Month: July 2015

An avoidable trade off

Less growth for no less inflation: a trade off that could have been avoided with lower, not higher, interest rates

Since the Monetary Policy Committee (MPC) of the Reserve Bank decided to raise its repo rate by 0.25 percentage points on Thursday, the outlook for SA growth has deteriorated, because of the likely impact of higher interest rates on spending; while the outlook for inflation has deteriorated, because the rand has weakened. Less growth for more inflation hardly seems like a useful tradeoff, but that is what the SA economy has to confront.

Can we however blame the Reserve Bank for the weaker rand? We can, if the prospect of slower growth is expected to reduce the case for investing in SA and therefore is associated with the weaker rand. But the rand may have weakened for other reasons unrelated to the Reserve Bank decision. Emerging market risks may have simultaneously increased, thus discouraging capital inflows, or something the MPC also worries about – interest rates in the US may increase, so driving capital away from emerging markets leading to a weaker rand.

Neither of these forces since Thursday last week can explain the fact that the rand lost a little ground to other emerging market currencies, while interest rates in the US fell rather than rose. Moreover, while long term rates in SA remained little changed, the spread between RSA and US rates widened since the interest rate increase, indicating an increase in the SA risk premium (a wider spread is usually associated with rand weakness).

Furthermore short term rates – up to one year duration – all rose in tandem after the MPC meeting, indicating that the outlook for interest rates to come has not changed in response to Reserve Bank action or explanation. The interest rate carry in favour of the rand, AKA the SA risk premium, remains as it was. The forward looking stance of monetary policy, in the collective view of the money market, has therefore not softened – a softening that might have served to explain the weaker rand, but does not.

All of this indicates another point we have made repeatedly. The impact of any move in policy-determined SA interest rates on the exchange value of the rand is essentially unpredictable. This makes the relationship between interest rate changes and inflation also highly unpredictable, so undermining the logic of inflation targets. Inflation targets, if they are to be met with interest rate settings, demand a predictable relationship between interest rate movements and inflation itself. This predictability does not exist.

The unpredictable reactions in the currency markets help vitiate the presumption that interest rates can be a useful instrument for realising inflation targets. Upredictable increases in administered prices, the price of electricity, water, municipal services etc. that may drive inflation temporarily higher (as might a weaker maize harvest) are supply side forces that do not respond to higher interest rates. The notion that interest rates should rise in response to an economically damaging drought is surely risible. Higher interest rates in SA do have one highly predictable effect and that is to reduce spending.

The latest surprise for the inflation forecasting model of the Reserve Bank from which interest rate settings take their cue, is that the so called pass through effect from a weaker rand to higher prices is about half as strong as predicted by the model. Both the rand prices of imports (helpfully) and exports (unhelpfully for the domestic economy) are lower than they were a year ago, reducing rather than adding to the pressure on the CPI. This time round it is not the weaker rand that can be blamed for higher inflation to date- but a still weaker rand clearly imposes the risk of more inflation to come.

The MPC, by increasing short term interest rates, willingly added to the risks of still lower growth rates. Our view is that this represents a distinct error of judgment.

To quote the MPC statement:

“The MPC has indicated for some time that it is in a hiking cycle in response to rising inflation risks, and a normalisation of the policy rate over time. The MPC is cognisant of the fact that domestic inflation is not driven by demand factors, and the outlook for household consumption expenditure remains subdued. Economic growth remains subdued, constrained by electricity supply disruptions and low business and consumer confidence and the risks to the outlook remain on the downside. However, as emphasised previously, we have to be mindful of the risk of second-round effects on inflation, and the committee is concerned that failure to act against these heightened pressures and risks will cause inflation expectations to become entrenched at higher levels.”

We would take issue with the relevance of the so defined second round effects that is so important to the Reserve Bank view of how inflation comes about. That is the notion that more inflation expected can lead to more inflation as a kind of self fulfilling process and that it takes, if necessary, painfully higher interest rates to control such expectations. The reality, in our view, is that these inflation expectations held in SA are particularly well entrenched and highly stable at around the 6% level, the upper end of the inflation target band. That is, if we infer inflation expected from the actions of investors in the bond market, being the difference in yields offered by vanilla bonds and their inflation protected alternatives of similar duration. These differences are shown below for 10 year bond yields.

