Structural changes in SA economy
FAnews Online attended the LOA Conference which took place at the Sandton Convention Centre last week Thursday. The core themes addressed at the conference were those of Convergence in the life insurance industry, and the much discussed social security reform process.
In today's newsletter we take a look at some of the ideas presented in the opening speech at the conference. Titled "The structural changes driving long term investment performance" the presentation by independent economist Chris Hart provided some insight into the economy in which all businesses in South Africa operate.
A blip in the downward trend
Hart believes that although the combined pressures of higher food and oil prices have pushed inflation higher, the economy is still in a downward inflation cycle. The higher inflation we are witnessing right is an upward correction before the downward trend resumes.
"If you're macroeconomic base of the economy is in line with global best practices, there is no reason why your inflation rate shouldn't converge with that of your major trading partners," said Hart. Since South Africa's major trading partners include the US and the European Union we should hope to trend toward the 3% to 4% level in the near future.
Much has been said about the impact of higher consumption spending on the economy in general and inflation in particular. The current expenditure boom is one of the reasons that South Africas household debt is at a record high 76% of household income. Hart was quick to point out that South Africas 76% level is not particularly high when compared to the US (at 130%), UK (around 150%) and Australia (closer to 160%).
Why is it so 'low'? Hart believes the ratio is influenced by the high number of households who don't have debt simply because they don't have income. As the economy creates new jobs, more people have access to credit and this is a key development pushing the debt to income ratio higher. While the number is likely to remain above the 70% mark for precisely the reasons mentioned above, relief could be in sight as the domestic economy shifts from a consumption economy to an investment economy.
Lower inflation trend could curtail interest rate hikes
Consumers should ready themselves for one more interest rate hike in August. "We are expecting the Reserve Bank to hike interest rates next month, to take the prime lending rate to 13.5%," says Hart. This rate hike is inevitable given the macro-economic conditions the Reserve Bank hopes to maintain most notably the often stated 3% to 6% inflation band.
Because the Reserve Bank includes inflation targeting as one of its major goals, interest rates tend to move in line with inflation. With inflation still in a long term cyclical down trend, we should see the interest rates adjust in a similar fashion.
Hart believes that interest rates will peak at this level, flatten and then slowly come down. In other words, in two quarters time we can expect rates to still be around 13.5%, while in two years time we could see the interest rate at 9.5%
All systems go for higher growth
Africa as a region has benefited from a number of significant events in recent years. The fact that more African countries have adopted principles of good governance coupled with the demise of Apartheid has allowed South Africa to integrate with the rest of Africa. This economic benefit is compounded by a global commodities price boom which provides splendid prospects for growth going forward.
The outlook for economic growth has shifted significantly. In the past, a GDP growth rate of 4% was viewed as unattainable the top target the South African economy could reach. Today, Hart believes that 4% is the bottom target or support level for an economic 'slowdown'.
"What is happening is inflation is trending down, and growth is trending up." This represents a significant change from the 70s and 80s when inflation was higher than growth. In 2004 South Africa's growth rates were higher than inflation for the first time in years and this opens opportunities for further growth going forward.
The only real threat to economic growth at the moment is the country's supply side crisis. Hart says "Our economy is producing flat out, and we still have to import goods to meet everybody's needs." In light of this, the current infrastructure spend in the run up to 2010 is essential. South Africa needs to boost capacity in almost every sphere if the country is to prosper beyond 2010.
Editor's thoughts:
Chris Hart introduced a number of interesting concepts in his opening speech at the LOA conference. He suggests that the inflation and interest rate cycles remain in downward trends, that a 76% household debt to income ratio is not entirely a bad thing and that South Africa is in the grips of a supply side crisis. Given this information, do you believe that South Africa can afford similar debt to income ratios as the US, UK and Australia? Send your comments to [email protected]
