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Overview Report

MACROECONOMIC POLICY AND INCLUSIVE GROWTH SEMINAR

Stellenbosch, 4 December 2019

Summary

Background

After nearly a decade of weak economic growth, rising unemployment and a deteriorating fiscal position, South Africa’s macroeconomic policy options are constrained. Rising debt and SOE funding requirements have narrowed the scope for fiscal stimulus, while weak investor confidence and financial vulnerability limit the potential effectiveness of monetary measures. What are the possible elements, in these circumstances, of a sustainable economic recovery plan?

The BER, in consultation with National Treasury, Business Unity South Africa (BUSA) and the Association of Savings and Investment of SA (ASISA), hosted a one-day seminar on 4 December 2019 to clarify thinking and explore option for macroeconomic policy and inclusive growth. The small discussion group comprised representatives of National Treasury, the South African Reserve Bank, the Department of Trade and Industry, the financial sector, ASISA, BUSA and academia.

Though a diversity of views were articulated on priorities and policy options, participants agreed that economic recovery requires substantially improved coordination between the public and private sectors, and across industrial, financial and service sector stakeholders. Greater impetus is needed, in particular, in urban development and in employment-intensive activities. An improved macroeconomic outlook, in South Africa’s current low-growth trap, has to be underpinned by joint engagement to restore confidence, accelerate investment and broaden economic participation across a broad policy front – fiscal, financial, sectoral, local and institutional.

Currently trapped in a “weak growth, low inflation” trajectory, South Africa’s economy is in its longest cyclical downswing on record, dating back to December 2013. The gap between SA’s growth and the global economy has widened, and per capita GDP is expected to decline again in 2000.

In these circumstances of slow growth and benign inflation there is scope for a more accommodative monetary policy, but broader improvements in confidence and the business environment are needed to boost investment and credit demand. Shared public and private commitments to complementary long-term investment programmes are essential for a sustained and enduring economic recovery.

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Key messages from the seminar

1. South Africa is caught in a “low-growth trap”, in which policy uncertainty undermines business confidence, lack of confidence holds back investment and private sector borrowing, and slow growth leads to revenue shortfalls and a persistent budget deficit.

2. Low growth together with an unexpected decline in GDP inflation has exacerbated the public debt position and increased pressure on the fiscus. Economic stimulus will need to come from encouraging blended finance and self-financing investment programmes.

3. The key to fiscal consolidation lies in improved management of public sector remuneration, while resolving the longer-term balance-sheet challenges of Eskom and other SOEs. There is little scope for fiscal stimulus, the multiplier is low and effectiveness of spending is weak.

4. Stronger municipal infrastructure investment and housing are central to improved living standards and also critical for the outlook for the construction sector. Metros and larger city municipalities typically have low levels of debt and are well-placed to expand capital spending and encourage greater private investment in housing and industry.

5. While higher revenue would assist in reducing the budget deficit, raising taxes would be counterproductive in the present circumstances. Tax measures targeted to support employment and improve the distribution of the tax burden should be considered. Efforts are needed to strengthen municipal cost recovery and non-tax revenue in services such as health and education.

6. Igniting growth requires incentives targeted at mobilizing private finance and urgent steps to address weaknesses in project planning and infrastructure investment. Opportunities for more inclusive growth include employment-intensive sectors such as horticulture and tourism and the improved outlook for some mineral commodities and green energy investments.

7. There are substantial investment opportunities in urban development, infrastructure and housing but project preparation facilities and more streamlined PPP regulations are crucial. Development finance institutions such as the IDC and the DBSA can offer expertise and contribute to blended finance arrangements. Municipalities should be encouraged to contract independently with power producers and other providers to deliver services designed to meet local needs.

8. To revitalise growth, all stakeholders – government, unions, business, and civil society – must have confidence in the shared benefits of a collective development strategy. Trade-offs will need to be confronted, and the “balance of sacrifices” may need to be distributed differently. Strategic commitments have to be made at political rather than administrative levels.

Conclusion

Alongside fiscal consolidation and financial sustainability, South Africa needs stronger economic growth, rising living standards and broader economic participation. The key to progress is enhanced and intensive coordination of economic policy and investment programmes, founded on high-level engagement between social and economic stakeholders. While fiscal and monetary policies can contribute to the economic recovery challenge, broader policy coordination issues also have to be addressed, including industry and trade promotion, urban development, housing and labour market support measures.

Background papers and presentations:

Hugo Pienaar and Craig Lemboe, The weak growth, low inflation economy. BER Seminar Presentation, 4 December 2019.

