National income accounts: Challenges – and some helpful responses

Dragging down expenditure and GDP growth in Q4 2013 was an extraordinary run down in inventories that were estimated to have declined by as much as R22.3bn in constant prices. The improved trade balance added 7.8% to Q4 growth, while the decline in inventories reduced Q4 growth by 5.2%.

The decreased level of inventories, with high import content, would have helped improve the balance of foreign trade. But the reduced demand for goods held on the shelves and in the warehouses may well reflect less confidence by the business sector in the growth outlook. Such a lack of confidence would also reveal itself in an increase in the dividends paid out to shareholders of SA companies, including to the increased proportion of foreign owners on the share registers of SA companies. Dividends paid to foreign shareholders went up sharply in 2013 while dividends received by SA shareholders in offshore companies declined as sharply, adding to the current account deficit.

The current account deficit, seasonally adjusted, nevertheless declined sharply from an annual rate of R215.8bn in Q3 2013 to R178.9bn in Q4, while the trade deficit declined from an annual rate of R114bn in Q3 to R62.6bn in Q4. The estimated actual current account deficit in Q4 was R36bn, down from R61bn in Q3, 2013.

Slow growth may well mean a surplus on trade and a smaller current account deficit and thus less dependence on foreign capital. Such trends should not be regarded as good economic news, although perhaps it is welcome to foreign investors concerned about the dependence of the economy on foreign capital, given that foreign capital has become more risk averse in recent months.

Between 1995 and 2003, when the economy grew slowly, the current account was balanced and the economy accordingly attracted very little foreign capital. The same pattern held more recently after the economy slowed down in 2009. The economy grew much faster between 2003 and 2008 because it could attract foreign capital and the current account deficit could widen. Surely faster growth made possible by foreign capital is to be preferred to slow growth arising out of fear that foreign capital may be withdrawn or become more expensive.

There is a virtuous economic circle for the SA economy. Demonstrate faster growth, promise higher returns to investors, and capital from both domestic and foreign sources will be made readily available to any business enterprise. The faster the rate of growth, the better the case businesses have to add to the productive stock of real capital, plant and equipment, to hire more workers and managers and with company investments in training, to help the work force to become more skilled and efficient and so capable of earning more. Growth leads and capital follows.

The major challenge faced by the SA economy is that the growth rates have slowed down recently, mostly for reasons of our own making. SA has a structural growth problem, not a structural balance of payments problem. Grow faster and the balance of payments will sort itself out.

But the growth issues facing the economy have been exacerbated because foreign capital has become more expensive since May 2013 for reasons largely beyond SA’s influence. This has led to a weaker exchange rate and upward pressure on prices further depressing already slow growth in real consumption spending. These price trends in turn raise the danger that interest rates will be set higher, again further depressing domestic spending and reducing prospective growth rates and the business case for adding to capacity. These expectations of weaker growth discourage capital inflows and may lead to a still weaker rand, which is anything but a virtuous economic circle.

The scope for an economic revival in SA, led by households, is limited, given the recessionary state of the formal labour market and so the income constrained limits to the growth in household credit. It would seem realistic to predict that faster growth in SA over the next few years could only be led by a surge in exports. A stronger global economy and higher prices for the metals and minerals we produce and export is a necessary condition for an export led recovery. Continuous production by the mines and factories is also necessary for greater export revenues and volumes. These were not possible in 2012 and 2013, given the pervasive strikes that reduced output from the mines and factories.

Hopefully the business sector could “come to the party” as the Minister of Finance invited business to do in his recent Budget speech. In this regard the good news suggested by the updated National Income Accounts is that the business sector (represented by the National Income Accounts for non-financial corporations, including the publically owned corporations, Eskom and Transnet) have indeed dressed up their performance. SA corporations increased their capital expenditures in 2013 and proved willing to fund their larger capital budgets by raising additional debt finance on a significant scale, despite deteriorating cash flows, represented in the figure below by Gross Corporate Savings.

But the same statistics indicate one of the structural weaknesses of the SA economy – a low domestic savings rate compared to a higher rate of capital formation. Hence a funding gap that can only be overcome by use of foreign savings. (See the figure below that indicates gross savings and capital formation rates in SA).

The figure also indicates that almost all the savings made in SA are made by the corporate sector in the form of retained cash. The government and household sector contribute little to the savings pool.

That the rate of capital formation is greater than the savings rate is surely a positive indicator for the economy. With economic growth the primary objective of economic policy, a slower pace of capital formation in SA would surely not be recommended. Such advice would be equivalent to advocating a structurally smaller current account deficit, since the difference between capital formation and gross savings is by definition the current account deficit and also the net foreign capital flows. Such advice is often loosely given without proper regard for its implications for economic growth.

Attempts to encourage a higher rate of domestic savings might make good economic sense. Significantly increased savings are however unlikely to be forthcoming from SA households. Achieving a higher gross savings rate would for all practical purposes require a willingness to tax corporate earnings at a lower effective rate so that they could save and invest more.

Lower taxes on corporate income would have to be accompanied by higher taxes on personal incomes and household spending. This is a change in the tax structure that does not appear politically possible, given also a presumed unchanged government propensity to spend. In the absence of any higher propensity to save, the path forward for the SA economy remains as it has been. Grow faster to attract savings from global capital markets and do what it takes to encourage business to grow faster so that they can attract more capital from abroad.