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|The Economy 1994-2008 and beyond|
|By Cees Bruggemans, Chief Economist FNB|
|21 August 2008|
When examining the economy’s performance during the years 1994-2008, three dimensions are on offer. Social conditions. Growth performance and structural change. And policy reform.
The biggest social change observable since 1994 concerns personal freedom. The freedom to choose where to live, and with whom, what kind of work to do and where, where to travel and how, attend school, hospital, enjoy leisure time, and much more.
These are freedoms many take for granted. But prior to 1994,
Setting us free had many consequences, for our market economy in the way personal opportunities opened up where they for long were foreclosed, in the manner competition intensified and productivity increased, but also for our cities in the way these expanded, often uncontrollably, and demand for social services.
But instead of being able to claim only net positives, there was a darker side. Our complex social arrangements apparently are forever inviting intrusion by way of discrimination. This comes invariably at a cost. The new redistribution emphasis since 1994 has included affirmative action which was often imposed regardless of cost in skills and experience forgone.
Growth and Structural Change
In the economy’s growth performance since 1994 four phases can be distinguished: the “nervous giggle”, the “Asian contagion interruption”, the “long expansion on windfall coattails”, and “time out”. Marking each of these phases was surprise, and more surprise! That should warn us about the nature of what still lies ahead.
We can briefly analyse each of these phases in turn.
There was the anticipatory phase ahead of the first fully democratic election in 1994, marked by caution and even trepidation as some households and many businesses held back their spending, but responding exuberantly to the election outcome and kick-starting a vigorous growth revival.
This euphoric phase (the “nervous giggle”) was relatively short-lived, as more sober assessments became to prevail once more, though with us it never got as bad as it did in
Our second phase took hold in 1998, when the Asian contagion abruptly came ashore with a successful attack on the
In the third phase, few anticipated the long vigorous expansion that was about to unfold.
Business recovery from mid-1999 was gradual and lingered in the by then accepted way through 2003, with the economy refusing to achieve exceptional growth, in the typical nature of short business cycle expansions as had been the norm by then for 30 years.
Indeed, the 1994-2003 decade was marked by under-average growth of 2.8% annually, well below the 60-year average of 3.5%.
It was from late 2003, however, that fireworks quite unexpectedly descended on an unsuspecting nation. GDP output growth started abruptly to accelerate, under the influence of even faster household consumption growth.
During this exuberant four-year period through 2007, household consumption growth averaged 7%, annual fixed investment growth accelerated from 4% to 15%, and GDP growth averaged just over 5%.
The fourth phase (“time out”) was entered in 2008, with an abrupt slowing of GDP growth commencing in 1Q2008, suggesting a cyclical return to 2%-3% growth in at least 2008-2009.
What distinguished these economic phases from each other and from what preceded it?
The outstanding feature of 1994-2003 was rationalization of the economy and reform of macro and micro policies, with a dash of external interruption.
In contrast, 2003-2007 saw massive external windfalls of a commodity nature, but even more so in terms of capital inflows, easing traditional growth constraints and pushing the economy to perform at its maximum ability.
From 2008 new interruptions arose, internally but especially externally and policy action contributed to greatly slow the economy.
The main impression of this entire period 1994-2008 is that initially the economy could not yet recover to its long-term growth potential because it was undertaking long overdue changes which held back growth through policy restraint and on account of natural business caution at a time of national repositioning.
The short burst of exceptional outperformance during 2004-2007 was a matter of having our traditional constraints relaxed through enormous capital inflows, with the Rand firming, inflation subsiding and nominal interest rates lowered accordingly, all of it triggering a lively spending exuberance as durable goods replacement greatly accelerated, formal employment growth finally started up after 30 years abeyance, and fixed investment was kick-started by public infrastructure initiatives and reviving private confidence.
The resulting high-single-digit spending growth bonanza was strongly credit-driven and could not be fully accommodated by the local economy which could only expand at mid-single-digit growth even when pushed to the limit.
A large savings shortfall build up as we increased our dependence on supplementary foreign capital inflows, in turn reflected in steeply growing current account deficits, which reached 9% of GDP in 1H2008, having started in surplus in 2002.
The abrupt turnaround experienced in 2008 had partly its origin once again in global events, this time in the commodity price inflation accompanying the global commodity boom, and the electricity constraint kicking in due to inadequate long-term planning locally.
By way of tighter monetary and fiscal policy stances, our policymakers had already begun in 2006 to make the long boom more sustainable by constraining consumption growth and changing the composition of spending growth in favour of fixed investment.
But the events of 2008 were growth unfriendly, as well as inducing yet more policy tightening, together ensuring an abrupt falloff in growth.
In the transition years 2008-2009 the South African economy will have to adjust to complex changes underway in the global environment, while also at home experiencing new constraints, such as in electricity supply, but not limited thereto.
Skilled labour supply remains a major ultimate constraint on growth, given the economy’s current configuration, as pointedly highlighted by the Harvard Study Group.
As regards structural changes in the economy, there has been little progress to improve the savings propensity or the export performance, both serious long-term limitations on our growth performance through an exposed balance of payments and a renewed growing dependency on rising foreign indebtedness.
Fixed capital formation finally started to increase relative to GDP from 2003 onward. In contrast, the human capital stock remains worryingly constrained.
