seven-year highs, which reflects some pass-through
from a prolonged period of currency depreciation and pricing behaviour in product
and labour markets.
The near-term outlook for inflation shows that prices are likely to remain elevated.
The latest inflation forecast of the South African Reserve Bank shows that headline
inflation may only return to within the target range during the final quarter of 2017,
average 6,2 per cent for this year, and decelerate to 5,5 per cent in 2018. This
forecast represents a deterioration from the previous MPC forecast of November
2016 and is mainly based on the assumption for higher international oil prices which
impact on the domestic fuel prices and more than offset the more favourable
exchange rate assumption. By contrast, the forecast for core inflation remains
unchanged, averaging 5,5 per cent and 5,2 per cent in 2017 and 2018 respectively.
In the most recent MPC statement, published last month, we noted that the inflation
forecast is a cause for concern but that the main drivers of this deterioration are
supply-side shocks, in particular oil and food prices. As the MPC has noted time and
again, its approach is to look through the first-round effects of exogenous shocks but
at the same time to exercise vigilance on the possible emergence of second-round
effects which could require a policy response.
In this regard, while oil prices have now risen from their low levels, various supply-
side factors are expected to constrain these prices. Assuming normal weather
patterns, food inflation is likely to have peaked at 12,0 per cent towards the end of
2016 and should decline following good rainfall and subsequent declines in spot
wheat and maize prices. However, some upward pressure will remain, originating
from the lagged response of meat prices to drought conditions. The more favourable
rand exchange rate bodes well and, barring any significant depreciation pressures, it
should help to offset some of the inflationary pressures in the forecast horizon.
Indeed, the rand has been resilient and has strengthened considerably, at times to
levels below R13,00 to the US dollar more recently.
It is against this background that the most recent MPC deliberations retained the
view that we may be near the end of the hiking cycle. However, should risks emerge
of second-round effects that undermine the longer-term inflation outlook, there may
be a reassessment of this view.
Before I conclude, allow me to make a few remarks about a topic that has generated
much interest during the last week, namely the outcome of the Competition
Commission's investigation into unlawful collusive practices among certain financial
institutions in foreign exchange trading involving the South African rand,
predominantly in major international financial centres. The South African Reserve
Bank views the allegations that have been referred to the Competition Tribunal for
prosecution in a very serious light and is of the view that those found to have violated
the law should accept full responsibility for their actions and be held accountable,
and corrective measures should be implemented. It is also important, however, that
we do not jump to conclusions and allow the steps now initiated to be completed
following due process. A resolution of this matter, without undue delay or prolonged
uncertainty, is in the interest of our financial markets and banking system, as the
allegations also involve a number of large and systemically important South African
banks.
6. Conclusion
In conclusion, we are hopeful that the global economy has reached a turning point,
that growth will now accelerate on a more sustainable basis, and that the threat of
deflation in advanced economies will subside. It is important that the levers of fiscal
policy, structural reforms and monetary policy are engaged in the appropriate mix so
as to underpin the recovery and make it sustainable. The current geopolitical risks
will need to be managed carefully so as to not undermine the recovery.
No doubt, 2017 will have its own set of challenges. Top of mind here is the impact of
the rising anti-globalisation and trade-protectionist rhetoric, the changing monetary-
fiscal mix which may present some challenges as the markets adjust to tighter
monetary policy in the US, uncertainty regarding the Brexit negotiations, and the
actual reforms and stimulus to be implemented by the new US administration. The
IMF also highlights that underlying vulnerabilities remain among some large
emerging market economies, including high levels of foreign currency denominated
corporate debt, declining profitability, weak balance sheets, and thin policy buffers.
Domestically, a more favourable global backdrop will certainly help. Having reached
the lower turning point in terms of growth and medium-term inflation prospects
having improved overall in recent times, it will be important for us to capitalise on
these encouraging developments and complement them with confidence-enhancing
measures while being mindful of the risks and addressing them in a systematic and
structured manner.
South Africa is a small and open economy, exposed to many risks beyond its control.
This makes it imperative that, through a collaborative national effort, we do not get
wrong that which is well within our control.
Thank you for your attention.