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Investment Perspectives – Economic performance in Q2 2023

24 July 2023 Reza Hendrickse, Portfolio Manager at PPS Investments

When trying to make sense of the economy, one needs to appreciate that it is ultimately a complex arrangement of interrelated macroeconomic variables, such as economic growth, inflation, and interest rates, which fluctuate gradually as the “business cycle” plays out.

Periods of strong growth, tend to give rise to price pressures, which central banks try to manage by hiking short-term interest rates, which eventually cools growth and inflation.

This progression is of course less clear and less orderly in real life, where often complications and unforeseen shocks, creating temporary disruption and uncertainty occur (e.g., Covid or Russia’s invasion of Ukraine). Eventually, however, the business cycle prevails - the heartbeat of the global economy – which eventually returns to a resting or trend state.

This is relevant to help contextualise where the global economy finds itself today. From a business cycle perspective, global growth went into cardiac arrest during covid, central banks brought out the defibrillator (economic stimulus), price pressures distorted, and then the war became a further complication. In the wake of this, the fragile patient was left with a fever (high inflation), and central banks are now medicating (high interest rates) and will likely err on the side of caution until things normalise. In the meantime, the risk is that the system remains vulnerable, while the aftereffects are unknown.

Global GDP growth, according to the International Monetary Fund (IMF), is expected to decelerate to 2.8% in real terms this year (from 3.4% in 2022), but they expect a modest improvement next year (3.0%). There has been a degree of smoothing in that the world’s two main growth engines, the US and China, have diverged for now, with the Chinese economy having received a reopening boost this year. The worry, however, is that there is downside risk, from Chinese growth having since been underwhelming, and given that monetary policy in the US is arguably already in restrictive territory and risks choking growth.

Whatever happens, the fact is that the period of above-trend growth which the world has enjoyed, has paved the way for a period of below-trend growth. That is how the business cycle works. Fortunately, inflation has already peaked in most economies and has further to fall, and in time interest rates will therefore follow suit, paving the way for more normal conditions. Concerns around inflation settling at a structurally higher equilibrium rate are valid, given deglobalisation and “onshoring” trends as well as the cost of the green energy transition, which places upward pressure on certain key commodities. At the same time, one cannot overlook the power of potentially deflationary forces, for example, technological advancement.

A look at SA
Like offshore, economic growth in SA is also expected to decelerate this year. The SARB expects 0.3% growth in 2023, recovering to 1.0% next year, still well below “steady state” growth of 2.5%. Loadshedding is largely to blame, so far this year the country has experienced more blackout hours than in 2022 and 2021 combined. The SARB estimates loadshedding to cost us 2.0% in GDP growth this year. Another challenge constraining growth is logistics, particularly ports and rail infrastructure, from Transnet’s failures. Overall, SA looks set to continue growing at a sub-par rate. Encouragingly, inflation is easing given lower food and energy prices, however, the SARB is likely to maintain tight monetary policy settings, determined to see inflation back inside the target range.

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South Africa went to Davos to pitch itself as an investor-friendly destination, then signed an Expropriation Act. What message does this send to global investors?

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