- The consequences of the slide in the rand exchange rate dominated the economic scene over the past months.
- The exchange rate of the rand against the major foreign currencies declined sharply from mid-February to end April, but has stabilised since.
TABLE 1: The Economic Outlook In A Nutshell (Average For Period) 1994 1995 1996F 1997F G3 COUNTRIES Economic growth (GDP%_) 2.5 1.7 1.9 2.5 Inflation (CPI%_) 2.1 1.6 1.7 2.0 CURRENCIES AND GOLD Gold ($/oz) 384 384 391 403 Gold (R/oz) 1363 1393 1649 1821 $/DM 1.62 1.43 1.51 1.60 $/R 3.55 3.63 4.22 4.52 SOUTH AFRICA Economic growth (GDP%_) 2.8 3.3 3.2 2.2 Private consumption expenditure (%_) 3.1 4.9 3.7 1.9 Government consumption expenditure (%_) 4.2 0.3 1.4 1.5 Fixed investment (%_) 8.7 10.4 8.0 6.5 Change in inventories (R billion) 4.7 7.7 4.1 0.9 Gross domestic expenditure (%_) 6.7 5.6 2.9 1.6 Exports (%_) 0.4 8.1 4.2 4.8 Imports (%_) 16.0 17.5 3.0 2.9 Current account (R billion) -2.2 -12.7 -8.8 -7.2 Current account ($ billion) -0.6 -3.5 -2.1 -1.6 Prime rate (%) end of period 16.3 18.5 18.5 17.5 Inflation (CPI%_) 9.0 8.7 7.3 9.2
- Because of the above, there was a huge decrease in both net and gross foreign exchange reserves. The position stabilised in May and improved in June.
- The decline in reserves increased the pressure on domestic liquidity so that, initially, money market rates rose sharply, but decreased again over the last few weeks. The pattern was followed in the capital market.
- These developments affect the real economy. Real GDE, in particular, is tending lower.
- Real GDP growth is stable owing to favourable agricultural growth. However, the growth rate of the non-agricultural component of the GDP is losing momentum.
- The improvement of the imbalance between domestic spending and income has resulted in a smaller deficit on the current account of the balance of payments.
- The inflation rate remains relatively low, thanks in the main to favourable agricultural prices. However, the prices of non-agricultural goods and services are accelerating.
- Real GDE increases are expected to slow even more, but real GDP growth may hold steady this year owing to a sharp rise in agricultural production and lower imports.
- The deficit on the current account of the balance of payments could decrease further. The expected net capital inflow for the rest of the year should be adequate to halt any further deterioration in both gross and net reserves.
- The above developments in the real sectors and the balance of payments could stabilise the external value of the rand for the rest of the year. In real terms, it could also remain stable in 1997.
- The deficit on government accounts may run over budget.
- The inflation rate may accelerate in the next 12 months but should remain short of double digits. A downward trend is foreseen for the second half of 1997.
- Both money and capital market interest rates may come down in the next 18 months.
- The government's newly announced growth plan could benefit the economy if implementation is successful. However, the effect of this plan on the economy will probably only be evident in the longer term.
