The Annual Economic Report provides the broader economic context to the address by the Governor of the South African Reserve Bank (the Bank) at the annual meeting of shareholders. The focus in this review of economic events is on the calendar year 2012 and the first half of 2013, going beyond the Bank’s financial year.
Apart from tracing the evolution of a wide range of economic indicators, attention is also given to institutional, legislative and regulatory changes introduced during the period under review that have a bearing on the economy and its functioning.
During 2012 and the first half of 2013 the global economy continued to function under the cloud of a global financial crisis that had its origin more than five years earlier and yet had not been adequately resolved, with the focus widening from the stability of the financial system to fiscal sustainability and sovereign debt issues.
Global output growth continued to disappoint, particularly in the developed economies, despite the continuation of extraordinarily expansionary monetary policies. Part of the reason for the lack of momentum in economic activity was the fact that fiscal policy settings were generally tightened over the period, although in a number of instances tax revenue remained suppressed on account of subdued economic activity to such an extent that not much progress could be made in reducing the fiscal deficit and turning around the unsustainable pace of increase in government debt.
A number of events were prominent in shaping the course of the global economy in the past 18 months:
- In July 2012 the President of the European Central Bank (ECB) reassured the market that the ECB would do “whatever it takes” to preserve the euro, leading to a narrowing of risk premiums on non-core European government bonds and reduced strain on the public finances of the countries involved.
- In December 2012 the Federal Reserve in the United States (US) redirected its assurances regarding the maintenance of an expansionary monetary policy, linking the consideration of monetary policy tightening not to a likely timeframe as had been the case previously, but to the state of the economy: Consideration of tightening would not commence before the US unemployment rate had fallen below 6,5 per cent or inflation had risen above 2,5 per cent. Quantitative easing was also clarified by the announcement of a monthly flow rate of purchases of bonds by the Federal Reserve.
- Confidence in Europe was undermined when the Cypriot financial crisis intensified in March 2013 with a bailout being announced, which initially would have involved a levy on all bank deposits as part of the package; this was subsequently softened.
- A further significant development was the deceleration in the growth rate of the Chinese economy which came to the fore in the early part of 2013, contributing to a softening in the international prices of a range of commodities.
- In May 2013 the initial “tapering” comments by the Chairman of the Board of Governors of the Federal Reserve System brought about a significant decline in financial asset prices.
Closer to home, the announcement that South African government bonds would be included in Citi’s World Government Bond Index (WGBI) from October 2012 led to pre-emptive buying by investors in the months preceding the inclusion, contributing to lower yields. This was later on partly negated when South Africa’s sovereign credit ratings were downgraded, not least due to the labour turmoil and loss of life at Marikana in August 2012, and the subsequent deterioration in labour relations in general.
South Africa experienced a pedestrian rate of economic growth in 2012 and the first quarter of 2013, reflecting both supply-side constraints and weaknesses in aggregate demand. The tertiary sector continued to record the strongest and most consistent pace of growth, whereas the primary sector displayed considerable output volatility as mining production was dragged down on a number of occasions by labour-related shutdowns of operations. Economic activity in the secondary sector also fluctuated somewhat from quarter to quarter as producers encountered a number of headwinds including industrial action, energy constraints, fierce competition from abroad and fire damage to a large steel mill.
Growth in real gross domestic expenditure generally exceeded that in real gross domestic product in the period under review. Nevertheless, the pace of growth in real final household consumption expenditure slowed significantly over the period, consistent with the slowdown in the household sector’s real disposable income.
Household purchases of durable and semi-durable goods continued to record stronger growth than purchases of non-durables and services, driven by advances in technology, decreases in real prices and the comparatively low interest rates on instalment sale finance.
Real consumption expenditure by government maintained a sturdy overall growth rate in 2012 and the first quarter of 2013, although the acquisition of lumpy military equipment resulted in considerable quarter-to-quarter volatility. However, the strongest and most consistent driver of domestic expenditure over the period was fixed capital formation, with public corporations and general government registering much stronger increases than the private sector. In the private sector real outlays by mining and manufacturing firms rose somewhat, but otherwise capital expenditure growth was subdued. In the public sector Eskom and Transnet effected strong increases in infrastructure-related spending.