Association for Saving and Investment SA, Fiscal and monetary policy considerations: Restoring growth in the South African economy. Discussion paper prepared for BER Seminar, 4 December 2019.

Andrew Donaldson, Fiscal and monetary policy considerations: Restoring growth in the South African economy. BER Seminar presentation, 4 December 2019.

Roy Havemann and Edward Kerby, Re-igniting South African economic growth: Lessons from the past three centuries. 3 December 2019.

Roy Havemann, How do we ignite economic growth? BER Seminar presentation, 4 December 2019.

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Overview Report

MACROECONOMIC POLICY AND INCLUSIVE GROWTH SEMINAR

1. Background

Against the background of weak economic growth, rising unemployment and a deteriorating fiscal position, South Africa faces the prospect of further rating downgrades, continued economic decline and intensifying social distress. The need to restore confidence and catalyse economic recovery is self-evident. Yet macroeconomic policy options are constrained, and progress has been slow in the work of the Nedlac task team established in 2019 to consider conflicting views on the way forward.

The Bureau for Economic Research, in consultation with National Treasury, Business Unity South Africa and the Association of Savings and Investment of SA, hosted a one-day seminar on 4 December 2019 to clarify thinking on macroeconomic policy and explore strategies for inclusive growth. The small discussion group included economists and policy advisors from National Treasury, the SARB, DTI, several universities and the business sector.1

The seminar agenda and list of attendees are attached as annexures to this report. Background papers and presentations are available as attachments.

2. A BER perspective on the state of the economy

The seminar began with an overview of the state of the economy presented by BER staff.2

The presentation highlighted broad-based and persistent weakness in economic growth since the 2008/09 recession, low inflation, continued reliance on foreign saving to finance the balance of payments current account deficit and the recent deterioration in the fiscal outlook. Both business and consumer confidence indices remain depressed. The current downward phase in the business cycle is the longest yet on record. The construction sector, in particular, has seen severe declines in activity, mainly as a result of under-spending on capital budgets by municipalities. Firms with greater exposure to municipal and provincial spending (cidb grades 3 – 8) are struggling in a context of cumulative municipal capex underspending of R71 billion between 2014/15 – 2018/19.

The downward trend in price inflation was noted, and there was some discussion of the possible benefit of price- and wage-settlements adjusting to lower inflation expectations. It was also noted that 2019 has seen a turnaround in prospects for the mining sector, as substantial price increases have been seen in platinum-group and some other commodities.

Seminar discussants agreed that the growth outlook remains weak, and that inflation is likely to remain subdued. Expectations have been adjusted downwards for both real GDP growth (Jan: 1.5%, Nov 0.6%) and inflation (headline CPI: Jan: 5.2%, Nov 4.3%). Also, fiscal revenue outcomes are disappointing, with little to no room for tax increases. Just 4.3% revenue growth is expected for the fiscal year, less than half the 9.2% projection in the February budget. This has contributed to a widening gap between revenue and spending, driven in part by rising government personnel spending. It was noted, however, that a moderation or partial freeze of salaries and benefits over the medium term would result in substantial savings and appears to be the key to resolving the fiscal problem. The long-term Eskom financing challenge is a larger and more

1 This overview report outlines key points made during presentations and discussion, without attributing specific views or comments. It provides an informal review of issues and arguments raised during the seminar, not a complete record of proceedings. The insights and proposals shared in this report are intended to stimulate further discussion.

2 Hugo Pienaar and Craig Lemboe, Bureau for Economic Research, “The weak growth, low inflation economy”. Seminar Presentation.

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intractable problem, with implications for the fiscus that should be separated from the usual deficit measure of the fiscal stance.

It was suggested that South Africa may be entering a new growth and development phase that we don’t yet fully understand. Changes in the global economic environment and shifts in the structure and dynamics of the domestic economy may have brought uncertainties that hold back investment, while weakening the cyclical trends that have underpinned economic recovery in the past.

Discussants questioned the impact of the prolonged downturn on businesses’ perceptions of what pricing policy should be – when the economy recovers, will firms price relatively high to improve poor profit margins, or will shareholders settle for lower profit margins, recognising that in an environment where inflation is structurally lower, the return on capital required should be lower? This is important not just for future price-setting behaviour, but also for the desired return on capital underlying investment decisions. Although there may be indications of realignment in firms’ expectations, they are still pessimistic, which is reflected in investment and employment trends.

Though the overall outlook remains depressed, there are potential growth opportunities in some sectors – green energy, business processing and technology, for example, and hopefully in civil engineering and construction once infrastructure investment improves.

