South Africa’s economy faced a "difficult year" ahead with its very vulnerable balance of payments threatened by a low level of exports and the prospect of large capital outflows, Reserve Bank officials say.
Bank governor Gill Marcus warned that policy decisions the US Federal Reserve was likely to take on quantitative easing in the near future posed a "real risk" of sudden large outflows of capital from the country.
The initial announcement that the policy intended to stimulate the economy would be tapered off sent capital markets into a tailspin and prompted an outflow of billions of rand from South Africa.
The bank expects the tapering of quantitative easing to take place later this year and to come to an end around the middle of next year, with a rise in US interest rates forecast for 2015.
Countries with twin deficits on their budget and their current account are particularly threatened by global storms.
Marcus’s adviser, Brian Kahn, noted in a briefing to Parliament’s standing committee on finance on the Bank’s annual economic report that South Africa was vulnerable to capital reversals because of its "persistent current account and fiscal deficits", which required stable financing.
He stressed there was an "urgent need" for South Africa to increase its exports if it were to address its balance of payments problem as bond flows into emerging markets had become more fickle.
Not only was South Africa exporting less in volume terms but the prices that it was getting were moderating as well. "Overall, in value terms, it is not a very positive story," Kahn said.
Exports fell by R5.8 billion, or 7.6%, in August, contributing to the shock increase in the country’s trade deficit to R19 billion. This was a sharp deterioration on the July shortfall of R13.4 billion.
Finance Minister, Pravin Gordhan, is also expected to announce an increase in the government’s fiscal deficit when he tables the medium-term expenditure framework in two weeks’ time.
Kahn’s comments came in the wake of a report by the International Monetary Fund (IMF) that also highlighted the deep vulnerability of the domestic economy to a reversal in capital inflows, which South Africa needs to finance its current account deficit.
In its country report on South Africa, the IMF suggested that the Bank should increase its holdings of foreign exchange reserves to "lower vulnerabilities", which is something Marcus said the Bank had been doing.
"The need to accumulate these reserves has been driven by the need to reduce our vulnerability to sudden large outflows of capital, something which is regarded as a real risk, given the policy decisions likely to be taken by the Federal Reserve in the near future," Marcus said.
She conceded that South Africa’s gross foreign exchange reserves, at about $50 billion last month, were relatively low compared with its emerging market peers and "over time we will need to build up our reserves". Brazil’s reserves were just below $400 billion and China’s at about $3.5 trillion.
Marcus said South Africa had made good progress in building up its gold and foreign exchange reserves over the past 10 years from the $8 billion in June 2003.
Kahn noted the limited potential for further monetary accommodation by the Bank because of the pressures on inflation, mostly from the depreciation of the rand, which has lost 15% against the dollar this year.
High wage increases and rising food and administered prices, particularly petrol prices, were also exerting inflationary pressures.
"There are signs of some inflation in the pipeline," he said.
Monetary policy had to be framed within the context of fragile growth and these upside risks to the inflation outlook. On the other hand, consumer demand had moderated.
Kahn noted that household consumption expenditure growth was slowing down amid low consumer confidence and the relatively high level of household indebtedness. The market for unsecured credit was losing momentum, which would affect the outlook for consumption expenditure.
Headline inflation is expected to return to the inflation target range of between 3% and 6% in the fourth quarter and then to remain within it until 2015.
Economic growth was expected to be "sluggish", Kahn said. The Bank has forecast a growth rate of 2% this year, followed by 3.3% and 3.6% in the next two years.
The Treasury will release its revised growth forecast later this month but Mr Gordhan indicated this week that growth would not reach the 2.7% forecast in the February budget but was also unlikely to drop below 2%.
A further sign of the economic slowdown was provided by the latest purchasing managers’ index and the reported decline in car exports.
The index dropped below 50 for the first time in six months last month, an indication of the contraction in output as a result of the prolonged motor industry strike.
Kahn said a "multispeed" recovery was taking place in the global economy. There were signs of recovery in the US but "headwinds from fiscal policy and the possible tapering of monetary policy" were taking place.
"The eurozone has emerged from recession but growth is expected to remain weak for some time. But risks of a disorderly break-up of the system have receded," Kahn said. UK growth was showing signs of improvement, while the outlook for Japan was uncertain, despite the strong monetary policy stimulus.
"Growth in the emerging markets is slowing, including in the Brics (Brazil, Russia, India, China and South Africa), but the outlook for Africa is generally positive," Kahn noted.
Global and domestic growth improved in the second quarter following a weak first quarter but the IMF recently downgraded projections.