Thus, the remarkable fact about the extra rewards for taking on inflation risk – the difference between a coupon exposed to unexpected inflation and one completely protected against actual inflation – I is how stable it has been, around about 6%, the period of the global financial crisis in 2008 excluded. The daily average spread since 2009 has been 5.95%, with a maximum yield spread of 6.92% and a minimum of 4.55%, with a Standard Deviation of 0.41%. It would seem to us that the inflation leads inflation expected – not the other way round- and that it would take an extended period of inflation well below 6% p.a to reduce inflation expected. These second round effects are a theory without empirical support that is preventing monetary policy from acting in a usefully counter cyclical way. A cycle that calls for lower not higher interest rates to encourage not discourage growth that attracts capital and might support not weaken the rand.

Furthermore, the MPC should recognise that price setters, that is most firms, set prices according to what the market will bear, that prices are not simply cost or wages plus sum pre-determined profit margin. Higher costs will lead to lower margins if demands from the market restrict pricing power, and higher wages can lead to fewer people employed in the presence of weak demand and the absence of pricing power.

In the distinct presence of weak demand, fully recognised by the MPC, neither expected inflation nor higher wages explain higher inflation in SA. Nor does money or credit growth help explain why inflation in SA is currently as high as it is. Households are borrowing very little more than they did a year ago and firms are borrowing more, but to invest abroad not locally. Money supply growth remains subdued.

Higher taxes, in the form of higher administered prices, explain much of inflation to date and help explain much of the inflation forecast by the Reserve Bank Model. Administered prices, petrol and electricity for example, are assumed to increase by 11.7% and 12.5% respectively in 2016. Yet these price increases add further to the pressure on household and business budgets and further inhibit spending. Yet the MPC seems convinced their monetary policy settings remain supportive of the economy rather than a threat to it. To quote the PMC statement further:

“The expected inflation trajectory implies that the real repurchase rate remains low and possibly still slightly negative at times, and below its longer term average. The monetary policy stance therefore remains supportive of the domestic economy. The continuing challenge is for monetary policy to achieve a fine balance between achieving our core mandate of price stability and not undermining short term growth unduly. Monetary policy actions will continue to be sensitive, to the extent possible, to the fragile state of the economy. As before, any future moves will therefore be highly data dependent.”

We must beg to differ about the measured stance of monetary policy. A prime rate of 9.25% is well ahead of the price increases most private businesses are able to charge their customers. They do not have the monopoly powers of an Eskom or a municipality to charge more regardless of the state of demand. Keeping prices rising in line with headline inflation (not of their making) is becoming much more difficult, so making monetary policy ever less supportive of the domestic economy.

The economy is fragile and higher interest rates have made it still more so. Had the Reserve Bank been more sensitive to the state of the economy and more data dependent (and not embarked on a premature path to higher interest rates) the economy would have better prospects and a stronger not weaker rand might well have reflected this.

Unleashing the household sector

The state of the SA economy – reading the tea leaves and providing a recipe for a stronger reviving brew

The trend in retail sales volumes in 2015, now updated to May, help confirm that the SA economic engine is stuck in a slow growth gear of between 2% and 2.5% a year. Year on year retail inflation is also fairly stable between 4% and 5%.

Our Hard Number Index (HNI) of SA economic activity, based on new vehicle sales and cash issued by the Reserve Bank, adjusted for consumer prices, updated to the June month end, indicates a very similar pattern to that of retail, a pattern of slow growth. This is predicted to continue for the next 12 months at its current very pedestrian pace. We add the Reserve Bank Co-incident Business Cycle Indicator, based on 12 economic time series, for comparison, also smoothed and extrapolated beyond March 2015, the latest data point for this series. All of these indicators of reveal similar trends and cyclical turning points that provide very little sense of a cyclical upswing. The HNI shows up as a very reliable leading indicator of retail volumes and the more broadly measured business cycle.