The balance of payments reflected the buoyancy in domestic expenditure, particularly in capital spending and purchases of consumer durables and semi-durables – all items with a high import content. Imports accordingly rose briskly. Export volumes increased slowly, although the shift of South African exports towards the faster-growing markets of Africa and Asia continued. The favourable terms of trade assisted the moderation of the deficit on the trade account and current account. Nevertheless, the shortfall on the current account of the balance of payments exceeded 6 per cent of gross domestic product in the final three quarters of 2012, before receding to just below 6 per cent in the first quarter of 2013.
Financial inflows continued on a scale that was adequate to finance the shortfall on the current account of the balance of payments. In 2012 the direct investment inflow from foreign investors into South Africa was approximately equal to the direct investment outflow from South African investors starting or expanding their businesses in other parts of the world, including Africa. Net inflows of portfolio investment and especially other investment capital were recorded during the year. In 2012 the portfolio investment inflow was in the form of debt rather than equity securities and continued to reflect yield differentials which favoured South African debt securities, apart from the WGBI inclusion referred to earlier. In the other investment category, foreign loans extended to the South African banking sector represented the bulk of the inflow over the period.
The effective exchange rate of the rand trended lower in 2012 and the first half of 2013. It depreciated considerably in May and June 2013 with the release of worse-than-expected economic growth data, lower international prices of key South African export commodities, and labour turmoil which raised concerns that South Africa’s export potential would be undermined.
Inflation receded from above-targeted levels in the early months of 2012 to within the target range from May 2012, with the subdued pace of economic activity and associated sizeable output gap moderating the inflationary pressures arising from various shocks such as the largely temporary acceleration in international grain prices in the second half of 2012. Wage increases continued to exceed consumer price inflation, but allowing for the fairly modest pace of labour productivity increases, unit labour cost increases remained broadly aligned with the upper limit of the inflation target range. Over the past year employment edged higher but not sufficiently to make inroads into unemployment, with approximately a quarter of the workforce remaining unemployed.
Banks’ loans and advances to the domestic private sector rose at high single-digit rates throughout the past year and a half, its pace of increase moderately higher than the concurrent rate of inflation. Mortgage lending remained very slow, consistent with the subdued real-estate market, while instalment sale credit and leasing finance – linked to purchases of durables – registered firm increases over the period. The very rapid growth in general loans to households (unsecured lending), which had been a key feature of the period since 2010, started to lose momentum in the past year. Many of the consumers in that market had reached debt levels which precluded access to further loans, and the pace of increase in these loans dwindled accordingly.
Apparently defying the reluctant pace of real-sector growth, South African share prices rose further in the past 18 months and on several occasions broke previous records. Key indicators of house prices started edging higher over the period, in some cases even reaching a double-digit pace of increase. Bond yields trended lower for most of the period as economic activity remained lustreless and inflation reasonably contained, while bond yields in international markets also softened. However, both international and domestic bond yields rose abruptly in May and June 2013 following fears of reduced quantitative easing in the US and of an exchange rate-induced acceleration in inflation in South Africa.
During 2012 the National Development Plan (NDP) was adopted by the Cabinet and by the ruling political party to guide economic policy over the period to 2030. The process of structurally aligning government’s budget with the NDP was started during the year under review. Providing a countercyclical boost to the economy, the fiscal deficit ratio of the general government remained of broadly the same magnitude in 2012/13 when compared with the previous fiscal year. However, the infrastructure drive by various public corporations resulted in a marked increase in the corporations’ borrowing requirement, and in a notably higher overall public-sector borrowing requirement.
Monetary policy remained accommodative during the past 18 months as aggregate production continued to fall below the economy’s potential and as inflation moderated to within the target range from May 2012 onwards. The Bank’s Monetary Policy Committee (MPC) adjusted the policy rate once over this period, reducing the repurchase rate from 5,5 per cent to 5,0 per cent in July 2012 to give support to the fragile domestic economic recovery. This resulted in a marginally negative real repurchase rate.