BALANCE OF PAYMENTS
(see graphs 1.1-1.8 and tables 2-4)
TABLE 2: Real Output, Trade And Inflation 1994 1995 1996F 1997F UNITED STATES Economic growth (GDP%) 3.5 2.0 2.1 2.3 Balance on current account ($/billion) -151.2 -152.9 -143.8 -141.4 Inflation (CPI%) 2.6 2.8 2.8 2.7 JAPAN Economic growth (GDP%) 0.6 0.7 2.6 2.9 Balance on current account ($/billion) 129.1 111.1 77.5 70.5 Inflation (CPI%) 0.7 -0.1 0.1 1.1 GERMANY Economic growth (GDP%) 2.9 2.1 1.0 2.3 Balance on current account ($/billion) -21.1 -17.4 -15.1 -9.9 Inflation (CPI%) 2.7 1.8 1.7 2.1 UNITED KINGDOM Economic growth (GDP%) 3.8 2.6 2.2 3.0 Balance on current account ($/billion) -3.2 -10.5 -8.6 -8.8 Inflation (CPI%) 2.5 3.4 2.5 3.1 TABLE 3: Currencies And Gold Price (Ave. For Period) 2nd 1st half half 1994 1995 1996F 1997F 1996F 1997F $/DM 1.62 1.43 1.51 1.60 1.53 1.57 $/YEN 102.2 93.9 109.1 114.3 111.5 113.5 Sterling/$ 1.53 1.58 1.50 1.44 1.48 1.45 $/R 3.55 3.63 4.22 4.52 4.39 4.47 R (trade weighted value) 73.7 69.5 60.6 56.8 57.8 57.3 Gold ($/oz) 384 384 391 403 388 398 TABLE 4: South African Balance Of Payments (R Or $ Billion) 1995 % 1996F % 1997F % Merchandise exports (R) 81.0 24.7 95.2 17.5 112.5 18.2 Net gold exports (R) 20.2 -11.0 21.0 4.4 20.6 -1.9 Merchandise imports (R) 98.4 29.1 109.2 10.9 124.8 14.3 TRADE ACCOUNT (R) 2.7 7.0 8.3 ($) 0.8 1.7 1.8 Net service payments (R) -15.5 -16.0 -15.8 and net transfers ($) -4.3 -3.8 -3.5 CURRENT ACCOUNT (R) -12.7 -8.8 -7.2 ($) -3.5 -2.1 -1.6 CAPITAL ACCOUNT (R) 21.7 7.6 10.0 ($) 6.0 1.7 2.2 CHANGE IN NET GOLD & FOREIGN EXCH. (R) 9.1 -0.6 2.8 Reserves ($) 2.5 -0.2 0.6
The rate of increase in the value of goods exports slowed
markedly. The year-on-year rate of increase declined from 34,3% in
the first quarter of 1995 to 17,4% in the last quarter of 1995 and
9,8% in the first quarter of 1996.
Owing to production problems the value of net gold exports in 1995 was down 11%. In the first quarter gold production declined still further, but there are some signs of an improvement. The decline in the exchange rate of the rand impacted favourably on the value of gold production, having resulted in an increase of 6% in net gold exports in the first quarter compared with a year ago.
Receipts for services were lower in the first quarter. A decline in the number of foreign tourists was a contributing factor here.
Last year the value of goods imports rose by 29,1% following an increase of 27,4% in 1994. Because of a slowing in real GDE, imports rose more slowly in the first quarter - 7,6% down on a year ago. Payments for services in the first quarter were up only 2,4% on a year ago.
The net result of the above developments was a declining tendency in the deficit on the current account of the balance of payments. The annualised seasonally adjusted deficit decreased from R15 billion in the last quarter of 1995 to R10,4 billion in the first quarter of this year.
In the first quarter the net inflow of capital was considerably less than in previous quarters and amounted to only R56 million. This resulted in net gold and other foreign exchange reserves declining by R2,2 billion in the first quarter - the first decline since the second quarter of 1994. In April there was a further sharp decline of R4,3 billion. In May, however, it increased by R0,3 billion.
These developments led to a sharp decline in the external value of the rand from mid-February to end April, after which it moved mainly sideways during May and June. The monthly average value of the rand against the US dollar recorded a decline of 15,5% for the period February to April, with the nominal average value of the exchange rate down by 12,8%.
The weaker rand could contribute to the deficit on the current account of the balance of payments being considerably reduced this year. The increase in the import bill, in particular, could be considerably lower. Volume of exports may tend upward owing to the price advantage arising from the lower rand exchange rate, new production capacity in the manufacturing industry, higher agricultural exports and signs of more rapid growth in the OECD member countries.
Against this background, the external value of the rand should remain stable in the coming months, and move sideways, in real terms, next year.
(see graphs 2.1-2.8 and table 5)
TABLE 5: Government Finance (R Billion) 1995/96 1996/97 Budget Actual Budget Projected Disbursements 153.2 156.2 173.7 175.5 % increase 9.5 13.7 10.4 11.6 Revenue 124.2 128.5 144.9 144.0 % increase 11.3 14.3 13.8 13.1 DEFICIT 29.1 27.7 28.8 31.5 Less: Balance brought forward 0.0 3.4 0.0 0.0 Plus: Loan redemptions 8.9 11.8 16.3 16.3 Funding requirement 38.0 38.4 45.1 47.8 DEFICIT/GDP (%) 5.8 5.5 5.1 5.6
The slide of the exchange rate, which has a major impact on the
real economy, may result in the budgeted deficit to GDP of 5,1% not
being achieved in the 1996/97 financial year.
