Downgrade risk returns as SA enters recession



Maarten Ackerman

Poor GDP figures released today revealed that South Africa has entered a technical recession following two consecutive quarters of negative economic growth, heightening the country’s risk of suffering yet another credit downgrade in the second half of the year, says Citadel Chief Economist and Advisory Partner Maarten Ackerman.

Numbers show that the economy shrank by 0.7% in the second quarter of this year (quarter-on-quarter annualised), while the first quarter’s figures were revised down even further to -2.6% from -2.2%. This brings the total year-on-year growth to an anaemic 0.4%, well below the population growth rate of 1.7%.

The rand immediately plunged from R14.90/$ to R15.20/$ in the wake of the data release, while the 10-year bond yield rose nearly 15 basis points, trading above 9%.

Pointing to these figures, Ackerman notes that while the poor figures were not unexpected, market reactions to the news demonstrates the belief that the risk of a credit rating downgrade is back on the table.

“The 1.5% growth estimated by National Treasury in February’s budget speech is currently at severe risk and will likely need to be revised downwards, creating a very difficult environment next month for the delivery of the Medium Term Budget Policy Statement,” he says.

“Additionally, Treasury will need to find ways to fund items not budgeted for in February, such as above-inflation public sector wage increases, National Health Insurance and President Ramaphosa’s economic stimulation package. This means that it is going to be extremely difficult for government to remain within the budget targets and keep rating agencies happy.”

Agriculture continues to dive, but there are other signs of life

The biggest detractor from the GDP figures was the agricultural sector, which declined a further -29.2% following its previous decline of -24% in the first quarter.

“This wasn’t unexpected, however, as agriculture saw a huge boost last year coming off a low base from the drought to increase around 17%. We knew this momentum couldn’t last forever. However, with time this base effect will fall away and the agricultural industry will start to contribute positively again.”

He notes that if the drag from the agricultural industry were excluded from the figures, weak contributions from other industries would still see GDP growth at a mere 0.1%.

“Despite this, it is somewhat positive to see that the mining, construction, electricity and financial industries all contributed positively to the economy over the past quarter, as these industries form the growth engines of the economy and hold the most potential for job creation.”

On the expenditure side of the economy, Ackerman notes that spending on GDP declined by 0.9% (quarter-on-quarter, annualised), although the weaker rand was able to support the export industry which grew 13.7% over the quarter.

Imports also increased 3.1%, despite the fact that households have come under increasing financial pressure over the past few months.

“Of great concern, however, is the fact that quarter-on-quarter, annualised household expenditure figures decreased 1.3%, reflecting the impact of the VAT increase, significant fuel price increases, high unemployment and low growth on consumers’ pockets. For a consumer-based economy, where households contribute upwards of 66% to economic growth, this movement is notably worrying,” he says.

Ackerman states that of additional concern is the fact that the Gross Fixed Capital Formation growth was also negative at -0.5%, implying that no new investment is taking place in the economy, but until investors have greater clarity on policy issues such as land redistribution and mining, he expects to see this number remain negative.

Challenges ahead for Ramaphosa

Ackerman emphasises, however, that while major challenges lie ahead for the SA government and President Ramaphosa, it would be wrong to lay the blame for poor economic performance on him, as it remains a legacy of ten years of economic mismanagement.

“Ramaphosa’s administration has been doing the right things and making the appropriate adjustments, but it will take time to be felt in the economy. We do need clarity on land redistribution and mining policy before we will be able to really attract investments, but I believe that the first two quarters of this year are more of a spill-over of ten years of corruption and mismanagement than anything that the new government should take accountability for,” he says.

In addition, a softer global environment and an uptick in emerging market turmoil on the back of Turkey, Argentina and Russia, have impacted negatively on South Africa and dragged the growth numbers down.

“In an election year, seeing the economy officially entering a recession for the first time since 2009 is probably the last thing that Ramaphosa wants,” he observes. “Worse, it’s going to take hard work to dig ourselves out of this situation while probably also facing heightened populist pressure heading into the election.”

“However, if Cyril Ramaphosa and his government continue with the current policy strategy as well as provide clarity on mining and land, I believe that there might be a surprise to the upside coming from the low base.”