It may be of some consolation that the indicators still predict some positive growth, though higher interest rates, if imposed by the Reserve Bank, may threaten even these predictions of slow growth. There is no suggestion that spending growth is about to pick up to add to inflationary pressures that are almost entirely the result of higher taxes on fuel and energy and municipal services generally.

The series for import and export prices to March 2015 suggest deflation rather than inflation emanating from the balance of payments and the exchange rate. The rand is weaker against the US dollar but stronger against the euro and only marginally weaker on a trade weighted basis compared to a year ago. Import or export prices (measured by the export or import deflator) were lower in Q1 2015 than they were a year before and so are not adding pressure to SA inflation rates: nor is domestic spending. The tax increases and the drought in the maize belt that have pushed the CPI temporarily higher, will not respond favourably to higher interest rates that the Reserve Bank seems intent on imposing on a highly fragile economy.

The case for raising short term interest rates in these circumstances is, in our judgment. a very poor one. It is certain only to further depress domestic spending without promising to have any predictably favourable influence on inflation or inflation expected over the next 12 – 18 months. As we will show SA needs lower rather than higher interest rates if it is to escape from slow growth forever.

The question the Reserve Bank should be considering – as should all those with responsibility for economic policy – is how can the economy hope to break out of this seemingly indefinite prospect of slow growth? Ideally it would be increased exports that lead the economy to faster growth. But exports from SA will be constrained by the weakness in metal and mineral prices associated with slow global growth and the fact that global supplies of metals have caught up with the extra demand that came from China in the boom years before 2008, though as we have seen recently, merely keeping the factories and mines working rather than shut down through strike action can help to add to exports and employment and incomes.

Stimulus from government spending has also run its course – it was ended by rising government debt and interest payments and threats to credit ratings accompanying these adverse trends. Increased duties on fuel and energy as well as higher income tax rates are not only adding to inflation- they are an extra burden on household budgets. And to look to the capital expenditure programmes of publicly owned corporations to lift the economy, as was the official case made a few years ago, would seem only to court further disaster. The clear reluctance of private business to invest more in their SA operations will continue until their capacity to produce more is challenged by increased demands form their customers. Private businesses in Q1 2015 reduced their capital expenditure and their payrolls.

The essential condition for any step up in SA growth rates is an increased willingness of households to spend and borrow more. Household spending accounts for about 60% of all spending and without encouragement for the rest of the economy from the household sector (encouragement now clearly lacking), the economy will not grow faster. How then could this come about? A look back at how the economy managed to grow much faster between 2003 and 2008 may be instructive.

In figure 3 below we show how spending in 2008 collapsed as retail prices rose sharply after the rand weakened in response to the Global Financial Crisis. Notice also the extraordinary growth in retail volumes between 2003 and 2007 as retail inflation subsided. Inflation subsided then as the rand strengthened and lower interest rates followed lower inflation so stimulating consumption spending further. Bank lending, as mentioned (particularly mortgage lending to households), grew even faster than consumption spending, so providing strong support for the spending intentions of households.

At the peak of the growth cycle in mid 2006, bank lending to the private sector was 26% up on a year before and mortgage lending had grown by about 30% on a year before. The value of residences owned by households increased by an average 21% a year between 2003 and 2007, adding significantly to the willingness of households to borrow and spend and banks to lend to them on the security of rising house prices. See figure 5 below that illustrates these housing and household wealth effects.

SA spending grew faster than output between 2003 and 2008 and the current account went into deficit, having remained in balance throughout the slow growth years that preceded the boom. Foreign capital more than made up the shortfall in domestic savings. The boom in spending and growth between 2003 and 2008 could not have continued without support from foreign capital that proved very forthcoming.

This helps make an essential point: growth improves returns on capital and attracts additional savings from all sources, domestic and foreign, to fund faster growth and benefit from higher returns on capital invested. Slow growth repels capital because expected returns fall away. The limits to spending and growth are set by the supply of savings from domestic and foreign sources. But to attract capital, conditions for it need to be attractive. Expected growth rather than stagnation or worse is the essential lure for capital.

