By Ryk de Klerk
CAPE TOWN – A significant reversal is under way after the South African economy in the second quarter tanked more than anyone could have imagined.
The ban on the sale of cigarettes had a major impact on the economy in the second quarter. With the average price jumping to R60 per packet of 20 cigarettes, it means consumers had to pay more than double what they used to.
The implication on other retail sales was significant as the smokers had to cut other expenses to afford their habit. From my personal experience the illicit sales were all cash sales and were probably not recorded in the official retail sales numbers.
With total retail sales at R209 billion in the second quarter, it means that if cigarette sales were included, effective retail sales would have been closer to R240 billion, or 9 percent, down from the first quarter, instead of -21 percent.
The significant lower costs for cigarettes as a result of lifting the ban on smokes is probably boosting consumer spending on other retail products in the current quarter. Manufacturing production declined by 30 percent in the second quarter, but the latest data points to an increase of 29 percent in the current quarter compared to the second quarter.
The recovery in manufacturing production together with the inclusion of cigarettes in retail sales and the push in other retail sales due to pent-up demand are boosting economic growth in the current quarter.
I will not be surprised if the economy in the current quarter is expanding by more than 9 percent on a quarter-on-quarter basis, or 42 percent, on an annualised basis from the second quarter.
Yes, those in charge of the country will be ecstatic, but it will still mean that the economy is contracting by 8 percent compared to the same quarter last year though.
At this stage Mr Market is pricing in a significant reduction in the contraction of the South African economy in the current quarter on a year-on-year basis and a possible return to positive or near positive gross domestic product growth towards the end of the calendar year.
Whether it will materialise remains to be seen as the global and domestic bond market players do not have the answers to the imponderables that face South Africa today.
South African 10-year government bonds are trading at least 100 basis points (1 percent) higher than the BRICS curve given the corresponding credit ratings of the member countries.
As an example, despite Brazil’s lower credit rating, the country’s 10-year government bond yield is 250 basis points (2.5 percent) lower than that of South African bonds.
The stance towards South African bonds by South Africa’s fund managers is aptly summarised by the comment of the managers of the Allan Gray Balanced Fund in the fund's recent fact sheet: “While the yield after inflation remains attractive, we manage the position (long-dated South African bonds) size given the poor fiscal situation in which South Africa finds itself.”
I have followed the trajectory of South African Government bonds and the country's sovereign credit ratings for some time now and one thing is evident – South Africa is climbing Africa’s yield curve and may soon join Kenya in regard to bond yields and credit ratings.
It calls for urgent action by the government.
Hopefully changes in Regulation 28 of the Pension Funds Act are at an advanced stage as it is likely to improve South Africa's dire fiscal situation.
I have said before that Cosatu’s proposal of the effective reintroduction of prescribed assets where all retirement funds, life assurance industry and assets managed by the Public Investment Corporation (PIC) invest at least 10 percent of their assets in government bonds makes sense.
Furthermore, by setting minimum exposures to investments in domestic developmental projects such as infrastructure and green energy the stage will be set for much-needed investment in the economy as it is one of the crucial pillars of economic growth and employment.
Inward investing by the savings sector can also be boosted by lowering the Regulation 28 limits of investing offshore.
Hopefully, the state-owned companies (SOEs) have already prepared or are in the process of preparing to change their Memorandums of Incorporation and are busy with the necessary board resolutions to allow retirement funds to take minority equity stakes in the SOEs.
That will allow highly indebted SOEs to be recapitalised and relieve enormous pressure on the fiscus.
Furthermore, the boards of directors will be strengthened by the appointment of directors representing the new equity holders.
We already know that the PIC is willing to switch the Eskom bonds for an equity stake in the utility. Naturally, it would result in a change in the asset composition of the funds they manage and may lead to rebalancing.
It could lead to large swings in share prices on the JSE.
What the whole country wants is a growing economy that will ensure that job losses are kept to the minimum.
Mr President, the time for action is now – flip the switch to reform the economy.
Ryk de Klerk is analyst-at-large. Contact [email protected]. His views expressed above are his own. You should consult your broker and/or investment adviser for advice. Past performance is no guarantee of future results.
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