Topical issues for South African investors

an appropriate label for the private sector in South Africa, given the negative connotations that the word “monopoly” is clearly intended to evoke. Here is a brief summary of the comment from the investment managers. Mining Charter

There is general agreement that some provisions of the Charter are unreasonable, and that uncertainty over their possible effect will be a significant deterrent to investment in the mining sector.

Mining is a capital-intensive industry. Mining projects require significant investment, and it can be many years before these investments see a return. Investors will also assess opportunities in other countries – in essence, South Africa is competing for capital investment.

If investors view South Africa less favourably, there will be less investment in a sector that is already facing significant headwinds. Mining operations will be capital-starved and will face further cost-cutting. There will be less exploration to replace end-of-life mines. Foreign investors in particular will turn elsewhere – it is questionable whether there will be sufficient local capital to replace them.

Loss of jobs in the mining sector, and in local service industries that depend on the mining sector, will inevitably follow. Reduced exports will put downward pressure on the trade balance and on the Rand, which may lead to higher inflation. Several managers comment on the new preferential-procurement requirements set out in the Charter – Old Mutual’s Tinyiki Ngwenya summarizes these.

The model clearly is that the emergence of black entrepreneurs as suppliers will be transformative for the economy, and will presumably boost employment too. But Government is seemingly impatient at the results of the voluntary approach followed so far, and wants to impose compulsory procurement requirements.

It is questionable how successful compulsion will be. It may lead to supply bottlenecks and to “fronting”, for which there is clear evidence that the effect is just to increase the price of the goods or services being supplied. It is worth remembering that, to succeed, entrepreneurs need skills and experience as well as access to capital.

One might ask why the State cannot step in and undertake “transformative” mining operations itself. The problem is the capital-intensive nature of the sector. The State would have to raise capital in the bond markets – given the recent difficulties of various State-owned enterprises, investors are likely to be sceptical and will set stiff terms for any loans, such as Government guarantees.

This would raise the cost of all State borrowing, as investors will be concerned about the expansion of public debt.

Although some managers hint that the mining industry may not be entirely blameless in the Charter debacle, there is general agreement that what is needed is constructive engagement (negotiation) between Government and the miners, to develop a long term approach that will give policy certainty. Given the current frosty relations between the Department and the mining companies, the prospects for this sadly cannot be very good. The Reserve Bank’s mandate

Section 224 of the Constitution states that the “primary object” of the Reserve Bank is “to protect the value of the currency in the interest of balanced and sustainable economic growth in the Republic.” No other objective is specified.

Achieving a healthy level of sustainable economic growth is critical to our well-being as a nation. It is easier to agree on a fair division of the national “cake” when the “cake” is growing so that more slices can be cut to feed the hungry. When the “cake” is getting smaller – as it has been recently – and there are still hungry, and angry, mouths wanting to be fed, the process is very difficult and contentious.

“Protecting the value of the currency” is generally taken as a reference to the domestic buying-power of the currency, as measured by the inflation rate, rather than to exchange-rate management. As Izak Odendaal of Old Mutual Multi-Managers notes, the Reserve Bank would aim to keep inflation “low and stable”, even without a formal target.

The connection between “low and stable” inflation and economic growth is important. As Truffle’s Nicole Agar explains, high and unpredictable inflation leads to lower savings, less investment, and an economy that is less competitive internationally, and impedes sustained growth and employment. Evidence of the benefits of inflation targeting has led to its increasing adoption by countries around the world.

As various managers note, rather than squeezing inflation down to developed-market levels, the Reserve Bank has actually been quite pragmatic in trying to balance lower inflation with economic growth, by targeting only the upper end of the 3 – 6% inflation band. However, there is wide agreement that lower interest rates are not a panacea that will automatically result in higher growth – and artificially low rates are more likely to result in the misallocation of resources in the economy.

Structural factors such as sound and consistent Government policies, and macroeconomic stability (including a relatively stable exchange rate, which also feeds through to the inflation rate), are key to business confidence and supportive of long-term planning and investment. Interest rate cycles are somewhat secondary in this regard.

Low and predictable inflation benefits the poor, and the opposite harms them, as several managers point out. The poor have fewer options (for example, the ability to invest in “real” assets such as property) than the wealthier do.