3. Restoring growth in the South African economy

A discussion paper3 – Fiscal and monetary policy considerations: Restoring growth in the South African economy – served as the point of departure for the seminar’s discussion of policy issues and options.

The paper argues ‘that an improved growth performance requires a coordinated “boost” to investment and the financing of development, higher savings and fiscal support for labour-absorbing sectors. In political economy terms, the structural shifts required to “ignite growth” imply a new co-operative understanding of public and private sector roles and responsibilities – an understanding that recognises complementarities between and private finance and capacity, between fiscal, industrial, trade, financial and labour market policies and between established and emerging enterprises and between local and regional or global value chains, rather than substitution of one for the other…’

Underlying this analysis is an understanding that South Africa is caught in a “low-equilibrium trap,” characterised by policy uncertainty, low business confidence, depressed demand, rising public debt, private sector deleveraging and institutional inertia. Macroeconomically, this comprises a self-reinforcing “many-person prisoners’ dilemma”: ‘coordinated action is required but no single player can be expected to take the steps required in the absence of collective assurances and a shared strategy.’

The elevated level of government debt to GDP, and the rising gap between revenue and spending, are in part a consequence of slow real economic growth, exacerbated by a negative GDP inflation shock and rising real interest rates. While the fiscal position leaves little room for stimulus to the economy, households and much of the private business sector have remained reluctant to borrow since the 2009 recession, contributing to sluggish aggregate demand.

Post-recession recovery appears to have been delayed by a “balance sheet recession,” characterised by private sector deleveraging and deferred investment, with rising public sector debt carrying a

3 Adapted from earlier background papers on fiscal and monetary policy prepared on behalf of the Association for Savings and Investment SA and Business Unity South Africa for the 2019 NEDLAC discussions on macroeconomic policy. See also Andrew Donaldson, Fiscal and monetary policy considerations: Restoring growth in the South African economy. Seminar presentation.

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disproportionate burden in maintaining aggregate demand.4 Private household debt has declined as a percentage of disposable income, from 85% (2008) to 70% (now). The contractionary impact of deleveraging has been exacerbated by a GDP inflation shock in 2018, first revealed in the downward revision of GDP inflation from 6.2% to 3.9% in the March 2019 full-year nominal GDP estimates for 2018.

In these circumstances, the discussion paper argues, fiscal support for economic recovery has to be directed at sectors and activities in which private investment in industry and infrastructure can be expanded. Urban development and housing, support for employment-intensive industries and promotion of agriculture are identified as important sectors for targeted fiscal and blended finance support.

The discussion paper argues for tax incentives for low-wage employees, adjustments to improve the fairness of the tax structure and measures to improve non-tax revenue collection, including municipal service charges. In the context of slow growth and benign inflation, it argues for more accommodative monetary and financial policies and a more stable and competitive real value of the rand.

The paper emphasises the importance of urban infrastructure investment as a foundation for improved living standards. Municipal infrastructure spending needs to be substantially expanded, financed in part by borrowing. Comparatively low levels of debt and strong financial positions of the larger cities and metros are a key enabling condition for this strategic focus. However, a long-term commitment to meeting urban development needs has to be accompanied by greater collaboration between business, government and other stakeholders at the local and regional level, supported by concerted national efforts to boost investment, trade and competitiveness.

The seminar programme provided for policy considerations to be explored under four heads: igniting growth; fiscal policy; investment, employment and urban development; and monetary and financial policy.

4. Igniting growth

Drawing on a review of South African growth accelerations in historical perspective,5 the first lead-in discussant drew attention to the economy’s long-term decline in sustained growth, interrupted for a few years in the 2000s. Historically, accelerated growth has typically been triggered by external growth or once-off factors – mineral resource discoveries or commodity price trends, for example. The re-entry into the global economy after the end of apartheid and the subsequent financial liberalisation supported faster growth for a time. However, South Africa’s growth accelerations have been slower than in other emerging economies, and have typically relied on strong export growth.

Drawing on the historical record, tentative projections can be made of the possible outlook for growth over the period ahead. Per capita GDP growth in the post-apartheid era has been 1.7% a year. A slowdown in population growth is likely over the period ahead as a result of a declining fertility rate, but account has also to be taken of population ageing, urbanisation and social expenditure pressures.

4 Based on Japan’s economic experience since the early 1990s, ‘balance sheet recession’ refers to the absence of business investment even in circumstances of low inflation and low costs of capital, as a consequence of perceived business risks associated with debt. Growth has been sustained in Japan through steadily rising public debt.

5 Roy Havemann and Edward Kerby, Re-igniting South African economic growth: Lessons from the past three centuries. 3 December, 2019. See also Roy Havemann, How do we ignite economic growth? Seminar presentation.

