There's never been a better time to reshape SA's economy, says Michael Power. In this two-part series, he outlines six big ideas to get started. This is Part 2.
The supportive role the South African Reserve Bank can play.
First off, a disclosure.
I have not supported South Africa's inflation targeting regime ever since its inception. Indeed, I was one of two expert witnesses called to Parliament to lay out the case against the policy. My argument was not and has never been against inflation targeting per se: in certain circumstances, it had its uses.
My opposition was to inflation targeting being implemented in the South African context at the time it was proposed. My reasons were that the aggressive real interest rates the regime then necessitated prevented the necessary realignment of relative price structures – relative both internally and even more importantly externally – so as to allow our various markets to clear.
By far – BY FAR – the most important relative price, even then, was that of the hourly wage of semi-skilled labour as determined in Asia. If we had got that relative price in line with prevailing international benchmarks, there was a chance we could begin to erode our mountain of semi-skilled unemployed. I always maintained that inflation targeting in South Africa circa 1998 was akin to putting 'a plaster cast on a fractured leg before first realigning the broken bones': it risked leaving South Africa with a long-term limp. And so it has.
My views remain unaltered, but after 20 lost years, the misalignment in relative price structures – again most importantly the wage sought by our semi-skilled South African worker offering his or her work on an international market – is far less today than it was back in 2000. China's Renminbi wages have risen towards ours which – in Renminbi – have hardly changed. But this benchmark is dynamic: the Vietnamese, the Bangladeshis, the Ethiopians and the Kenyans may offer a new lower semi-skilled wage benchmark.
Even before the Covid-19 pandemic started, inflation was between 'under firm control' and 'negligible' in nearly every nation on earth. Few central banks charged with practicing inflation targeting needed to practice it in a heavy-handed way. New Zealand – which invented inflation targeting – has formally compromised its regime by tasking the Reserve Bank of New Zealand to target GDP growth as well.
Now, in the midst of the pandemic, if anything outright deflation, not inflation, is the greater risk. Much of Europe has followed Japan into the realm of negative interest rates. So far, the Anglo-Saxons have resisted taking Charon's boat-ride across the River Styx into that underworld, though recently the Bank of England and, most tellingly, the Reserve Bank of New Zealand have begun to contemplate it.
So what can the South African Reserve Bank do to help the export-oriented strategy outlined above? The answer – especially as they hardly need to worry about inflation now – is assist in keeping the Rand as competitive as possible. This may mean building up their (low) foreign exchange reserve cover if investment and capital inflows threaten appreciation. Or this may mean – if appreciation risk persists – that Treasury opens the valves of capital controls on South Africans wanting to invest money abroad.
The SARB would need to be extra vigilant if, as a result of rising commodity prices (especially gold; see below), there was upward pressure on the Rand, typically traded as one of the world's commodity currencies. Appreciation in the wake of a commodity bonanza could, as happened from 2000 to 2008, again unleash the dreaded Dutch Disease with all its negative consequences for domestic, export-oriented manufacturing sectors.
If South Africa is to be serious about re-engineering its economy centred on a job-rich, manufactured export strategy, Treasury would need to instruct the South African Reserve Bank that maintaining the competitiveness of the Rand would henceforth become a central part of its mandate.
The South African Constitution says that: "The primary object of the South African Reserve Bank is to protect the value of the currency in the interest of balanced and sustainable economic growth in the Republic." Protecting the value of the Rand so as to ensure the competitiveness of South African exports would very much be "in the interest of balanced and sustainable economic growth in the Republic."
Reviving the gold sector
It might be seen as contradictory to recommend that, in addition to a strategy based upon the export of secondary sector manufactured goods, I strongly suggest that South Africa seek to revive its primary sector gold mining industry ahead of the financial shifts that will occur in the 2020s.
Since 2000, South Africa's rank in global production has fallen from first to ninth place. Even in Africa, it is no longer the largest producer: Ghana is. But, at current gold prices, South Africa still has the second highest mine reserves of gold in the world: some 6 000 tonnes after Australia's near 10 000 tonnes.
I make this recommendation because of a particular set of circumstances that will soon coalesce as a result of the monetary and financial changes that will most likely occur in the 2020s. One especially seismic shift on the horizon will happen when, following the China centricity that has already happened in trade, the financial centre of gravity starts to shift from West to East too.
However, just as British paramountcy in finance lingered beyond the loss of its paramountcy in trade, I am not predicting an end to the US Dollar's reign at the top in the 2020s. But I am predicting that, by 2030, the identity of its successor will be plain for all to see: the Chinese Renminbi.
Indeed, there will likely be two main currency blocs in the world of finance by the end of the current decade. That of the US Dollar may still be larger in size when measured by value. But the Renminbi bloc will be increasingly influential and most likely include many if not most of the nations under the geographic umbrella of China's One Belt One Road vision, and perhaps even South Africa.