A credible inflation-targeting regime, such as has applied in South Africa for the last 15 years or more, also leads to the “anchoring” of expectations for the future course of inflation, which benefits the economy by encouraging the stability of wage and price increases. It is clear that, locally, annual inflation of 6% has become a well anchored expectation.

What would destroy the credibility of the inflation-targeting regime is investor perceptions that the Reserve Bank’s autonomy is being undermined. In this regard, the comments by ratings agency Moody’s, reported by Investec’s Nazmeera Moola, are significant – international investors are very keen to see the Reserve Bank remain independent of opportunistic political pressure. A loss of confidence in the Bank’s independence will lead to higher borrowing costs for South Africa.

Some counter-arguments to the prevailing orthodoxy are set out by managers who feel that the Bank has been somewhat too conservative overall. But there is a strong consensus that a balanced and flexible approach that aims to curb inflation expectations is beneficial to the economy.

And as Cannon’s Adrian Saville comments, “there are no examples of countries that have printed their way to prosperity”. Monopoly capital

As noted earlier, the question here is whether the term “monopoly capital” is a fair characterisation of the private sector in South Africa, and particularly the businesses that are listed on the JSE.

As various managers point out, it is fairer to brand our private sector as “oligopolistic” – that is, economic sectors tend to be dominated by a small number of large firms. Allan Gray’s Sandy McGregor notes that there is a good reason for this – in a relatively small and geographically isolated economy like ours, it is more efficient to have a few large players. Growth comes from greater efficiency – more fragmented markets will be less efficient and will tend to have lower growth.

Some managers comment on how difficult it is for new contenders to challenge established market leaders, but examples are given of where this has been done successfully, although in some cases the challengers had the benefit of backers with plenty of money to invest.

Foreign investment, global competition and, less desirably, “dumping” of foreign goods into our market has been disruptive. In fact, as suggested by Sasfin’s Errol Shear, globalisation may make it harder for smaller firms to grow, but also makes it harder for large firms to extract excess profits – the effect of technology-driven disruptors like Uber, Netflix and Airbnb is evident.

The effect of the Competition Commission in deterring collusion and monopolistic behaviour is also noted. However, some managers argue that there is insufficient competition in our economy, although they do not suggest how this should be tackled.

As Sandy McGregor notes, “the problem is the total alienation of large numbers of South Africans from this system”. Buy-in requires an increasing standard of living for the mass of the population – South Africa’s failure to achieve “widespread prosperity” (notwithstanding a big increase in the size of the black middle class) is causing the current economic model to be questioned.

This is clearly leading to a populist narrative of “radical economic transformation” that, at the extreme, seeks to “punish” the current owners of capital by confiscating from them and redistributing to the poor.

The paradox here is that the local shareholders of the listed companies – the local owners of capital – are largely the savings institutions, being the unit trust industry, the life insurance companies, and the retirement funds (including the Government Employees Pension Fund). As such, the beneficial ownership of capital is actually quite widely spread.

Laurium’s Craig Sorour quotes a JSE study showing that 23% of the shares listed on the JSE are owned by black South Africans (10% through various forms of B-BBEE schemes and 13% through the savings institutions), with 22% being owned by local white shareholders, and 39% by foreign investors. For 16% of the shares, the JSE could not classify the owners.

Even if the methodology of the JSE’s study is challenged, the broad picture is not likely to change very much. Ill-conceived disruption to the businesses listed on the JSE in the name of “radical economic transformation” – whether via nationalisation or other means (with the Mining Charter being a good example) – will mean that the economic damage and pain is widely shared, not just by controlling families and white shareholders.

Nobody will deny that there is an enormous amount that still needs to be done, to transform South Africa into a society where prosperity is broadly shared and where racial labels ultimately become irrelevant.

What South Africa needs at this time is not populist slogans with no credible and coherent policies behind them, but ethical leadership, competent governance and sound, evidence-based policy-making and policy implementation, informed by a long term vision of the kind of nation we want to become.

Sadly, it does not seem that we are very close to achieving this.

Erich Potgieter and Jainudin Cariem, Willis Towers Watson.