July 2013 Economic Review | KPMG | ZA

July 2013 Economic Review

July 2013 Economic Review

In this issue: concerns surrounding South Africa’s trade deficit; GDP growth forecast; economic change and modification


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Why the concerns surrounding South Africa’s trade deficit?

South African’s trade deficit, that represents the trade balance under the current account, had narrowed to R7.7bn in June 2013, down from R11bn in May 2013 and R15bn in April[1] 2013. The trade balance, together with factor income and international cash transfers, make up the current account, i.e. changes in net foreign assets.

The better than expected deficit can be attributed to the combination of a 3.4% increase in exports and a 2% decline in imports. This will also bring down the current account deficit to GDP ratio from -5.8% observed in the first quarter of 2013 for the second quarter of this year.

While this news is positive, market observers have warned that the numbers are volatile[2]. Growing, demand driven economies, such as South Africa, very often experience a trade deficit. Whilst this is not necessarily a concern, the size of the trade deficit, the ability of the country to finance it and the currency impacts thereof, are of importance to policy makers and analysts.

The weaker rand, as experienced lately, would usually be associated with a reduced demand for imports (barring necessary imports such as oil) and conversely makes domestic products more attractive to foreign markets, which should normally result in a lower trade deficit over time.

However, large export earners from the mining industry have fallen short of expectation as a result of both the lower output in this sector and sluggish foreign demand seen especially from Europe. This twin evil of a weaker, volatile currency and lower export earnings has put strain on the South African trade deficit and potentially the Reserve bank, who needs to fund it, with the current trade deficit still viewed as being very large[3].

In addition, with the news that the U.S Federal reserve bank will start tapering off their bond buying program - quantitative easing - in the latter part of 2013, emerging markets such as South Africa have experienced portfolio outflows[4]. This has a negative effect on the current account and South Africa has relied heavily on portfolio flows to finance its trade deficit.

A further cause for concern has been the recent announcement by the South African government of the plans to cut bilateral investment treaties (BITs) with over a dozen EU member states. Worryingly, these very member states account for a quarter of South Africa’s two-way trade and, collectively, the majority of foreign investment into South Africa[5].

This was met with harsh criticism from Karel De Gucht, the European commissioner for trade who reminded the audience at the second South Africa-EU Business Forum that about one-third of the country’s roughly R3-trillion economy was based on European investment[6]. If the EU acts on their threat to look for different trading partners, South Africa will, in turn, need to find new export markets for their goods during a time of low global demand, which will drastically increase the trade deficit.

Various countries, such as Australia and Norway, are currently reviewing their BITs because of the reduced policy space created by the threat of compensation claims by foreign investors when government policy threatens to undermine the profitability of their investment[7].

With that being said, above portfolio flows which have a high market liquidity, developing, demand driven economies such as South Africa require foreign direct investment which is less liquid and therefore brings about infrastructure and economic development which ultimately aids in job creation.

The prevailing weak global demand is affecting all economies, which is why investment confidence should be paramount to policy makers. Economic policy that ensures mutually beneficial trade and enables the country’s industries with comparative advantage – agriculture and mining for example – to function optimally, is therefore required not only for an improved trade deficit, but economic growth as well.



GDP growth forecast slashed

South African’s economic growth prospects have deteriorated since the beginning of the year as reflected in the first quarter 2013 GDP figures. GDP growth disappointed, coming in at 0.9% (quarter on quarter) in the first quarter 2013 from 2.1% (quarter on quarter) in the fourth quarter of 2012. As a result, a number of economists and forecasters reduced their economic growth predictions.

Key international economic organisations such as the International Monetary Fund (IMF) and the South African Reserve Bank (SARB) also downgraded their economic growth forecasts early last month (July) for 2013 and 2014. The IMF revised their 2013 growth forecast down from 2.8% to 2% and from 3.3% to 2.9% for 2014 while the SARB revised the 2013 forecast down from 2.4% to 2% and from 3.5% to 3.3% for 2014.