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A range of inter-related factors might be argued to contribute to South Africa’s “low growth trap”:

Low business investment in a context of future uncertainty

Constrained energy supply

Costs of doing business associated with regulatory and BEE compliance

Global climate change and carbon reduction

Rigidities in wage determination in context of high unemployment (29+%)

Skills constraints and lags in adaptation to new technologies and digital economy opportunities.

The dominant driver of South Africa’s GDP growth is the global economy and global demand. Most periods of rapid growth in the South African economy have occurred on the back of sharp increases in global demand for primary commodities. In the absence of new growth drivers associated with industrial or structural change, growth is likely to remain subdued over the period ahead.

For illustrative purposes -

Baseline long-run growth of between 2 and 2.3%, and

Population growth of 1.6% in 2018 declining to 1% in 2040, would yield

Real GDP per capita of 0.7% between 2020/21 and 2030/31, and 1.2% between 2030/31 and 2040/41.

This means GDP per capita averaging 1% a year and population growth of 1.4% a year, and economic growth of around 2.4% a year. A stronger economic performance – say growth averaging 3.4% a year, would enable South Africa to achieve steady improvements in living standards, broadly equivalent to the progress achieved by the US economy in the 20th century.

Points made in discussion included the following:

If our estimated potential growth rate is a function of labour force growth and productivity, can we say that productivity growth is going to make the difference?

Productivity growth of around 1% is mainly through gradual improvements in the level of education coupled with retiring workforce replaced by a higher functioning labour force.

Our low productivity growth (currently in 10-year decline) is evidence of SA’s poor competitiveness – which helps explain that:

Our exports are still highly concentrated in commodities, and in the auto industry.

We are stuck in apartheid government mentality of relying on domestically generated sources of growth, which is outdated. The analysis illustrates that we need an external stimulus for growth.

Possible reasons why we have not sustained better productivity growth: o Real exchange rates, o Network and telecommunications costs too high, o SA port tariffs far too high and above the global average.

Our approach to innovation is holding us back – we should not only rely on local innovations but also apply innovations developed in other places.

We focus too narrowly on manufacturing as a driver for growth. What about the service industry that can be tradable? In India, dramatic economic growth came from providing global services because of the language and time zone advantages.

We had low levels of fixed investment in the post-apartheid years, by far the largest growth in fixed capital stock is in the services stock, which is largely non-tradable.

We have a highly developed financial system, but very low rates of savings and investment.

Why are there sectors with huge profitability that are not translated into investment? Our problem is that we do not shift our substantial financial assets into fixed investment.

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From a business point of view, we need to look at the positives – well-capitalized savings system – our pension system, the commercial banks are strong, so what can we do together and what we can do well? The opportunities for PPP (public-private partnership) investments are there and just need to be unlocked.

There is huge appetite among the investment community for some portfolio investment, also in the renewable industry. Private sector finance can be mobilised with NT as guardian, and through co-financing of projects.

Terms of trade are improving, mining earnings are higher, consumption is improving, and we know there is a trust deficit, but still, should investment not start coming?

Risk has not changed; inflation is lower; What is the constraint – maybe practicalities such as power supply, planning regulations, local barriers to investment?

5. Fiscal Policy

The background paper indicates the reasons why SA has limited room for fiscal manoeuvre and proposes that a growth stimulus should come from self-financing investment projects & public-private co-financing programmes.

The paper suggests that tax policy options should focus on employment and labour-intensive activities, aimed at expanding the demand for labour. Incentives could include extending the youth employment incentive as a basic income subsidy to low-wage workers, extending the urban development zone tax incentive and supporting export-oriented agriculture and labour-intensive sectors. Fiscal sustainability would also be enhanced by strengthening non-tax revenue, particularly for municipal services and education (HE financing) and health (UPFS and cost recovery from health insurers).

The lead-in discussants emphasised that all departments, apart from Department of Public Enterprises, are experiencing serious budget cuts, and that it will be hard to avoid these expenditure cuts becoming counter-productive, affecting service delivery and reinforcing the economic slowdown. Consideration needs to be given to the consequences of large wage bill reductions – as much as 1% of GDP over next three years, perhaps – for household consumption, growth, and VAT receipts. However, it is clear that such short-term pain is required to bring down interest rates and to generate certainty about fiscal outcome, and longer-term growth. Furthermore, there is no room for new taxes, and wealth taxes will not provide substantial revenue. Research shows that countries that did reduce or stabilize their debt significantly (only 30 out of 170 countries) all had to do significant expenditure reallocations, adjustments, and consolidations.

