Economic life beyond Covid-19 requires support from Brics or IMF
Fundamental problems with SA’s economy preceded the pandemic, and now there are no other ways to long-term growth
SA’s economy has been suffering fundamental deterioration since the beginning of the Zuma administration in 2009 and has actually been in recession since 2015 when measured by the decline in income per capita.
In recognition of this trend, the country’s sovereign risk credit rating has been downgraded by four steps during this period, to junk status. SA’s problems are now compounded by the coronavirus lockdown, which will certainly flatten the economy, even if it does not flatten the infection curve.
The foremost problem for the country is the lack of economic growth. This is not always the answer to economic problems, but strong growth helps most underlying issues. The persistent decline in growth rates during the past decade is obvious. This is even more dramatic after taking account of the population growth rate of 1.5% per annum (on average during the past decade), which means the economy has been in recession since 2015 in terms of per capita growth.
Rapidly rising public debt combined with high real interest rates are a classic recipe for disaster. SA’s external debt has more than doubled to about 62% of GDP since the beginning of the Zuma administration. In addition to persistent fiscal deficits, a sizeable portion of this debt can be attributed to Eskom and other state-owned enterprises (SOEs) that are big loss-makers and rely on government bailouts. This level of debt is unlikely to be contained in the near future, especially with new fiscal spending demands from the coronavirus lockdown and a corresponding fall in government tax revenue.
The final big problem for the government is a rising current account deficit, aggravated by the current economic lockdown. In the past, large capital inflows made up for the current account deficit, but this will be much more difficult and expensive after the sovereign downgrade.
The downgrade will make life more difficult for economic policymakers as it will require investment-grade bond funds to sell SA bonds and repatriate the capital, raising SA’s interest rates and depreciating the exchange rate. So while the Reserve Bank has reduced the repo rate to 4.25% to provide liquidity to the economy, the long-term interest rate is shooting above 12%, which will discourage capital investment. Will this just lead to more indebtedness in the face of future high interest rates?
The key underlying problems since the beginning of the Zuma administration have revolved around a large, loss-making SOE sector, amplified by corruption; and high unemployment motivated by difficult labour laws supported by a government aligned with the trade unions. The ANC government has demonstrated that it does not have the stomach to change its underlying economic policies.
What economic impact can we expect from the coronavirus shock? As countries lock down, we can expect their GDPs to decline, which means incomes go down and governments collect less tax. Meanwhile, governments need to address the coronavirus shock in the same way they would a military attack or major natural disaster: they will have to spend more money.
The result will be a larger fiscal deficit, but that is not as bad as the threat of a looming economic depression. The drop-off in global economic activity is likely to reduce exports (and certainly tourism, which is very important to SA). Though imports will similarly decline, they are unlikely to decline by as much as exports fall, and capital inflows into SA can be expected to fall considerably in view of the sovereign credit downgrade.
SA could see a major recession (maybe depression) compounded by a rising government budget deficit, growing debt and an increasing current account deficit. The substantial depreciation in the exchange rate already may help stabilise the trade deficit and could make investment into the country look interesting if the policy mix were acceptable, but it is not. With laws such as “expropriation of land without compensation” being enacted, foreign investors are unlikely to flock to SA when other more interesting and less risky opportunities exist. The government needs economic advice and assistance from a new set of experts, beyond short-term policies to address the coronavirus standstill.
The SA government will need considerable additional funding in the near future, both in domestic and foreign currencies to plug the twin deficit problem (fiscal deficit and balance of payment deficit). But this money is no longer easy to borrow after the credit rating downgrade. Some relief will come from the Reserve Bank’s new policy of government bond purchases.
The government really needs the confidence of domestic and international investors, which had largely evaporated even before the coronavirus crisis. To regain that confidence, it needs friends with deep pockets to support it, and that can come from the Brics or the IMF. The Brics contingency reserve arrangement was set up for just this purpose and can theoretically provide SA with up to $10bn in loans to address short-term balance of payments pressures. It works the same way as traditional IMF loans, but with less conditionality.
It is a mistake to use the Brics New Development Bank, normally for infrastructure loans, to focus on the coronavirus standstill, while ignoring the underlying structural problems. SA should ask for assistance from the contingency reserve arrangement to test the Brics financial expertise.
Alternatively, the IMF has a long history and extensive expertise in addressing fundamental economic problems as well as responding to natural disasters, epidemics and post-conflict situations. Emergency financial assistance, on average, accounts for 20% of IMF members’ requests for support. In the years after the global financial crisis, the IMF provided access to $540bn to nearly 90 countries, including financing to Greece, Iceland, Ireland, Latvia and Portugal, as well as precautionary arrangements to Colombia, Mexico and Poland. The fund has revamped its lending toolkit to better serve its emerging-market members as well as low-income country members.
The IMF also has a low-access financial assistance window without conditions for member countries facing an urgent balance of payments need: the rapid financing instrument. It can provide support to meet a broad range of urgent needs, including those arising from commodity price shocks, natural disasters and various other emergencies resulting from fragility. The country has to demonstrate that its debt is sustainable and make a commitment to economic policies that help overcome the emergency.
However, SA has underlying economic problems that require longer-term financing and adjustment policies. They will not be cured when the coronavirus is. For this reason, a traditional standby arrangement with the fund would be the most appropriate. The purpose of borrowing from the IMF is not just the money it provides, but the confidence the international community regains in SA’s economic policies. A successful ongoing IMF programme is like being under the care of a top international doctor with the most modern equipment, who provides the assurance that the patient is getting better.
President Cyril Ramaphosa needs to use this crisis to break with the ANC’s traditional economic policy prescriptions and join forces with SA’s international partners, either the Brics or the IMF, to raise investor confidence and chart a new course to economic growth.
• Dr Ellyne, a former senior economist at the IMF, is adjunct associate professor of economics at the University of Cape Town.
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