SA Recession - here's what you need to know

2014-05-28 10:57

South Africa posted a shock -0.62% quarter-on-quarter (annualized) GDP growth for the first quarter of 2014, against an expectation among most economists of -0.1% This is the first negative GDP print in over 5 years since the last "Great Recession". Contrary to what the government will have you believe, this is nothing to do with global events as the U.S, Europe, UK and some Asian markets are actually experiencing growth. There are many reasons given for the troubles the SA economy finds itself in, among the most popular are an overly rigid labor dispensation, protracted industrial action, the failure of the education system to provide the requisite skilled labor of a modern economy, lack of government leadership, policy uncertainty, a focus on redistribution as opposed to inclusive growth, and critical infrastructural backlogs (Electricity, Transnet) due to a shocking lack of government forward planning 10 years ago . This list is endless and covered adequately by many commentators so we will not dwell any further on it. Instead, we will focus on some important recession  facts not known by the general public.

First, by the time the  Reserve bank declares the start of a recession and you read about it in the newspapers, the worst is probably over. This is because the SARB, like other reserve banks around the world, wait many months for "data to settle" before committing to an admission the country has entered recession. They typically wait to see that all sectors of the economy have experienced contraction and this can take some time as many sectors contract at varying times during the course of a recession depending where they are on the supply chain.

Second, the common interpretation given for a recession is two consecutive quarters of negative GDP growth. This is actually very misleading as the instance of two consecutive negative quarters of GDP growth actually line up quite poorly with the periods declared as official recessions by the SARB as shown in the below graphic of the last 5 recessions since 1980:

You can see a 2-3 quarter lag between the first negative GDP print and the actual start of a recession. Given that there is another 2-month lag in publishing quarterly GDP figures (it's end of May now and we only have the GDP for 1Q2014 ending in March) you can expect GDP figures to lag actual recession starts by 8 to 11 months! If you elect to use the 2-consecutive quarters of negative GDP rule, then add another 3 months on top of that to give 11 to 14 months lag. Given that the average duration of the last 5 recessions was 29 months, you are only likely to know if we are in recession halfway through.  Also, in many instances, recessions declared by the SARB for SA are not even accompanied by two consecutive negative quarters of GDP as shown in the 1997/8 recession in the chart above.  

So whilst 2 successive negative quarters of GDP certainly guarantees we are in  recession, the lack thereof doesn't necessarily assure we're not in recession!

So what to do if we can't use GDP to advise us if we are approaching or at the very least in recession? The answer is to put together a large bucket of monthly leading, lagging and co-incident economic indicators such as vehicle sales, electricity consumption, labor market, retail sales, manufacturing, job ads, housing plans passed, mining output etc. The PowerStocks Business Cycle Index (BCI) for the SA Economy was built in conjunction with our sister company in the U.S, It takes 12 leading, 8 co-incident and 7 lagging economic indicators published on a monthly basis by the Reserve Bank, Stats SA and the OECD to create a  Business Cycle Growth Index (BCI) which is a broad aggregate representation of SA economic expansion with an average 6 to 9 months lead on the actual co-incident economic cycle: It is important to remember that the monthly data published always looks back by up to 2 months and this needs to be taken off the lead-times mentioned above to get a real-time expectation of recession warnings. Thus, it is end of May now but the data at hand only gives us an economic picture as at end of March. This is a scary thought as the April/May effects of the mining strike have yet to filter through into the index!

Since 1962, the index has provided robust warning on SA recessions (when it dips below zero signifying future negative growth) except for 2003. In 2003, all but one of the SA economic sectors was in recession and SARB decided not to call a recession because of this. But believe me, if you were running a business and had  expenses at the time, you were in your own personal deep recession!

The current level of the index aptly describes future economic conditions and they are not looking great. There is an agonizingly slow downward trend. Our multi-factor recession probability model that uses the BCI data is showing a 70% probability of recession within the next 3-6 months, the highest reading since the last recession. If a recession should materialize against a backdrop of rising inflation this is going to create a very interesting problem for the SARB. Whilst most recessions are accompanied by significant JSE declines, not all of them are. Given the large offshore earnings components of the JSE today it may be more resilient than usual. But that is a whole different discussion. We use six factors for our subscribers to determine the likely future gains and probability of correction on the JSE and the BCI is just one of them.

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