Foreigners still keen to buy bonds but not to build SA’s future
Friday’s decision by Moody’s to retain SA’s investment grade rating comes as a great relief. Moody’s also announced that its outlook for us is now stable. This means we do not have to worry about a downgrade to junk for the immediate future.
The decision enables foreign pension funds to continue owning South African government bonds and improves our ability to attract inflows of foreign capital in future. This is important because even with our feeble pace of economic growth, SA still requires foreign funding. We ran a deficit on the current account of our balance of payments with the rest of the world for the 15th consecutive year in 2017. Over this period the value of SA’s imports and what we paid in dividends and interest to foreign investors consistently exceeded our exports and foreign receipts.
The gap must be funded by foreign capital inflows. In 2017 the amount required was R114bn. A deficit on the current account of the balance of payments is not necessarily a bad thing. Nor is a surplus automatically good. In accounting terms, the current account balance is the difference between what a country saves and invests. If a surplus results from low savings and even lower investment, this is not a sign of economic health. Low investment means the country will stagnate.
When high savings are exceeded by even higher investment, this is a good current account deficit. In this case, the high level of investment increases machine stocks, factories and supportive infrastructure, laying the foundations for more rapid economic growth in future.
Some of these new machines and factories will produce exports, generating the foreign exchange needed to repay the foreign funds used in their creation.
In 2017, SA invested just 18.6% of GDP. This is much lower than the 25% or more of GDP needed to sustain the rapid rates of growth we require to meaningfully address unemployment, poverty and inequality.
We saved only 16.1% of GDP, and so had a current account deficit of 2.5%.
This deficit was less than the 2.8% of GDP recorded in 2016. But the improvement was because investment fell even faster than savings in a continuing trend of weakening investment.
In 2015 the deficit was 4.6%, but investment was then 21% of GDP. Therefore, our current account has “improved” in recent years, but for the wrong reasons.
For improving growth to be sustainable, both investment and savings must rise. Even so, it is highly likely that our current account deficit will grow. We saw this in the fourth quarter of 2017, when GDP growth jumped to 3.1% and the current account deficit grew to 2.9%.
Higher deficits can be funded only if we attract the needed foreign capital inflows. This is why the news from Moody’s is so important. Ideally, we would also like more of the future inflows to be in the form of foreign direct investment, where foreign companies themselves build and expand operations in SA. In this way, they help us increase our investment and also provide the funding to pay for it.
Ever since 1994 we have struggled to attract enough foreign direct investment. This has been compounded in recent years by poor economic policies, the erosion of critical institutions and governance, as well as the government’s decision to cancel foreign investment treaties guaranteeing that foreign investors will not be subjected to arbitrary confiscation of their property. The resultant falling confidence negatively affected investment decisions by local and foreign businesses.
Confidence locally is finally improving, as Moody’s decision confirms. This suggests that we are moving in the direction to end a decade of stagnation.
However, there will need to be many more positive steps before foreigners are willing to not only buy our government bonds but also invest in the new physical assets on which our future prosperity depends.