T T Mboweni: An overview of the economic challenges of 2006
Address by Mr T T Mboweni, Governor of the South African Reserve Bank, at the Annual Dinner in
honour of the Ambassadors and High Commissioners accredited to the Republic of South Africa,
Pretoria, 30 November 2006.
* * *
Your Excellency, the Dean of the Diplomatic Corps
Your Excellencies, Ambassadors and High Commissioners
Your Excellency, the Chief of State Protocol
Your Excellencies, Heads of International Organisations represented in the Republic of South Africa
Deputy Governors of the South African Reserve Bank
Senior officers of the South African National Defence Force
Senior Management of the South African Reserve Bank and their spouses/partners
Editors and other media representatives
Ladies and Gentlemen
1. Introduction
It is an honour to welcome you once again to the South African Reserve Bank for what has become an
annual event on our calendar. Every year I am humbled by the turnout, and this year is no exception.
This past year has been an extremely challenging one from a monetary policy perspective. Some of
the challenges have emanated domestically, but external economic and geopolitical events have also
provided challenges to us as well as to many other central banks around the world. This evening I will
give a brief broad-brush review of some of these developments. Further details can be found in our
publications, including our Quarterly Bulletin which will be released next week. I am aware that one of
the issues that is close to your hearts in the diplomatic community is the behaviour of the exchange
rate of the rand as your purchasing power in this country varies inversely with the fortunes of the rand.
I have noticed that many of you are looking a lot happier tonight than you were this time last year!
2. The external environment
The recent World Economic Outlook published by the International Monetary Fund (IMF) characterised
the global economic environment as robust, with economic activity exceeding expectations. While the
global expansion has in general been broad based, the improved growth performance of developing
and emerging economies compared to that of developed economies has been most noteworthy. This
improvement has taken place across all regions, including sub-Saharan Africa. As a group, developing
countries now account for more than half of total world gross domestic product (GDP) in
purchasingpower parity terms.
This past year has been overshadowed by a high degree of volatility in the international oil markets,
which posed a risk to the outlook for world growth and inflation. During the course of the year, the
price of Brent crude oil reached new highs of almost US$80 per barrel as a result of tight supply and
demand conditions as well as geopolitical developments. Since then the markets have stabilised
somewhat and prices are currently around US$60 per barrel.
The pressures on world inflation have also been reinforced by high levels of capacity utilisation and
strong global consumer demand. Consequently, we have seen the adoption of a general monetary
policy tightening cycle in many countries. During the past year, most industrialised and emerging
market central banks have raised interest rates at some point. These actions are expected to keep
world inflation under control.
The global imbalances which have persisted over the past few years have been topical issues in the
IMF, World Bank and G20 forums. The anomaly of the current global imbalances is that developing
countries, particularly those in Asia are now the financiers of the current account deficits of the United
Sates and other industrialised countries. A major concern is whether or not the elimination of these
imbalances will take place in an orderly fashion. Although the dominant view is that the process will be
orderly, the risk remains that the international economy could be in for turbulent times should a
disorderly process emerge. It is probably too early to assess whether the current volatility we are
observing in the international currency markets is the beginning of this adjustment process, or to
predict how this process will unfold.
Until May this year, emerging markets had enjoyed an extended period of investor exuberance and
search for higher yield, which, combined with a generally supportive environment of strong global
growth and high commodity prices, caused emerging market currencies to appreciate, equity prices to
increase and bond spreads to narrow. However, in May, uncertainty regarding future inflation, interest
rates and growth in the major economies contributed to some repricing of these assets. Following the
anxieties caused to the markets by the widening current account deficits of Iceland and New Zealand
earlier in the year, those countries which were perceived to have greater external vulnerability as a
result of either high current account deficits or higher levels of external debt, were most affected.
South Africa was among these, and as a result the rand depreciated significantly during the second
and third quarters of 2006.
Fortunately this episode was relatively short-lived and the latest indicators suggest that emerging
markets have generally recovered and are enjoying renewed appetite among global investors for
higher yielding assets. On the positive side, it seems as if emerging markets have become more
resilient to sudden changes in investor sentiment than they were at the time of the Asian crisis in
1997/98.
A major disappointment during 2006 was the inability of trade negotiators around the globe to
conclude or, at least, continue with discussions in the Doha Round of the World Trade Organisation.
There is no doubt that the major reason for the Doha breakdown is to be found in disagreements over
agricultural sector protection. The failure of these trade negotiations came as a major disappointment
to developing countries in all regions, but the ultimate cost could be borne by both developed and
developing nations. Apart from the foregone opportunities for both developed and developing
countries that a successful conclusion would have provided, of greater importance are the losses that
all will be incurred if the world trading system is allowed to deteriorate with a reversion to
protectionism.
3. Domestic economic developments
On the domestic front, 2006 has proved to be an eventful and challenging year, which has been
influenced to a significant degree by the international developments that I have made mention to
above. From a monetary policy perspective, we have continued to achieve our mandate, which is to
keep CPIX inflation within the target range of 3-6 per cent. Inflation has been within this range since
September 2003 which enabled us to reduce nominal interest rates by a total of 650 basis points
between June 2003 and April 2005. In recent months the trend of inflation has been rising, and in
October CPIX inflation measured (5% ) per cent compared to 3,7 per cent in April of this year.
Furthermore our forecasts suggest that inflation could reach the 6 per cent level by the second quarter
of next year. In response to the deteriorating inflation outlook, the monetary policy stance was
adjusted in June of this year when we increased the repo rate by 50 basis points. The repo rate was
increased further by 50 basis at each of the subsequent meetings in August and October.
