Since January, domestic demand in South Africa has been very weak, the clearest evidence of which has been poor retail sales. The consumer is no longer in a position to take on more credit. Having contracted at an annual rate of 0.3% in the last quarter of 2016, South African real GDP continued to contract at a rate of 0.7% in the first quarter of 2017.
Technically SA is in recession
This contraction is surprising, because the world economy continues to experience widespread synchronous growth. Global trade and commodity prices have recovered from their nadir in January 2016. Almost everywhere, business conditions are improving. Indeed, the only important countries that are not growing are Venezuela and South Africa. The former is in a state of total economic collapse as years of misguided economic policies have taken their toll, and it is concerning that the cause of South Africa’s malaise is also political. Following the dismissal of Finance Minister Pravin Gordhan at the end of March, and the consequent downgrade of our sovereign rating to junk by S&P and Fitch, business confidence is at an extremely low level. This is important because confidence drives investment and without investment there will be no sustainable growth.
Rand remains stable
Despite our economic woes, the rand has remained relatively stable due to increasing international investment flows into emerging markets like South Africa. Over 40% of domestic government bonds are now owned by foreigners. One of the reasons these investors favour rand interest-paying assets, is that inflation has continued to surprise on the downside. Food prices have stabilised following good rains in the interior and the latest increase in consumer prices was 5.4% year-on-year, comfortably within the 3 to 6% target range. The Reserve Bank has continued to keep interest rates unchanged, probably because it fears the adverse consequences of rand instability.
Rand stability depends on continued foreign investor confidence. For this reason, recent political attacks on the Reserve Bank are extremely concerning. Its integrity and competence are important reasons why foreigners invest in South Africa. A political campaign against it could have devastating effects on the rand exchange rate.