Monetary policy and reforms are the only wiggle room SA has
Pandemic offers the government a chance to implement structural reforms that earlier seemed out of reach
The Covid-19 pandemic is cutting a swathe of economic devastation across the world; an unprecedented global recession is now upon us. Unfortunately, SA, which was already in recession when Covid-19 hit, will not get away lightly.
The second quarter of 2020 will mark a huge step-down in economic activity, with only a gradual and partial recovery afterwards given likely permanent firm closures, worker layoffs and impaired balance sheets.
We now forecast real GDP to contract 6.4% in 2020, more than double our -3.1% forecast a few weeks ago before the lockdown extension, manifesting via consumer spending, business capex and exports. The magnitude of the recession SA is likely to suffer suggests that economic activity could take more than two years to return to pre-2020 levels — a huge welfare loss to the nation. And downside risks to growth still dominate, as weakness begets more weakness.
A recession this deep and long will ravage SA’s already fragile public finances as tax revenues crater and critical spending needs that cannot be fully financed by reallocation from within the existing budget envelope manifest.
Even before President Cyril Ramaphosa’s Tuesday announcement of a much needed R500bn economic support package, we expected the budget deficit to hit a huge 12.5% of GDP this year and public indebtedness to surge. Now, since only R130bn of the support package is to be met by reallocation within the 2020/2021 budget expenditure envelope, SA’s deficit and debt ratios are set to rise even higher, though the R200bn loan guarantee programme that forms a major part of the support package will presumably not manifest above the line but rather only as a contingent liability of the government.
Still, with such a large budget deficit, financing is a critical issue. In addition to the R130bn reallocation, Ramaphosa said SA would also look to domestic institutions, citing specifically the Unemployment Insurance Fund (UIF). At end-March the UIF had a net asset value of about R152bn, but it is unclear how much more cash it can supply on top of the R40bn it is providing to the previously announced Temporary Employer/Employee Relief Scheme.
Ramaphosa also said SA is talking to various international financial institutions, including the International Monetary Fund (IMF) and the New Development Bank, as well as unspecified “global partners”. However, the governing alliance has so far insisted that it will not seek any money from the IMF that comes with policy conditions, and so it will be interesting to see whether the IMF’s typical lending conditionality might be relaxed for Covid-19-related assistance. Overall, though, there is scant fiscal room to manoeuvre.
The good news is that while there may be limited fiscal space, there is still substantial room to offer further monetary policy support. The SA Reserve Bank has done a lot already. We estimate the Bank’s 225 basis points of rate cuts so far this year will provide R35bn to consumers and R48bn to businesses, but of course these benefits flow only to debtors.
In addition, just after the March monetary policy committee meeting the Bank unveiled a raft of other measures, including notably a decision to purchase government bonds in the secondary market (on a limited but unspecified scale) and the relaxation of banks’ capital requirements, which it estimated would allow SA’s commercial banks to lend an extra R390bn or so (provided of course that there is demand for credit). These ancillary support efforts are unprecedented in scale and scope, a clear indication of the unusual times.
Fortunately, there is still more the Bank can do if needed, especially since inflation is not a concern. We forecast a downside breach of the inflation target this year, which is reason enough for the Bank to cut another 50 basis points at the May meeting. With the repo rate now at 4.25%, SA is quite far from the zero bound on nominal interest rates, so if inflation surprises to the downside or activity shrivels beyond expectations, further policy cuts are a possibility. At this juncture the cost of not doing enough on monetary policy seems much greater than the costs of doing too much. But, as the Bank frequently and correctly argues, monetary policy alone cannot save SA.
Once the health crisis recedes SA will still need to wrestle its enormous budget deficit down and implement a raft of challenging structural reforms to reboot the economy. There are some hints that the government intends to “not let a good crisis go to waste”, essentially using the urgency of the crisis to implement policies that previously seemed just out of reach.
We see four reforms, which are already on the government’s agenda, as particularly critical over the next year to lift business confidence, boost growth and avoid further credit ratings downgrades.
The first is securing electricity supply in a liberalised market for generation. The government is now awaiting concurrence from the regulator on its plans, but more could be done. The second is delivering regulatory certainty in the mining sector, in part via an agreement on the “once empowered, always empowered” standoff that is preventing agreement on the Mining Charter. The third is opening the visa regime for skilled foreigners once the travel ban is lifted. The fourth is the auction of broadband spectrum.
So far, the crisis has not sparked any evolution in the governing alliance’s thinking about labour market rules, but reformers in the ANC must understand that increased labour market flexibility is as key to job creation as much as better government performance in delivering quality public education. Perhaps in the political ebb and flow, moves towards greater labour market flexibility could be offset by a fresh look at a basic universal income approach to social welfare, especially if firms lay off lots of workers and growth is slow to recover.
Covid-19 will force profound social, political and economic changes across the globe. At this stage we can only dimly understand what they look like and what they are going to mean for our lives. It seems, though, that the assumption of an ever more hyperglobalised world will be scrutinised more closely.
Some countries are likely to come through this crisis much stronger relative to others. For SA, with its scant fiscal space, limited bureaucratic capacity and sociopolitical divides, all of which hobbled the country even before Covid-19, the challenges will be huge. However, it is early days still. Perhaps the challenge of coping with a pandemic will pull the nation together in a way that leaves it better placed afterwards to deal with its multiple challenges.
• Worthington is senior economist with Absa Group.
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