How then does gold fit into this transitioning world? As China's financial weight in the world rises – and the burgeoning market capitalisation of the interconnected Shanghai-Hong Kong-Shenzhen trio of stock exchanges will underline this rise – capital will start to leave the Old World for the New. This echoes what happened between 1865 and 1914 when capital flooded out of Europe to the then New World with a sizeable portion of it ending up in the United States. (No company played a greater role in this migration than J.P. Morgan. Tellingly, J.P. Morgan has recently taken full control of its subsidiary in China.)
But the owners of that capital migrating in search of greener pastures during the 2020s will not send all that capital directly to the East. Most perhaps, but not all. A portion will likely seek financial steppingstones – intermediate safe houses – in that transfer process.
Gold will be amongst the most likely of steppingstones: its various characteristics shown through the ages will ensure that. These are its supply being limited by nature; its portability; its value being recognised globally so making it convertible everywhere; and the fact that central banks in both Old and New Worlds respect its unique financial status.
South Africa is endowed with ample natural reserves of this historic store of value. Expect therefore the 2020s to see the demand for gold rise. With the Rand price of gold now some R32 000 an ounce, South Africa can once again invest profitably in the deep level mining of this precious metal and do so at scale thus positioning itself to benefit from supplying a significant share of that coming increase in demand.
Unrealised by many, the United States as an economy stalled in its development in the early 1840s. The discovery of gold in California in 1848 was the economic event that re-energised and relaunched the American economy.
Pursuing an 'Open Skies' policy to repair and promote South Africa's tourism industry
Until there is a vaccine for Covid-19, there is unlikely to be a return to 2019's volumes of international air travel. This in itself is reason enough for South Africa not to rush into investing in an airline to replace South African Airways: during its critical launch period, such a new airline would be very constrained in what flight routes it could operate. Rather than quickly relaunching a new South African carrier, the next 18 months should be given over to a thorough rethink as to exactly what South Africa's strategy should be towards rebuilding airlinks to and from the country, both from within Africa and beyond.
One serious option that should be considered is that South Africa should not set up a new airline at all but rather adopt an “Open Skies” policy welcoming any IATA-compliant international airline that wishes to fly to the main air gateways of South Africa.
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There are very good commercial reasons for following such a policy. South Africa is broadly located in the same time zone as the cities where the world's four largely state-owned 'superconnector' airlines are based: Dubai (Emirates), Doha (Qatar), Abu Dhabi (Etihad) and Istanbul (Turkish). As any serious airline executive in Asia, Europe and Africa knows, unless one can entice one of these four into your alliance – as Qatar is with OneWorld and Turkish is with Star – it is a mug's game trying to compete with these 'flying category killers' and hope to make a commercial go of it. A second-tier airline either has to team up with them – which, even for the smaller team members of an alliance, is not easy even then – or face getting trampled upon by them.
Furthermore, there was a critical development that took place in Africa region just before the lockdowns set in: Qatar Airways purchased a 60% stake in Rwanda's new Bugesera International Airport at Kigali and bought a 49% stake in Rwandair. Qatar's vision is to turn Kigali into its African hub, something that would put enormous pressure on any airline operating from say O R Tambo and may even force Addis Ababa-based Ethiopian Airlines – a Star Alliance member – to scale back its vision of being Africa's 'hub' airline. As uncomfortable as it is to admit, Johannesburg's claim to being Africa's transit hub is seriously in question: Kigali, Addis Ababa or even Nairobi are all far more centrally located to fulfil this role.
There is another model that might be followed: the LATAM model. Chile-headquartered LATAM has set up subsidiaries in all the main countries of South America and created a web of interconnected hubs that cater for both domestic and international travelers. Perhaps an Emirates or Ethiopian can be enticed into doing the same in South Africa?
But the LATAM option would still curtail the big advantages flowing from an 'Open Skies' approach. Though it is hard to see a clear way forward at present, in two years' time, rebuilding South Africa's tourism footprint is going to be far more important – far more job-rich – an objective than reviving a national air carrier. And there is strength in the argument that giving that new carrier any chance of success can only be achieved if ticket prices to and from South Africa were high… but that would then restrict tourist arrival numbers. Let a Qatar or a Turkish deal with that complex algorithm: the surest way to get air-ticket prices down and boost tourist arrivals would be to promote intense competition among the airlines that would be willing to fly to and from South Africa as part of our 'Open Skies' policy.
And if the promotion of employment of South African aircrew was a sub-objective, it might be possible to set a quota for any crew of an aircraft flying to and from South Africa to be made up of South African citizens. Emirates and Qatar probably meet such a requirement already!
Former US president Barack Obama's Chief of Staff, Rahm Emanuel, famously said:
"You never want a serious crisis to go to waste. And what I mean by that is an opportunity to do things that you think you could not do before."
South Africa, like many other nations, is facing a serious crisis. The suggestions above give South Africa the opportunity to do things that it could not have done before. Now is the time to rebuild our shattered economy so as to make South Africa much more economically relevant in the future than it has been in the past 20 years. And the success of that relevance will be ultimately determined by getting that job-rich production horse to pull our consumption cart.
Michael Power is global strategist for Ninety One. Views expressed are his own. Catch him live on Fin24 Speaks at 9am on Friday 29 May.