If the economy were to grow faster in response to a pick-up in household spending, the lack of domestic savings might prove a constraint, should foreign capital not be fully forthcoming. If this were to happen, the rand would come under pressure and higher inflation would then call for higher interest rates – trends that would in turn inhibit any incipient recovery in household spending.

The point to be recognised is that unless the economy asks for more foreign capital the answer as to how much would be made available, only time and evidence would be able to tell. But there would be no point in inhibiting any recovery in household spending for fear that it might soon run into the sands. Entry into a virtuous circle of something like the 2003-2007 episode of faster growth will hopefully be attempted sometime in the not too distant future and would have to be led by faster growth in household spending. South Africans can only hope for the chance to test the market for capital to fund our growth.

One positive influence on spending will be the improved state of household balance sheets. The household ratios of debts to assets have declined – helped by a recent improvement in the value of houses, which are up by about 10%.

Lower, not higher short term and mortgage interest rates, would be helpful to this end. A recovery in the prospects for emerging equity and bond markets that have underperformed developed markets since 2011 would be very helpful indeed. The rand would attract a share of additional flows into emerging markets and so help add strength to its value, improve the outlook for lower inflation and lower interest rates. In other words, 2003-2007 reprised. We live in hope for more favourable tail winds from off shore.

But there is much South Africa could do to improve its economic prospects and its attractions to foreign capital, which are essential to any attempt to lift growth rates. They come under the broad rubric of reducing the risks of investing in SA business. Planning for more competitive labour and energy markets (less power to the unions and privatisation of generating capacity very much included) would go a long way to raising the bar for the SA economy and attracting capital to the all-important purpose of faster growth in incomes.

SA economy: Household help

Faster growth will have to be led by SA consumers. Adding to household indebtedness is the solution, not the problem.

The SA economy added neither jobs nor capital equipment in Q1 2015. The business sector is unlikely to come to the rescue of the economy unless households lead the way forward and prove able and willing to spend more. Growth in household spending growth, that contributes about 60% to GDP, has been trending lower ever since the post-recession recovery of 2010. Though in the latest quarter to be reported, Q1 2015, growth in household consumption spending estimated at an annual rate of 2.8% actually helped, raise rather than depressed GDP, which grew at a very pedestrian 1.3% rate in Q1, 2015. The national income statistics reveal the great reluctance of the corporate sector to spend more on equipment or workers. In Q1 2015 fixed capital expenditure by private businesses declined as did their payrolls.

The statistics on bank lending to the private sector are very consistent with the revealed reluctance of households to spend more and to borrow to the purpose. Yet the banks are lending far more freely to the SA corporate sector at a well over 10% rate of growth. However this corporate borrowing is not showing up as additional spending on fixed or working capital, that is, to employ more workers.

It would therefore appear that SA businesses are using their strong balance sheets to fund offshore rather than on shore operations. The significant increase in mortgage borrowing by SA corporations, presumably to this end, is noteworthy. By contrast household borrowing from the banks, including mortgage borrowing, has long grown more slowly, in fact declining in recent years when loans are adjusted for inflation. The price of the average house in SA has also been falling in real terms, so discouraging households to borrow or banks to lend to them in a secured way.

Much attention is usually given to the rising debt levels and ratios of households. The rising ratio of SA household indebtedness to disposable incomes is often referred to as a signal of the over indebted state of the average SA household. As may be seen below, this debt ratio increased markedly between 2003 and 2007 when the economy enjoyed something of a boom. This boom was led inevitably by a surge in household consumption spending , funded increasingly with credit, especially mortgage credit, linked to rising house prices of the period.

Also often referred to is the debt service to disposable incomes ratio, which has declined in recent years as interest rates have fallen- presumably a positive influence on spending. But this ratio ignores interest received by households that has fallen with lower interest rates- presumably to the detriment of household spending.