Some of the concerns that could potentially result in further downward revisions of SA’s economic growth include:

  • The continued rand weakness caused by general negativity towards emerging markets and commodity currencies in a low global growth environment and domestic concerns over labour tensions as well as high wage demands. Further weakness in the currency has the potential to be inflationary and may even result in the inflation rate breaking through the central bank’s 3 – 6% target range. 
  • Unemployment rose to 25.6% in the second quarter 2013 from 25.2% in the first because of jobs shed in the manufacturing, agriculture and community services industries leaving even more South Africans without jobs. With expected annual growth rate of 2% compared to 2.5% in 2012, it would be impossible for the economy to be able to accommodate both new entrants into the labour market and absorb those currently unemployed.
  • Slowing consumer spending. The 2013 first quarter consumer confidence index (measure of consumers'willingness to spend) declined to -7 index points, a nine-year low and much lower than -4 index point during the 2008 global financial crisis. The decline in consumers' willingness to spend is being matched by a decline in their ability to spend as a result of increasing unemployment, rising inflation and slower credit growth, including a slowdown in the pace of unsecured lending by banks.

All these factors serve to indicate the vulnerability of the current SA economy and that there is generally lack of investor confidence, worsened by labour unrest (resulting in violence and production interruptions in some industries) a depreciating rand, rising inflation as well as falling commodity prices.


Our last post dealt with selection in the economy, the phase after markets adapt, where the choice is made as to how this adaptation happens. The third and last mechanism of economic change is modification, which refers to a market retaining its structure but altering the way in which the processes contained therein function.

There are two fundamental causes of economic modification – the natural market changes that occur when the economy is under duress, and the forced changes mandated by government intervention. We therefore need to discuss three facets of modification – natural market shifts, economic duress, and government interventionism.

There are already shifts in the global economy, in labour and capital markets, and in business operations, with a move to more capital and less labour intensive production process.

The economy appears to be slowly adopting some aspects of its pre-financial crisis operational structure, but changing the way in which economic actions such as production and consumption are performed. This is a naturally occurring market stabilizer to ensure less productively efficient firms and less resourceful consumers are driven to alter their behaviour on the basis of changing incentives.

The problem comes in when this is not a naturally occurring market mechanism but one induced through interventionist policies. In light of the recent Monetary Policy Committee decision to keep rates flat, there have been cries from many sectors for economic support, but there is also evidence to suggest that industry support could be construed as a covert form of protectionism, altering the pattern of trade and biasing the level of competitiveness of countries which cannot afford these bailouts.

The South African Department of Trade and Industry (DTI) has previously issued a statement saying that the incredible sums of money being spent on bailouts in developed nations is far in excess of what developing nations can afford[8]. This means that developing nations are risking international competitiveness declines in favour of protectionism.

Simultaneously, there is a risk that international pressures to avoid protectionism would force developing nations to rely on the only measures that they can afford, including higher tariffs and import substitution policies. As an example of this, the South African automotive sector is shedding jobs, and is particularly exposed to crises in exportation and domestic sales. Because of this, classical counter-cyclical spending is not used as an instrument to deal with economic downturns, but instead acts as a subsidy to support specific industries, effectively determining where manufacturing plants remain open and where they shut down.

It is important to avoid a situation where industrial subsidies are tolerated but measures suitable for developing countries are deemed illegitimate. The real problem is the measures taken to prevent the downturn and the externalities induced on other parties.

The side effects introduce a bias which lowers competitiveness in developing countries and they must respond by introducing other distortionary policy measures like tariffs and quotas. This means that natural modification in economic evolution is progressive, but forced economic modification is distortionary.

Instead of forcing economic performance in sectors that cannot support it, perhaps we should be encouraging greater economic competitiveness in sectors that could spur on economic recovery in a faster time period. This is the essence of economic automatic stabilizers in an evolving economic system; giving some support to the notion that the only government intervention that should exist should not be to overturn the natural cyclicality of the market economy.

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