The inflation rate may be higher than foreseen in the Budget, leading to higher expenditure. The interest burden may also be greater. In addition, revenues will be down owing to the slowing-down of the GDE and the non-agriculture growth rate.
The above developments may contribute to the deficit for the year approaching 6% unless privatisation generates additional takings.
Another complication is a sharp rise in expenditure at local government level. Current expenditure by local governments for the 1995/96 financial year shows an increase of 15,2% as against the 13,5% of the central government. Developments in this field, as well as in the case of extra-budgetary institutions, could have a compounding effect on the economy in times to come.
REAL ECONOMIC ACTIVITIES
(see graphs 3.1-3.8 and table 1)
The salient features are the sharp rise in agricultural production, a weaker trend in the non-agricultural sectors and signs that the real GDE growth is slowing.
The favourable agricultural conditions of the past season are apparent from the production figures for the first quarter. The seasonally adjusted annualised real production is up 82% on the last quarter of 1995.
This welcome improvement in agricultural production resulted in the seasonally adjusted annualised increase in the GDP at factor cost improving (3,2%) compared with the growth rate recorded in the last quarter of 1995 (1,7%). However, the non-agricultural sector growth rate is slowing - from 5,5% in the third quarter of 1995 to 1,9% in the fourth, and to only 0,6% in the first quarter of this year.
Two important supporting factors could leave the real growth rate this year close to last year's. The first is the contribution by agriculture and the second the favourable effects on the real sectors owing to the decline in the external value of the rand which could lead to higher exports and lower imports. The manufacturing industry, mining, agriculture and tourism could be the main beneficiaries.
The flip side of the coin is that the firming of interest rates and rising inflation could adversely affect the already poorer GDE performance for the rest of the year. Individuals' real after-tax purchasing power, in particular, could be put under additional pressure, which, together with the average high level of personal debt, could lead to a considerable decline in real private consumption expenditure. This, in turn, could result in a slower increase in commercial and industrial inventory accumulation.
Real fixed investment is still rising faster than both GDP and GDE. However, here also there are signs of a slowing-down which could gain momentum in the next two years.
It is unlikely that government's recently revised growth strategy will materially affect the real sectors in the short to medium term. Without going into the details of the plan, the following remarks are important:
- We welcome the plan as it could help to increase productivity, saving and investment - the foundations needed for higher economic growth.
- However, the framework will need to be applied in practice, and consumption expenditure by general government, in particular, will have to be curtailed, as envisaged; tangible progress will have to be made with privatisation and the proceeds wisely utilised; real wage increases will have to be in line with or lower than improvements in labour productivity; the escalating crime situation in the country will have to be arrested; market-driven policies will have to be accepted and adhered to and a stable macroeconomic climate will have to be created to enhance domestic and foreign investor confidence.
- Two special problems foreseen revolve around the availability of domestic savings funds to finance the proposed increases in fixed investment and to obtain sufficient foreign exchange. In addition, the proposed fixed investment rates are still too low to achieve the 6% real growth objective in the year 2000, unless a considerable increase in productivity can be brought about.
(see graphs 4.1-4.3 and table 6)
TABLE 6: Inflation Rates For South Africa (Ave. For Period) 2nd 1st half half 1994 1995 1996F 1997F 1996 1997 Producer prices 8.2 9.7 8.3 9.5 9.6 9.4 - Imported prices 5.5 7.9 9.5 8.5 11.8 8.5 - Domestic prices 8.8 10.0 8.0 9.8 9.0 9.6 Consumer prices 9.0 8.7 7.3 9.2 8.0 8.9 - Food prices 13.6 9.1 4.1 6.3 5.0 6.3 - All items excluding food 7.8 8.6 8.2 10.0 8.9 9.6
In April this year the inflation rate reached its lowest level
since April 1972, with an annualised increase of only 5,5%. The
effect of lower price increases on imports, and food prices rising
only 2,1% in April, were the main factors contributing to this
favourable state of affairs.