Much less attention unfortunately is paid to the other side of their balance sheet. As we show below the asset side of the SA balance sheet strengthened consistently before and after the meltdown in equity markets in 2008-09. A mixture of good returns in the equity and bond markets and a diminished appetite for debt has seen the household debt to asset ratio fall significantly.

The reluctance of SA households to borrow more and or the banks to provide more credit for them is being maintained despite a marked improvement in the balance sheets of SA households. Hopefully at some point soon, this balance sheet strength will translate into more household spending and borrowing. These improved balance sheets may well have helped sustain household spending in the face of deteriorating employment and profit prospects in Q1 2015.

As may be seen in the figure above the ratio of household wealth to disposable incomes fell between 1980 and 1996. These were very difficult years of political transition for the SA economy, made all the more difficult by declining metal prices. This wealth ratio has since risen significantly to the peak levels associated with the gold and gold share boom of the 1979-1981. Access by SA companies and individuals to global markets and global capital that came with the transition to democracy has clearly been wealth adding and so helpful to SA wealth owners. The value of their shares, homes and retirement plans has more than kept up with after tax incomes in recent years.

In the figures below, we show the composition of the asset side of the household balance sheet in 2014 and also how the mix of assets has been changing. The largest share of household wealth is held in the form of claims on pension funds and life insurance with ownership of residential buildings following closely in importance. The fastest growing component of household wealth is holdings of other financial assets, investments in shares and bonds mostly via unit trusts, while bank deposits lag well behind in importance.

In the figure below we compare the real, after inflation growth in household assets, in household debts, household consumption expenditure and real household per capita incomes. These growth rates move in much the same direction. More household borrowing is associated with greater wealth, more spending and most importantly, a faster rate of growth in real per capita incomes. This virtuous circle that is initiated by more household spending and more borrowing to the purpose is particularly well illustrated through the boom years of 2003-2007, the only recent period when the SA economy could be described as performing well. Over this five year period, household assets in real terms increased at an average rate of 11.9% a year, household debts by an astonishing real rate of 15.6% a year, while household consumption spending grew by 5.9% a year on average and household per capita real incomes were up at a welcome average real rate of 3.9% a year. Without the extra credit, all this good stuff could not have happened. So what is not to like about a credit accommodating boon to spending and economic growth?

One possible regret would be that such rapid growth rates cannot be sustained in the absence of an increase in domestic savings as well as of wealth. The ratio of gross savings to GDP in SA has been in more or less continuous decline since the peak rates realised in 1980 as is shown below.

This declining savings rate has meant a greater dependence on foreign capital inflows to maintain growth rates. Even the slow growth of recent years has had to be accompanied by deficits on the current account of the balance of foreign payments and equilibrating capital inflows that have funded these deficits and more – also adding to foreign exchange reserves.

Given the low rate of domestic savings, South Africans have had to sell more debt to foreign investors and shares to foreign investors. More interest and dividend payments have gone offshore in consequence. But what is not well recognised by those who concern themselves (unnecessarily) with the sustainability of faster growth is that faster economic growth attracts capital and slower growth frightens capital away (Unnecessary because the sustainability of the growth will either be supported by the capital market or will not be, in which case the potential growth will not materialise, leaving nothing to worry about, except slow growth).

In the boom years after 2003 the inflation rate in fact came down as the rand strengthened with inflows of capital. SA enjoyed faster growth and lower inflation until the boom ended with much higher interest rates, imposed by the Reserve Bank, before not after, the Global Financial Crisis frightened capital away.

If SA is to re-enter the virtuous circle of faster growth and supportive capital inflows of the kind enjoyed after 2003, it will have to be accompanied by a renewed appetite for household borrowing and lending. Strong balance sheets may help initiate a recovery in the household credit cycle. Higher short term interest rates will do the opposite. A test of the hypothesis that faster growth in SA can be self sustaining when supported by capital inflows is overdue. Hopefully conditions in global capital markets will become more risk tolerant and more inclined to fund growth in SA. A growth encouraging agenda, initiated by the SA government, would be a much needed further stimulus to raising SA growth rates and attracting foreign investment.

