We have to adjust to a post-Goldilocks era

SOUTH Africa’s economy is underperforming significantly. Average growth in the five years to 2016 is likely to be well below 2%. In our post-World War 2 history, similar sustained weakness has been experienced only in the second half of the ’80s and first half of the ’90s.

This was a period that included intense sanctions, uncertainty in the lead-up to the 1994 elections, and a fateful night in Durban in 1985 when an old man read the wrong speech, entrenching our pariah status, with devastating consequences for the economy.

However, it is important to put things in perspective. This sustained underperformance is not peculiar to South Africa.

Emerging and developing economies are weak as a group. According to estimates from the IMF’s World Economic Outlook update, released recently, emerging and developing economies grew by 4% last year, the slowest rate since the financial crisis.

The gap between growth in advanced and developing economies was the lowest since the year 2000, following the Asian Crisis. In fact, excluding China, emerging market growth likely underperformed advanced economy growth last year, in contrast to the outperformance in the years from 2000 to 2014.

The IMF correctly cites three key trends buffeting emerging and developing economies. First is the moderation in Chinese growth coupled with the rebalancing of its economy away from manufacturing, towards consumption and services. Second is the associated decline in commodity prices. Third is the expected gradual tightening in US monetary policy.

Global growth is likely to remain sluggish due to continued weakness in emerging and developing economies. The weakness in the emerging world will be driven primarily by the continued moderation of Chinese growth. Data released last week shows that the Chinese economy grew by 6.9% last year, the slowest rate since 1990. The IMF forecasts further sustained moderation for three years. This is a reasonable assumption given China’s vulnerability.

China’s underlying economic flaw is the massive debt of its private sector. As of June 2015, Chinese private non-financial sector debt, which is the combined debt of its households and non-financial corporations, had increased to 201% of GDP, from 117% in 2008. In dollar terms, private sector debt had risen to $21.2-trillion (about R345-trillion) from $5.1-trillion.

The significant rise in Chinese private debt helped cushion the economy from the worst of the global financial crisis by supporting Chinese fixed investment and industrial output. The commodity intensity of this credit-fuelled fixed investment effort helped prolong the commodity super-cycle, sending a false signal to the global mining sector to keep investing to boost supply. By stretching the commodity super-cycle, China’s credit-fuelled investment boom, coupled with zero interest rates and quantitative easing by major central banks, pushed big amounts of capital to emerging economies, helping fuel domestic spending in these countries, South Africa included.

The Fed is now raising rates. Also, we now know that some of China’s fixed investment has proved inefficient, leading to overcapacity in some industrial sectors. The fact that Chinese factory output in December was near 10-year lows and factory gate prices have been falling for four years substantiates this. The wider consequences of the sustained Chinese economic growth moderation are a sustained period of low commodity prices and weak Chinese imports.

For emerging market commodity producers, the Goldilocks period of high commodity prices, zero US rates and Fed balance sheet expansion is over. Emerging and developing economy commodity exporters such as South Africa, Brazil, Russia, Nigeria, Angola and Zambia will have to adjust to this reality. This implies narrowing budget and current account deficits, which requires government belttightening and possibly higher taxes. It also requires higher interest rates to limit inflationary pressures, attract foreign funding and prevent excessive exchange rate depreciation. However, you can’t shrink your way to greatness. The adjustment will be easier for those commodity producers that can reform structurally, to diversify their economies and enhance competitiveness.

Nxedlana is chief economist at FNB