Dennis Dykes (49)
Chief Economist: Nedbank Group
24 years’ service • MCom(Econ) (London School of Economics, UK)
Economic conditions deteriorated markedly during the second half of 2008, bringing to an abrupt end the period of strong economic growth that had started in 2004. The slowdown had already been apparent in the household sector from late 2007, following the sharp rise in interest rates. However, falling export prices and volumes late in the year led to a broader slowdown in the domestic economy.
The key change in 2008 was the large-scale deterioration in the global financial and economic climate. Globally, massive losses stemming originally from the subprime crisis mounted as the year progressed and United States house prices continued to fall. The crisis escalated in September when the United States government was forced to take control of the largest mortgage financiers, Freddie Mac and Fannie Mae and later American Insurance Group. However, the collapse of Lehman brothers and the authorities’ failure to back any rescue package resulted in the total seizure of the interbank lending market. By October non-financial companies started cancelling fixed-investment plans and cutting back employment as credit dried up and the full extent of the crisis was realised. Consumer confidence deteriorated rapidly and retail spending contracted, further reinforcing the contraction. The resulting decline in global industrial production reduced demand for minerals and metals and forced commodity prices lower. A second problem for many developing countries was that once-abundant financing also dried up, forcing adjustments.
South Africa was not immune to these unfavourable developments. The country was fortunate to escape the direct impact of the subprime crisis, as domestic banks were not holders of so-called toxic assets. Local companies, banks and government are also not that reliant on foreign currency funding, meaning that the adjustment to the new hostile environment was not that abrupt and that the monetary authorities were able to relax policy without worrying too much about the consequences for the currency. However, the effect on export-orientated sectors was immediate and dramatic. In the final quarter of last year manufacturing output fell by a seasonally adjusted annualised 21,8% as the effect of major industrialised countries slipping deeper into recession hurt industries such as motor vehicles and iron and steel. The overall economy therefore contracted by 1,8% in the quarter, bringing GDP growth for the year down to 3,1%. The contraction in the fourth quarter was the first since the third quarter of 1998 and the largest since the fourth quarter of 1992.
The difficulties in export markets added to the problems already being experienced in the household sector as a result of relatively high inflation, interest rates and debt. Interest service costs rose to around 12% by mid-year following two further hikes in official interest rates in April and June, taking prime lending rate to a peak of 15,5%. However, the ratio eased to below 11,5% by year-end, helped by a cut in the prime lending rate to 15% in December and slower growth in debt as credit demand weakened.
Growth was, however, supported by another good agricultural season and the expansion of infrastructure ahead of the FIFA 2010 World Cup as well as the drive to build up electricity and transport capacity. Private sector fixed-capital formation was also strong for much of the year, but faltered as the year progressed and the extent of the crisis became more apparent.
Balance of payments trends, unsurprisingly, were unfavourable. Although export performance was good in the first half of the year, when commodity prices were still soaring, later weakness curbed much of the gains. In contrast, import demand remained strong, initially bolstered by high energy prices and later by capital goods needs. A further widening of the services deficit meant that the current account deficit probably increased to about 8% of GDP in 2008 from 7,3% in 2007. Increased global risk aversion limited portfolio inflows and foreign direct investment, placing a stronger burden on short-term capital flows to finance the shortfall.
Inflation rose significantly into double figures as soaring energy cost and food prices were magnified by a weaker rand against the dollar. In August consumer inflation peaked at 13,6% and producer inflation at 19,1%. However, the strong fall in the oil price helped the former end the year at 10,3% and the latter at 11%.
Credit conditions tightened as the year progressed. Growth in credit extension to the private sector fell to 13,6% in December 2008 from 21,5% a year earlier, with asset-based credit (instalment sales, leasing and mortgage finance) growing by 12% over the period, compared with 22,2% a year earlier. Higher interest rates and some deterioration in household finances pushed insolvencies up by 58,3% and liquidations rose by 4,7%. However, these were off low bases and the overall levels are still well below historic highs.
The year ahead is likely to be exceptionally tough given the scale of the global crisis. South Africa will be helped by a relatively healthy financial sector, an infrastructure programme that is already in place, significant interest rate relief and lower inflation. However, household spending will be constrained by expected large employment losses in export-facing sectors and private sector fixed-investment spending will adjust to the changing environment. Much will depend on how quickly external conditions stabilise.