An interesting side show

The rise of Naspers and its implications for the JSE; and why the main show for emerging markets remains the US economy, not Shanghai or Greece.

One of the important features of the JSE over the past few years has been the extraordinary rise of Naspers (NPN). As a result of this, NPN has become a very large share of the JSE indexes (some 11% of the JSE ALSI and Top 40 Indexes) and an even larger share of the SA component of the MSCI Emerging Market Index (MSCI SA) where it carries a weight of over 19%.

MSCI SA excludes all the companies on the JSE with primary listings elsewhere, including therefore the heavyweights, Anglo American, BHP Billiton, Glencore, SABMiller, British American Tobacco and Richemont that have primary listings elsewhere, so adding to the NPN weight. MSCI SA accounts for nearly 8% of the emerging market benchmark, giving NPN a 1.5% share in MSCI EM. Tencent, the Chinese internet firm in which NPN has a 34% shareholding, that accounts aso accounting for almost all of NPN’s market value, is the third largest company included in MSCI EM with a weight of 2.57%. The share of NPN in Tencent will not have been counted twice in the free floats that determine index weights, making the combined weight of NPN and Tencent equivalent to over 4% of the MSCI EM larger than the weight accorded to Samsung. The diagram and table below show these weightings.

 

Clearly the share prices of NPN and Tencent are significant influences on the direction taken by the EM Index, while EM trends (and index trackers) will in turn influence the market value of Tencent and NPN. And so in turn, via the weight of NPN in the JSE, these forces directly influence the direction of the JSE Indexes and through flows of capital will also affect the exchange value of the rand. As we show below, not only has the rising NPN share price increased its weight in the Indexes the trade in NPN shares now accounts (clearly not co-incidentally ) for a large percentage of the value of all shares traded on the JSE. On some days the trade in NPN has accounted for well over twenty per cent of all the shares traded on the JSE (See below).

 

The JSE therefore has become to an important extent a play on NPN. And NPN is in turn (almost) a proxy for Ten Cent that is a play on Chinese mobile applications, including games and payment systems. Ten Cent describes itself as an Internet Service Portal. This NPN-Ten cent connection to the JSE accounts in part for the close links between the JSE and the EM Indexes, when both are measured in a common currency. It will be noticed that the EM Index and the JSE in USD dollars are now below their levels of January 2014 making them distinct underperformers compared to the S&P 500.

A recent force acting on global markets, especially EM markets, has been the extraordinary behaviour of the Shanghai equity market. The volatility in Shanghai listed shares as well as the direction of the Shanghai Composite Index, up then down since late 2014 is indicated below.

We show below that the EM Index and NPN largely ignored the extreme behaviour of the Shanghai Index until this past week when the markets and the rand seemed to have become somewhat “Shanghaied”, following that market sharply up and down. This turbulence on the Shanghai share market has clearly influenced the value of EMs, NPN and Tencent, as well as the rand, in recent days. On Wednesday (8 July), NPN in US dollars and Shanghai both lost about 6% of their value, while recovering as much on the Thursday.

It will take a greater sense of calm in Shanghai to reduce risks and attract funds into EMs and provide support for their currencies, including the rand. But more important still for EM economies and their listed companies over the longer term, will be a recovery in the global economic outlook. Any sustained recovery in the US economy should be welcomed by investors in EM. Any increase in short term interest rates in the US, from abnormally low levels, should therefore also be welcomed and regarded as confirmation of a US economic recovery under way; an economic recovery that is likely to extend to the global economy in due course. Events in Greece and Shanghai will remain distracting side shows to the main event, the state of the US economy.

‘Season of outrageous demands for wage increases upon us’

As published in Business Day 10 July 2015: http://www.bdlive.co.za/opinion/2015/07/10/season-of-outrageous-demands-for-wage-increases-upon-us

THE season of outrageous demands for wage increases is upon us. And, more important, it is the season of wage agreements that appear to take little account of the hundreds of thousands of workers outside the mine and factory gates who would willingly accept employment for existing benefits.

