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By Anthony Harrington

Given the fact that emerging markets have been whacking advanced markets out the park as far as growth is concerned, it should not be that perplexing that South Africa, the most developed market in Africa, finds itself lagging behind the continent's emerging market outperformers. As deputy governor of the South African Reserve Bank François Groepe noted in a recent speech, while Sub-Saharan Africa is expected to grow at 5% in 2013, rising to 6% in 2014, South Africa's growth expectations are far less robust with the IMF predicting growth of 2% and 2.95% respectively. He notes:

"... The less robust growth in South Africa is partly a function of it being much more integrated into the world economy, through trade and financial linkages, thereby making it more vulnerable to developments abroad, both in advanced economies and emerging markets."

However, Groepe points out that South Africa also faces some serious domestic challenges that are constraining growth, such as:

"[...] rigidities in product and labor markets, high real wage growth, infrastructure bottlenecks particularly [in] power and transportation and high levels of unemployment".

One may call this the legacy of Apartheid, or put it down to the African National Congress (ANC), which has held office since it came to power in 1994, being unable, unwilling or unfit to effect the requisite changes. But this is beside the point; as Groepe says, these are "very crucial issues which need to be addressed," and they have needed to be addressed for the whole two decades that the ANC has held an overwhelming majority in the country.

Part of the problem is that South Africa's domestic market is too small to support anything like a 6% rate of growth, so it needs to have a robust export capability to get anywhere near that sort of level. But its productivity is weak and noncompetitive by German or U.S. standards, and the power of its unions shackles its industrial base through a combination of repetitive strikes and demands for higher wages, which pushes the country back into being a commodity-driven economy. Interestingly, a recent paper by Lawrence Edwards, a Research Associate at the School of Economics at Cape Town University, South Africa, finds that South Africa's lower value and mid value exports to Sub-Saharan Africa are being crushed by China's new found exporting muscle to the region. So, exporting to Africa is not getting any easier despite the high growth rates and associated higher demand coming from a number of countries in the region.

Groepe remains worried that, when the U.S. does finally start to taper quantitative easing (QE), the impact on South Africa's economy (along with a number of other emerging market economies) is likely to be severe:

"We cannot predict how the market may react to the exit from unconventional monetary policy when it eventually arrives, though we have had perhaps a snippet of this. What we do know is that there are substantial risks that such an exit could cause significant negative spillovers for emerging market economies."

Thus far in the crisis, South Africa has been able to maintain its flexible exchange rate regime without imposing any capital flow measures or needing to intervene to prop up the rand. Groepe added that, if South Africa has to introduce more robust measures, it will - but always with an eye to the potential consequences.

Ideally Groepe wants the U.S. Federal Reserve to take emerging market problems into account when it does taper. However, this runs up against the fact that the Fed has no mandate to look after emerging markets and is in the habit of referring anxious emerging market central bankers to the IMF if they have issues. The Fed looks after the U.S., period. It may implement swap lines to help stabilize things, as it did in the last crisis, but it wants emerging market governments to act prudently and to reduce their exposure to headwinds by reducing their fiscal deficits and the degree of debt held by their private sector corporations.

This is where South Africa runs into trouble. It has so many large scale social and infrastructure programs that it needs to fund, that it consistently runs a fiscal deficit worth double what the EU regards as prudent for its member states. Groepe argues that, as the persistent deficit is funding infrastructure programs, this means that it will ultimately be growth positive. Even if he is right, to get to that point, South Africa has to be able to withstand the coming shocks associated with the twin whammies of tapering (when it comes), and a very real loss of competitiveness in its labor market.

The future is looking troubling for Africa's most developed economy.

Source: Why South Africa Is Struggling To Match Sub-Saharan Africa's Growth