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B Cameron
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SA’s Recession: how did we get into this mess?

10 June 2014, 15:37

South Africa’s economy plummeted into recession in the first quarter of this year for the first time since a recession in 2009. But how did we get into this mess? And how do we fix it? Analysts blame the current recession on low mining output due to a protracted strike in the platinum belt. But that’s not the whole story. 

Gross domestic product fell (GDP) shrank 0.6% quarter-on-quarter in the first quarter after a 3.8% increase in the final quarter of 2013, Statistics South Africa said on May 27, 2014. GDP was dragged into negative territory by a 24.7% plunge in mining production and a 4.4% fall in factory output in the three months through March.[i] The rand fell to a low of 10.4570 against the US dollar on the back of this news, down about 1% on the day, and was still on the back foot at 10.4300.

On May 22 the South Africa Reserve Bank (SARB) left its benchmark repurchase rate unchanged at 5.5% for a second consecutive period as economic growth concerns was prioritised over inflation worries. The economy will probably expand 2.1% this year compared with 1.9% in 2013, SARB said.[ii]

How we got into this mess

The question of how we got into this mess requires a holistic view. Although analysts blame the current recession on a 5–month strike in the platinum belt, there are other contributing factors.

South Africa is the world’s largest platinum producer. Operations at platinum mines owned by Anglo American Platinum Ltd. (AMS), Impala Platinum Holdings Ltd. (IMP) and Lonmin Plc. (LMI) because of the strike. However, mining contributes only 6% to GDP.

A toxic mix of critical factors has led to our economic decline and these include a credit bubble, excessive government spending, corruption, labour unrest, sluggish overseas markets and a lack of foreign direct investment (FDI).

Emerging markets bond boom

The low interest rate environment in developed economies caused “$4 trillion of speculative ‘hot money’ to flow into emerging market investments.” [iii] This unprecedented emerging markets bond boom allowed for great growth in developing economies.

In May 2013 the Federal Reserve announced a program for tapering or downsizing the U.S. Federal Reserve by $85 billion per month in QE3. The announcement influenced investors to abandon emerging markets at a rapid pace and to reinvest in recovering Western economies.

The resultant impact on developing economies was devastating. According to EPFR Global, “more than $19 billion left funds investing in developing-nation assets in three weeks.”[iv] This sudden mass exodus of funds affected currencies worldwide. Our currency and bond markets crumbled at the unexpected removal of foreign investment. The Rand dropped by over 12% in May 2013, with an 18% loss by the end of 2013.

The emerging markets bond boom helped to lower the yields on South Africa’s 10-year government bond to a record low of 5.77% after the global financial crisis which in turn reduced government’s borrowing costs. The government took advantage of this global monetary largess by borrowing and increasing its spending by nearly 50 % in the past decade.

Growth Driven by a Credit Bubble

Low interest rate environments generally inflate credit and asset bubbles, which is what has happened in our economy over the last ten years. Our country has had two low interest rate periods, the 2004–to–2006 period and the post–2008/9 crisis period, both of which led to rapid credit growth above the rate of economic growth.

Since 2008, our real GDP grew by 12.7%, while private sector loans surged by nearly 45%.

Domestic debt. Unsecured loans, i.e. consumer and small business loans not backed by assets, is the fastest growing segment of our credit market, having grown at 30% per year since 2007. Unsecured lending has become popular as banks can to charge interest rates of up to 31% per annum, making these riskier loans far more profitable than mortgage and car loans in a low interest rate environment. The unsecured credit bubble is estimated to have boosted the country’s GDP by R 219 billion from 2009 to mid–2013.

Unsecured lending has contributed to the country’s growing household and personal debt problem. According to the National Credit Regulator’s report of 2012/2013, personal debt is worth R1.44 trillion, equivalent to 36.4% of the GDP.

Government spending

Due to government’s excessive public spending boom, the national government debt soared from 27.4 % in 2009 to 42.5% of (GDP) in 2012/13. After the 2008/9 global financial crisis, the government began to run large budget deficits to boost the country’s economy, allocated mostly toward social services for the poor, including healthcare and education.

The country’s total outstanding external debt, or debt owed to foreign creditors, now stands at $136.6 billion; that’s 38.2% of GDP, the highest since the 1980’s, compared to an external debt–to–GDP ratio of 25.1% five years ago. This is largely due to an emerging markets bond boom that boosted foreign demand for government bonds.

The country’s debt burden is further exacerbated by corruption. That the South African public service is corrupt is a fact that has been openly acknowledged by government leaders. Corruption is a moral and political issue that must dealt with decisively.

Lack of Foreign Direct Investment (FDI)

One main issue for the economy is SA’s relation with and reliance on European and US markets. The persistently sluggish environment in Europe and the United States as well as weaker commodities prices have been a drag on the economy.

The lack of foreign direct investment (FDI) is compounding the situation as our country is not attracting adequate investment directly into local businesses. This can be attributed to the credit downgrading over the past few years by credit rating agencies that assessed that South Africa struggled with labour unrest due to protests and strikes.

How the situation can be remedied

Consumers are facing increasing financial pressure as a result of rising fuel, electricity and other utility costs, rising interest rates and levels of household debt.

So how can the situation be remedied? There’s no quick-fix for these deep-rooted issues. The government’s National Development Plan (NDP) says, “South Africa needs to fix the future, starting today.” It’s time for concrete action. Here are some suggestions:

1.      Eradicate corruption at a political level with decisive leadership and integrity.

2.      Reduce the national debt current account deficit by cutting back on government spending and restrain unsecured lending.

3.      We need to rely more on sustainable domestic sources of growth.

4.      Creating sustainable jobs via the under-utilised SETA learnership and youth wage subsidy programs.

5.      Grow the small business sector through capacity building and formal development programmes.

Government should take full responsibility for the current economic recession and be open to ways that will get us out of this malaise. It will take real courage to stabilize the economy, bring back investment and re-establish our country’s image in the international market.

i.         Vollgraaff, Rene and Mbatha, Amogelang, South African Economy Contracts First Time Since 2009 Recession, May 27, 2014. Accessed May 28, 2014.

ii.        Mapenzauswa, Stella, UPDATE 2-Protracted platinum strike pushes South Africa towards recession, Tue May 27, 2014. Accessed May 28, 2014.

iii.      Colombo, Jesse. “A Guide to South Africa’s Economic Buble and Coming Crisis.” Forbes Magazine, March 19, 2014. Accessed May 28, 2014.

iv.      Xie, Ye, and Michael Patterson. Bloomberg, “Emerging Markets Crack as $3.9 Trillion Funds Unwind: Currencies.” Last modified June 20, 2013. Accessed May 28, 2014.

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