Even more unsettling will be the loss of jobs, as managers replace unskilled workers with machines and more skilled and experienced workers productive enough to justify their higher costs of hire. The losers will be the newly unemployed with little opportunity for alternative employment on anything like the same conditions.

How, then, can one make sense of this seemingly irrational behaviour by the unions? How can they not be aware, it will be asked, as their members will continue to be retrenched in large numbers? Why do the unions do what they do? They are surely as well aware as any that higher real wages can lead to job losses in the sectors of the economy where they exercise the power to strike.

The answer must be that they are well aware of the economic circumstances and the trade-off between wage gains and job losses, which they make for their own good reasons. I would suggest that, in fact, unions are not in the business of maximising employment or employment opportunities. Rather, unions are in the business of maximising the total wages paid to their members. The objective they quite rationally and self-interestedly attempt to achieve is the highest possible wage bill, not the number of wage earners or members of the union. It is the total wage bill agreed to by employers that forms the basis for collecting dues from members. Therefore, (percentage) increases in employment benefits can more than compensate for fewer workers employed. And better paid members may be more willing and able to pay their dues.

It is theoretically and practically possible for the wage bill paid by firms to rise in both nominal and real terms even as employment drops. This is precisely what has happened in the mining and other sectors of SA’s economy. While employment has declined in recent years, total compensation paid to employees of all kinds has continued to increase, and so presumably have the dues paid to their unions (collected conveniently by the employers themselves).

To put these outcomes in terms familiar to the financial sector, the asset base of the unions and staff associations from which they collect their fee income — the wage bill — has continued to rise as the unemployment rate continues to remain damagingly high to the economy, but not necessarily to the unions. There is nothing ignorant or irrational in all this, just predictable self-interest at work. Such an explanation fits the facts of the economy and its labour market well.

The statistics help make the point. SA’s economy may well have become less labour intensive — fewer worker hours employed per unit of gross domestic product (GDP) — but the share of total remuneration in GDP or total value added has changed very little. The wage bill (not numbers employed) has risen more or less in line with output. The share of owners and funders and rentiers in SA output peaked at about 47% of GDP in 2008 (before the global financial crisis) and has been in decline since (now 44%) as the share of employees has been rising. Employment benefits now constitute 46% of GDP. That is despite or maybe because of slow growth that reduces the rewards for savings and the demands for labour — but not necessarily the rewards of the majority who hold on to their jobs.

A similar picture emerges for the mining sector. The share of mining output accrued by employees has been rising in recent years, from 35% of total output (in current prices) to about 42% in 2013. In other words, the unions appear to be successful if their objective is (as I infer) to increase the wage bill paid by the industry rather than the numbers employed at the expense of the other claimants — shareholders and creditors — on the value added by the mining sector

Thus, while mining employment was at 2008 levels in 2013, average employment benefits per worker employed have risen consistently, at an average annual rate of more than 11% in money-of-the-day terms, and equivalent to an average increase of 4.5% in real terms, using the GDP deflator to convert nominal into real growth of employment benefits or rather costs to owners. The average employee in the mining sector came with an average cost to employers of more than R220,000 per employee in 2013. Not bad work if you can keep it.

The data on compensation of employees supplied by Statistics SA goes back only to 2005. It is, however, possible to view mining output and employment over a much longer period. The mining work force declined dramatically in the 1990s, from nearly 800,000 employees to about 400,000 by 2002, whereafter the number rose to more than 500,000 in 2008. Volumes of mining output, having declined in the 1990s as metal prices came under pressure, increased significantly in the mid-naughties, only to fall away again after 2008. The producers of iron ore and coal produced significantly more during the commodity price super-cycle that accompanied the Chinese thirst for raw materials. The big losses of output were suffered by the gold mines, as they ran out of profitable grade to extract.

But a focus on mining volumes rather than mining revenues (volumes times price) misses the driving forces in the industry. SA’s mining industry had the advantage of rising prices, especially after 2000, and became significantly more profitable — enough to hire more labour as well as offer significantly higher rewards to its employees between 2000 and 2008, after the savage job losses incurred in the 1990s.

