ECONOMIST VIEWPOINT ON SOUTH AFRICA

Something broke in the opening months of 2008. Blaming it all on Eskom is certainly unfair. Eskom was just the most public face of our troubles. It merely rode the crest of a mounting Tsunami of troubling headwinds.

Peaking territory for our business cycle lay as far back as mid-2006. That is when residential building contractor confidence, part of the FNB/BER building confidence index peaked out at in record territory. Passenger car sales peaked out shortly thereafter in late 2006. Other parts of the consumer spending chain also sensed at that time that business had never been so good.

The SARB started raising interest rates from mid-2006 in response to rising CPIX inflation. Between them, rising inflation and rising interest rates steadily squeezed household ability to keep on partying. The higher interest rates took away disposable income. And rising inflation eroded real purchasing power of what remained.

Throughout the Minister of Finance put less money back into the economy than what he took out by way of draining taxation, thus steadily converting a budget deficit into a surplus.

The new national credit act, implemented from mid-2007, ensured that growing numbers of households would be denied access to new credit.

All these headwinds started to make households more cautious. Though as yet not losing much confidence, their purchasing behaviour became more defensive. Typically, one delays big-ticket credit-based items when interest rates are rising, minimally losing welfare at first as the existing stock of assets continues to serve well.

Car sales were the first to start falling, followed by durable goods such furniture and other home appliances. But residential property also registered signs of growing unease throughout last year.

The big jolt came in early 2008 with Eskom electricity interruption and ever higher oil and food prices. And for the first time there was evidence of job losses, as can be gleaned from BER business opinion surveys.

The Labour Force Survey didn’t show up such losses just as yet, if only because the data lags by over six months.

But as 2008 unfolds we can be sure that formal sector employment will not enjoy too many job gains. Indeed, given eroding profit growth, going by company announcements, and BER opinion surveys, 2008 may be the first year since 2000 in which employment declined again.

That should shake some consumers, though not necessarily all. The public sector is well ensconced. And shortages of skilled labour are such that artisans, engineers, executive management and a myriad of other professional occupations need not worry overly much either. If anything, they will also succeed in winning inflation-neutral income gains.

But that probably takes care of only one-third to half the labour force. The remainder will be fully exposed to the headwinds now confronting the economy. Their real incomes will likely suffer. Their confidence should erode further, as will probably their spending growth.

Large swaths of business will come to share in this pain while dishing out its own. It should undermine their willingness to invest and create new jobs. Happily, an important part of such investment spending will be shielded, as infrastructure is mainly driven by government contracts, while big private investment projects with long lead times will also continue.

But any new private projects may get delayed, either for practical reasons as someone holds up their start, but also from caution as business conditions deteriorate.

It isn’t, however, all doom and gloom out there, as many producers continue to prosper. This is especially so for farmers and those supplying them. Mining houses are also earning record prices for their growing output. And some manufacturers may succeed in deflecting domestic weakness on imports, courtesy of a now undervalued Rand.

But overall there is little doubt that things are sliding, and that this sensation is spreading, infecting growing parts of business.

So far it has been the cumulative headwinds since 2006 that have been doing the damage. But oil last week reached $115/b, with yet another humongous petrol and diesel price increase awaiting us in May.

Food prices continue to rise explosively, due to rising biofuel prices but now also in part fuelled by defensive actions taken by increasing numbers of food producing countries. The electricity tariff increase still lies ahead of us, as do the municipal rate increases.

And to this growing pile of woe can now be added the SARB’s ninth interest rate increase of 0.5% two weeks ago, which one senses could the last straw breaking the camel’s back. With this one proviso that if it turns out the camel’s back hasn’t been broken, going by labour wage demands, inflation opinion surveys, company pricing behaviour and capital market bond yields, the SARB may yet be willing to repeat the exercise once again in June.

The Minister of Finance has recently opinioned South Africans should save more and by implication spent less of their incomes. SARB Governor Mboweni has helpfully started referring to belts needing to be tightened yet another notch, in case the message has been lost on us.

The effect of all these developments on employment, real income and confidence is yet to show its full reach, but it will probably still take many months.

Thus we seem to be in transition, from high growth in which GDP did 5.5%, households did 7% and fixed investment did 15% to a period in which we will only do half as well as national belt-tightening prevails.

What will end it?

The inflation acceleration needs to be broken. Getting beyond the Eskom tariff shock is only one aspect. It is the oil escalation that needs to be broken, for it pulls global food prices along in its wake. And the Randshould stabilize rather than become even more undervalued.

Of these oil prices seems the main problem. It isn’t as yet obvious what will stop them escalating, given the remarkable convergence of many global supply constraints.

And beyond all that still looms our inclination to demand compensation for everything that goes wrong. This too will need to change. Food riots don’t magically generate more food. Neither do inflationary wage demands pushing up business costs that need to be passed on, feeding a growing cost-push spiral.

Will adversity succeed at some point to arrest these forces? Probably. It always has in the past. Even so, it may take longer, accompanied by more pain, to do so.

But once those struggles have been overcome, interest rates can decline once again, confidence and risk-taking revive, and ultimately business activity, income, investment, job creation and household incomes.

But for now that isn’t the quadrant we are in. We are adjusting to slower growth, and lower levels of activity, spending and employment in parts of the economy. It will take the better part of 2008 to play out.

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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