Yet the years of higher GDP growth did finally interrupt a 30-year deteriorating labour force trend. Whereas unemployment had consistently risen from 0.5 million in 1970 to over 8 million in 2003, with formal employment levels stagnating since 1990, the faster GDP growth from 2003 turned these trends decisively.
Formal employment grew to approach 9 million by 2008, while unemployment fell closer to 7 million.
These important trend reversals will be interrupted by the growth slowdown of 2008-2009, but once the economy recovers cyclically, the longer term structural improvement in formal employment and unemployment levels should resume, though perhaps less vigorously than observed in 2003-2007 due to less growth outperformance.
At the macro-level, fiscal and monetary policies stand out for their reform achievements during 1994-2008.
Fiscal policy focused on getting tax compliance up to standard, while restraining public spending growth to within limits of what was achievable. The emphasis was on reducing the budget deficit. Together with falling inflation and long-term interest rates, it allowed the debt-to-GDP ratio to halve, freeing up yet more non-interest budget space for social priorities.
Spending-wise old discriminatory practices were discontinued, more public money voted for critical social needs (education, health, police), yet the returns on such social investments often disappointed.
Importantly, the social safety net for the very poor was substantially strengthened, with today at least 12 million recipients of welfare allowances.
Monetary policy moved away from trying to influence the domestic economy as well as dirtily managing the currency yet with no foreign reserves of note.
Starting with a heavily overdrawn foreign account, in terms of a debt standstill from 1985, and a net oversold forward book that reached $29bn, monetary policy went through various renewals.
Interest rate policy became focused on domestic affairs, favouring a mostly stable real interest rate regime as anchor for the economy. The
This policy was ultimately formalized into one of targeting inflation. Externally, the debt standstill and the oversold forward book were worked off, and a prolonged process of foreign reserve accumulation began, importantly boosted by the external windfall conditions prevailing since 2002. Today our net foreign reserves stand at $35bn and are still steadily, if slowly, increasing.
Elsewhere, government policy was less successful or downright disappointing.
Redistribution priorities favoured narrowing wage differentials, especially in the public sector. This was at time done at the expense of infrastructure maintenance and new expansion.
For a while this was understandable, given political priorities but also the huge infrastructure surpluses inherited from prior decades and the still slow growth environment. But delay was ultimately fatally prolonged, and the growth condition unexpectedly accelerated, to a point where surplus infrastructure capacity disappeared very quickly, yet long lead times for new projects remaining a reality.
Thus an important new growth constraint was created in terms of growing infrastructure bottlenecks (roads, ports, railways, electricity, telecommunication, municipal services).
Another growth restraint was the more than 500 new business regulations added since 1994 to the already top-heavy legacy from the previous regime, weighing down especially on smaller and middle-sized businesses less able to effectively handle such bureaucratic burdens.
There were impressive gains in public delivery, such as new houses build, telephone connections, water supply provided, new health clinics and classrooms added. But given the very large backlogs, such gains ultimately were experienced as too little by far.
Summarising 1994-2008 and what next
These past 15 years have been a critical transition period for the economy that remains incomplete even today following a watershed political change in 1994.
The economy was for long held back by restraining policy reform, lingering business uncertainty and the costs of imposing overdue industry rationalization.
This kept growth slow and prevented much of a structural change in employment from coming about, with ongoing population growth and urbanization greatly increasing the extent of unemployment.
This impasse lasted a decade.
The onset of remarkably favourable external conditions and the effective end of needed rationalization and policy restraint domestically then set the scene for a burst of 5% growth outperformance. This boosted formal employment and allowed unemployment reduction against a backdrop of rapidly declining population growth.
But despite the renewed increase in capital formation back towards a 25% of GDP norm, the economy’s long-term growth potential has probably so far not been lifted much beyond its proven 3.5% limit of the past 60 years during which reliable estimates have been undertaken.
The economy has shown in the past it is capable of achieving growth outperformance of over 5% annually with fair tailwinds from global windfalls. It did so during the 1960s and less impressively during 2004-2007.
But such growth bursts often commenced with surplus capacity, infrastructure and labour on hand, with some of the growth outperformance simply reflecting better resource utilization.
Similarly the economy also has been capable of severe underperformance, as during the politically-challenged 1970s and 1980s and the repairs of the 1990s.
Although our society is a complex fragmentation of many influences, all of whom with a lively contribution to make in further shaping our institutional legacy in years to come, the fundamental nature of this existing institutional reality may change only slowly, potentially with as many negative as positive performance enhancements added over time.
Without radical change, our innate growth and development capacity may not be changing much beyond the 3.5%-4% annual reality we have observed for so long in our relative mature condition, even when held down by so many structural shortcomings.
But with population growth having dwindled from domestic sources to an effective standstill, though boosted from African immigration, the per capita gains could still over time allow impressive structural changes to be achieved. Yet under current policies this will likely be time-intensive, something that will likely continually test the country’s political arrangements as impatience with progress prevails.
Please note: this article is based on a presentation “The state of the South African economy 1994-2008” delivered at the Centre for International Political Studies at
Cees Bruggemans is Chief Economist of First National Bank. Register for his free e-mail articles on www.fnb.co.za/economics
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