A better sense of the environment for SA’s mines, for their owners, managers and workers, can be gained if we reduce mining revenues to their real equivalents by deflating current revenues by prices in general, represented by the GDP deflator, rather than by the index of the prices of the metals and minerals themselves, which rose much faster than prices in general to the advantage of the mines. Real mining revenues measured this way show a strong growth pattern until 2008 and explain the employment and wage trends much better than mining volumes that have remained almost constant over many years.

Notwithstanding a better appreciation of SA’s mining environment, it can still be asked about employment of workers in SA that is so desperately needed. A better understanding of the self-interested behaviour of the unions (in the quantum of dues collected) and the shareholders in mines attempting to improve returns on their capital, which have led to fewer better paid and skilled workers, should lead us to expect more of the same in the years to come. This would be a trade-off of better jobs in the industry for fewer employment opportunities and more capital (robots) per unit of output.

What then can be usefully done to encourage employment in SA, especially of unskilled workers, of whom there is an abundance? The first step would be not to look to the established unions or firms as sources of employment gains. The right way to look for employment gains is to find ways to inject competition in the labour market. Competition for customers and workers and competition for work will help convert the pursuit of self-interest to better serve the broad interests of society; that is in more employment.

More competition for the established interests in mining and every other sector of SA (unions and firms) from labour-intensive firms needs to be encouraged in every way possible. This means, in practice, rules and regulations that allow willing hirers and suppliers of labour to more easily agree to terms (they may well be low-wage terms) without artificial barriers. These barriers to more competition in the labour market come particularly in the form of closed shop agreements that apply to all firms and workers, wherever located or regulated. Less regulation and more competition is the solution to the employment problem. Higher employment benefits for the fortunate few with artificially enhanced bargaining powers will not reduce the unemployment rate any more than it has to date.

 

Some good news from the motor manufacturers

The balance of SA foreign trade turned into a very welcome surplus of about R5bn in May 2015. It apparently took the market by surprise, though it should not have, since the National Association of Automobile Manufacturers (Naamsa) had previously reported over 33 000 vehicles exported that month, more than enough to turn the trade flows.

Further good news came from Naamsa yesterday that reported 31 422 vehicles exported in June, another very good month for the motor manufacturing sector, the largest component of manufacturing generally, and the balance of payments. Export volumes of over 30 000 units now compare very well, with a satisfactory 50 251 units sold in the local market. Domestic sales numbered 47 868 units in May and June sales were about 1000 units higher, on a seasonally adjusted basis. However, as we show below, the vehicle cycle is clearly pointing to lower sales to come, with annual sales precited to fall from the current rate of 612 000 units to an annual rate of 523 000 units in June 2016.

This makes sustaining exports even more important for the industry and its dependents. The limits to exports are set by the willingness of the workers and their unions to stay on the job. The ability of the local industry to sustain its role in the global vehicle supply chain will depend on offering security of supply over the long run. The role of the unions in offering predictability of supplies from SA plants is clearly crucial. It is surely possible for the owners and the unions to come to terms on exchanging better paid jobs for reliability of attendance at work. Inevitably though, fewer person hours will be employed per vehicle produced as robots are substituted for more expensive labour, as is the case in manufacturing plants everywhere.

Yet if export volumes can be enhanced it may be possible to hire more rather than fewer workers – at better wages – even if the on average more expensively hired worker is made more productive with the aid of computer-driven equipment. The motor industry and the SA economy – in the form perhaps of a stronger rand – has much to gain from an infusion of self interested economic reality into collective bargaining. The reality is that it may be possible to provide well paid employment for a larger work force in some industries, if the opportunity to increase output for foreign markets can be taken. The highly competitive current rand exchange rate should encourage these negotiations. A better trade balance may well in turn help sustain the exchange value of the rand, which in turn would be very encouraging to domestic consumers. Additional demands from the households are even more essential to lifting SA GDP growth than are exports.