Grow­ing pains

Com­pa­nies us­ing in­cor­rect eco­nomic vari­able to plan in­vest­ment

Finweek English Edition - - Economic trends & analysis - GARTH THE­UNIS­SEN

SOUTH AFRICA HAS EN­JOYED al­most 90 months of un­in­ter­rupted eco­nomic growth, by far the long­est up­ward trend in the busi­ness cy­cle the coun­try has ever en­joyed.

How­ever, the good times haven’t come with­out their chal­lenges. The fact re­mains that the econ­omy’s pro­duc­tive ca­pac­ity hasn’t kept pace with the de­mand-led growth tra­jec­tory, re­sult­ing in wide­spread in­fra­struc­ture bot­tle­necks.

That’s ev­i­dent from SA’s cur­rent rate of ca­pac­ity util­i­sa­tion – 86,6% – recorded in fourth quar­ter 2006. It’s also the clear­est sig­nal that com­pa­nies haven’t planned their in­vest­ment strate­gies ad­e­quately enough to meet the ris­ing lev­els of de­mand in the econ­omy.

You need only to con­sider the fact that SA is run­ning short of ev­ery­thing from elec­tric­ity and ce­ment to the car­bon diox­ide needed to car­bon­ate fizzy drinks to see the point.

Though the stan­dard ex­pla­na­tion for that dilemma is that SA com­pa­nies un­der­es­ti­mated the up­swing in GDP growth, Stan­lib chief econ­o­mist Kevin Lings says com­pa­nies haven’t been fo­cus­ing on the cor­rect eco­nomic vari­able to plan their ex­pan­sion strate­gies. “Many firms use mod­els based on GDP growth to make their in­vest­ment de­ci­sions, but that may not be the best vari­able.”

In­stead, Lings says firms should be look­ing at gross do­mes­tic ex­pen­di­ture (GDE), which he be­lieves is a bet­ter proxy for the true lev­els of eco­nomic ac­tiv­ity in an econ­omy.

To ex­plain the dif­fer­ence be­tween the two vari­ables, Lings uses the anal­ogy of an iso­lated coastal city. “If that city were very busy ex­port­ing a cer­tain com­mod­ity over­seas, its GDP growth rate could be fly­ing while the malls, roads and of­fices stood empty, mean­ing its do­mes­tic ex­pen­di­ture lev­els would be very low.”

Ex­pressed as a for­mula, GDE sim­ply amounts to GDP less ex­ports plus im­ports (GDP - Ex­ports + Im­ports = GDE).

The rea­son ex­ports are ex­cluded is be­cause ex­pen­di­ture on ex­ported prod­ucts oc­curs out­side of SA’s econ­omy. By con­trast, im­ports are in­cluded in the cal­cu­la­tion be­cause ex­pen­di­ture on im­ported goods typ­i­cally oc­curs do­mes­ti­cally, even though money is ini­tially leaked out of the econ­omy to pay for im­ported goods.

That money leak­age is pre­cisely why im­ports aren’t in­cluded in GDP cal­cu­la­tions, as the goods aren’t man­u­fac­tured in SA.

What’s more, if domes- tic ex­pen­di­ture (GDE) is greater than do­mes­tic pro­duc­tion (GDP) it fol­lows that the coun­try is im­port­ing more than it’s ex­port­ing. That’s pre­cisely the sit­u­a­tion that SA finds it­self in. SA’s cur­rent GDP growth rate of 5% is de­cid­edly smaller than its GDE growth rate of 8,7% – the recorded av­er­age for the past four quar­ters.

Lings says the fact that GDE ex­ceeds GDP by such a healthy mar­gin im­plies that do­mes­tic eco­nomic ac­tiv­ity lev­els can’t be ad­e­quately gauged by look­ing at GDP alone.

That’s why Lings says you have to fo­cus on do­mes­tic ex­pen­di­ture when plan­ning ca­pac­ity ex­pan­sion, as the bur­dens placed on in­fra­struc­ture typ­i­cally come from ex­pen­di­ture lev­els and not nec­es­sar­ily the growth in in­come lev­els, as im­plied by GDP.

“The lev­els of ac­tiv­ity one wit­nesses on a daily ba­sis in the form of de­mand for hous­ing, trans­port and elec­tric­ity aren’t con­scious of the leak­age of money from an econ­omy that oc­curs due to im­ports,” Lings says.

“Just be­cause you’re fill­ing your home with im­ported goods doesn’t mean that lev­els of do­mes­tic eco­nomic ac­tiv­ity are con­strained.

“You still need trucks fuel, roads and elec­tric­ity to fa­cil­i­tate the sale of those goods.”

Not pre­oc­cu­pied with GDP. Kevin Lings

Source: SARB

THE SA BUSI­NESS CY­CLE... THE LARGEST UP­WARD PHASE IN HIS­TORY

Source: Stan­lib

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