Regarding the course of the inflation rate, an acceleration is to be expected for the remainder of this year and the first half of 1997. The strong real growth of the money supply, the weaker exchange rate, an expected increase in unit labour costs, higher taxation at local government level, levies on petroleum products to finance road-building programmes and the fact that the very low increase in agricultural prices - particularly meat - cannot continue for too long are examples of factors that could cause the inflation rate to rise. On the other hand, the economy is now in a downswing phase of the business cycle, which will inhibit price increases to some extent.
On balance, we foresee that the inflation rate will accelerate to some 9% in the next couple of months, but will again come down in the course of 1997.
(see graphs 4.1-4.8 and table 7)
The rate of increase in the demand for bank credit by the private sector remains high, and rose by 18,5% in May compared with last year. Consequently, the money supply is still growing too fast, remaining above the monetary guidelines.
This scenario, together with a decline in the net reserves of more than R7 billion in the first four months of the year, resulted in interest rate pressure in both the money and capital markets. The three-months BA rate, for instance, rose from 14% to 16,4% from mid-February to end May, and the R150 government stock rate firmed from 13,7% in mid-February to more than 16,5% early in May.
TABLE 7: Interest Rates In The G3 Countries And South Africa 95q3 95q4 96q1 96q2F 96q3F 96q4F 97q1F USA Prime rate Nominal 8.8 8.7 8.3 8.3 8.3 8.3 8.3 Real 6.1 6.0 5.6 5.5 5.4 5.4 5.5 Bond yield Nominal 6.3 5.9 6.0 6.7 7.0 6.9 6.7 Real 3.6 3.2 3.3 3.9 4.1 4.0 3.9 JAPAN Prime rate Nominal 1.6 1.6 1.6 1.6 1.6 1.7 1.7 Real 1.5 2.1 1.8 1.6 1.4 1.3 1.0 Bond yield Nominal 3.0 3.0 3.3 3.3 3.3 3.5 3.5 Real 2.9 3.5 3.5 3.3 3.1 3.1 2.8 GERMANY Prime rate Nominal 6.5 6.3 6.0 6.0 6.0 6.3 6.5 Real 4.7 4.9 4.4 4.4 4.2 4.4 4.5 Bond yield Nominal 6.4 5.9 6.1 6.4 6.6 6.8 6.8 Real 6.3 6.4 6.3 6.4 6.4 6.4 6.1 UNITED KINGDOM Prime rate Nominal 7.8 7.5 7.2 6.9 6.8 6.8 7.0 Real 4.1 4.4 4.4 4.6 4.5 4.3 4.3 Bond yield Nominal 8.0 7.4 7.8 8.0 8.0 8.1 8.2 Real 4.3 4.3 5.0 5.7 5.7 5.6 5.5 SOUTH AFRICA Prime rate Nominal 18.5 18.5 18.5 20.5 19.5 18.5 18.5 Real 11.0 11.8 11.9 14.4 11.9 10.4 9.8 Bond yield Nominal 15.5 14.6 15.0 14.7 14.5 14.3 14.5 Real 8.0 7.9 8.4 8.6 6.9 6.2 5.8
Both capital and money-market interest rates have been tending
lower since and this trend should continue, mainly owing to forces
arising from the downswing in the business cycle. Imbalances in the
economy will not disappear overnight, however. There is a fair
chance that the Bank rate will come down this year already. If this
does not materialise, declines amounting to 2 percentage points are
foreseen in 1997.
Since its peak in January, the JSE Industrial Index shed around 6% of its value (21% in dollar terms) until the end of June. The resulting drop in the index's Price/Earnings multiple is, however, also an indication of the more subdued economic outlook for the remainder of this year. The lower rand will not only mean higher import prices and somewhat higher inflation, but combined with higher average credit costs and a less rosy outlook for consumption expenditure, may impact adversely on earnings growth. Factors such as higher export revenues, lower company taxes and further tariff reductions, may counter the impact of these developments in certain sectors to some extent, but overall earnings growth will be hard-pressed to exceed the 20% mark. Considering that a PE ratio of around 16 should be easily sustainable for the next 12 months, a total real return on industrial shares of some 8% still looks feasible.
Report completed on 28 June 1996 Economic Research Department
The information in this publication is of a general nature only, does not constitute advice and may not be applicable to all circumstances. Detailed advice should be obtained in individual cases. No responsibility for any loss sustained by any person acting or refraining from acting as a result of material in this publication is accepted by ABSA Bank Limited and/or the authors of such material.