For much of the year, international oil price developments posed a major risk to inflation. The price of
95 octane petrol increased from R5,49 per litre in January 2006 to peak at R7,04 per litre in August.
Fortunately pressures on inflation from this source dissipated somewhat with the decline in the
international oil prices and since August domestic petrol prices have declined by a total of R1,07 per
litre. Despite this recent moderation, we still see the international oil price being vulnerable to global
geo-political tensions, and therefore it continues to pose an upside risk to our inflation outlook.
Of concern to us during the year was the persistent rise in domestic consumer demand which in recent
times has been increasing at a year-on-year rate of around 8 per cent. This consumer exuberance has
been financed by high rates of domestic credit extension and has led to record levels of consumer
indebtedness of around 70 per cent of household disposable income. Contributing to these high levels
of demand have been rising real incomes, increased employment, lower interest rates and higher
asset prices. Both the housing market and equity markets have remained buoyant. The equity market
in recent weeks has reached new record highs, having recovered from the reversal it suffered during
the international market volatility in May and June when the all-share index declined by as much as 16
per cent.
The rand exchange rate was also not spared the fall-out of the emerging market jitters in May and
these developments have had an impact on the inflation outlook. Having traded in a relatively narrow
trading range for much of the first half of this year, the exchange rate reacted to the global risk
aversion, and between 11 May and the middle of June it depreciated from R6,10 to the US dollar to
around R6.80. Subsequently, concerns relating to the widening current account deficit on the balance
of payments in excess of 6 per cent of GDP caused the exchange rate to depreciate further. At one
stage the exchange rate had depreciated to around R7,90 to the US dollar in early October, but more
recently it has been trading at levels of around R7,20.
In part the depreciation of the rand during 2006 should be seen as an element of the adjustment to the
then widening current account deficit. Already the trade account has improved in the third quarter of
this year, and a stable rand at current levels will help stabilise the inflation outlook. In addition, the
exchange rate adjustments are expected to be positive for export growth, and in conjunction with the
adjustment of interest rates should help to ensure that domestic growth is driven by exports and
infrastructural investment, rather than by strong consumer spending as has been the case in the past
two years.
International investor interest in South Africa has nevertheless remained strong. Despite the repricing
of emerging-market assets in the middle of 2006, there has not been one month during the year to
date in which non-residents had not been net purchasers of South African bonds and equities. In the
year to date, the net amount of bonds and equities purchased by non-residents totals a record of more
than R100 billion, compared R41 billion in the whole of last year. Consequently, the current account
deficit continued to be adequately financed. Although we are hesitant to become too confident too
soon, it also appears as if portfolio investments may be becoming a more stable source of financing,
as emerging market assets become a more integrated part of global investment mandates, in
particular those like South Africa which have investment grade ratings.
In 2004 and 2005 the South African economy grew at robust rates of 4.8 and 5.1 per cent respectively.
This is in sharp contrast to the 3 per cent average annual growth experienced between 1994 and
2003. In the first two quarters of this year, the economy grew at revised annualised rates in excess of
5 per cent. Although the third quarter growth slowed to 4.7 per cent, this is still a very encouraging
picture. According to the National Treasury projections, a growth rate of 4.4 per cent is forecast for
next year, rising to 5.3 per cent by 2009. Growth is likely to be underpinned by higher infrastructure
expenditure. The impact of this can already be seen in the strongly rising investment ratio. These
higher growth rates have also had a positive impact on employment growth. According to the latest
Labour Force Survey, approximately 1.2 million jobs were created over the 3-year period to March
2006. This is good news indeed.
This positive growth outlook suggests that with an appropriate policy environment, the aims of the
Accelerated and Shared Growth Initiative for South Africa (ASGISA) can be achieved, that is, to
maintain GDP growth at around 4.5 per cent until 2009 and 6 per cent thereafter. Fiscal policy has
remained prudent, to the extent that for the first time ever, provision has been made for a budget
surplus in the coming fiscal year. Monetary policy will continue to play its role by providing a low
inflation environment.
4. G-20 developments
I would like to turn briefly to our role in the G-20 which South Africa will chair in 2007. The G-20 was
established in 1999 as a forum where central bank Governors and Ministers of Finance of developed
and systemically important emerging and developing economies deliberate on issues relating to global
economic and financial stability in support of global growth and development. The Bank and the
National Treasury are currently making the necessary preparations for hosting and arranging meetings
and seminars of the G-20 next year and three themes for the 2007 work programme have been
identified.
The first theme relates to the reform of the Bretton Woods Institutions. As I have said in the past, these
institutions need to be thoroughly examined and overhauled since their modus operandi no longer
serves their diverse membership in today's dynamic global environment. The second theme of fiscal
elements of growth and development, or fiscal space, is envisaged to obtain the perspectives of G-20
member countries on how to create and use this fiscal space in support of economic and social
objectives. Finally, the third theme will analyse the effects of commodity price changes on G-20
members from a financial stability perspective.
5. Conclusion
As I noted earlier, 2006 has been a challenging year. Going forward, I would venture to guess that
2007 will be no easier. The South African economy should continue on its positive growth path, and
the Bank will maintain its focus on keeping inflation under control. We remain committed to our role of
providing a stable macro-economic environment which would mitigate the effects of negative
international developments if they were to occur.
Should you wish to have a further discussion on South African economic issues tonight, I urge you to
engage our senior staff members that have been allocated to all the tables. Finally, please enjoy the
rest of the evening, and may you have in the period ahead a wonderful festive season and a
prosperous New Year.
Thank you.