How is trust to be regained in a situation where there is no common diagnostic understanding of the underlying economic challenge, and there are limited engagements between stakeholders? Interest groups or economic stakeholders tend to protect their vested interests and perpetuate current circumstances – government, unions, big business, industrial sectors – all have their particular interests, for example in high data prices or existing subsidy programmes. The huge spend on SOEs means that indirectly the burden of fiscal consolidation is borne by provinces and municipalities, even in personnel cuts. Furthermore, the quality of expenditure, visible in poor outcomes after huge health and education spending levels – is indicative of delivery model problems. Where are the spaces or opportunities where policy shifts or new initiatives could make a difference? The background paper provides a pragmatic perspective; however, we need to confront trade-offs and there will be pain. The question is: Is the pain of changing less than the pain of remaining as we are?

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Discussion points:

Infrastructure opportunities are huge, it is important to target areas that are growth enhancing and look at partnership with private sector. However, unresolved policy matters, such as the e-toll dispute, contribute to future uncertainty; e.g. the New Development Bank (NDB) wanted to lend to SANRAL for toll roads, but SANRAL’s balance sheet is too weak to sustain the loan.

If we want to accelerate infrastructure investment we need people to pay for the service – paying for roads, electricity, water.

It is time for distributing the balance of sacrifices that needs to be made across society. The narrative of the state and the unions being the problem is incorrect, we need to all make sacrifices, how do we distribute the cost and the sacrifices?

We need an accurate recollection of our recent economic history – 1990s, early 2000: unbundling, sector specific consolidation, growth through acquisition and consolidation, but investment remained very low. We should try to reach commonality, sufficient certainty.

Government and party roles are blurring – we need to calculate the costs and benefits of policy decisions, prescribed assets an example. Assisting government and trade unions to understand the costs and benefits from a political and economic perspective is critical.

On the revenue side tax administration is very important, and government should also look at changing existing tax incentive in favour of sectors or activities that are more labour enhancing/absorbing.

Prioritization of decisions needs focused attention, as an example the higher education investment that is not pro-poor, or the NHI, without proper implementation modalities.

NT squeezes expenditure from the top, but compensation of employees has been raised massively from below. Example, the Gauteng health department budget has grown by 6% on average over the last 15 years but the wage bill grew by 9% – leading to a build-up of massive liabilities in the health sector. How do you get out of this – need realistic agreement with unions on wages.

Improved coordination and a long-term view is needed if the adjustment to lower inflation is to be managed well. In public sector property transactions, for example, it is still common to find long-term (9-year 11-month) rental agreements with a 10% annual escalation.

Public sector decision-making is conventional/predictable; we do the same as we did last year, it is not as disciplined as is private sector decision-making. The private sector decision-making responds much more rationally.

With reference to the IMF paper on fiscal and macro policy communication, there is sometimes an inability of government to respond and share policy decisions.

Before we can agree on fiscal and monetary policy coordination we need to decide if fiscal policy is expansionary or contractionary. Are we really in expansion mode when we are using taxpayer money to help Eskom to service its debt, should we not exclude that portion that we are paying Eskom from the primary debt calculation before we decide if fiscal policy needs to be more restrictive?

What is effectively happening is that Eskom debt obligations are being shifted from future electricity users to taxpayers. There is a moderate long term fiscal stimulatory element to that – it is not the debt part of it that is the measure of the stimulus, it is the interest burden that is being taken on by the taxpayers that gives the implicit stimulus.

There may be an argument to make for supporting growth through fiscal stimulation, but the available research evidence and Treasury’s assessment is that the fiscal multiplier is small, probably below 1. This suggests that the economy-wide benefits of fiscal stimulus are slight.

The rate of growth in the economy, relative to the rate of growth in government spending, has deteriorated over the last two decades in part because of problems in the effectiveness of government expenditure, for example in dysfunctional institutions, corruption and bailing out SOEs.

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Alongside the fiscal deficit, SA also runs a substantial balance of payments current account shortfall – we have one of the largest budget deficits in the world economy plus our domestic demand is way higher that domestic output. How can we run both these massive imbalances simultaneously?

In the beginning of the 1980s fixed investment as % of GDP was at 30%; it went down to 15% in early 1990s and then went up again from 1994 – 1998 to 19% and increased also in the 2000s. We were on the recovery path before other external shocks hit (East Asian crises, global recession, etc). So we do know that private sector fixed investment does improve if the outlook improves in an improved policy environment.

6. Investment, employment and urban development

Employment growth is typically somewhat slower than growth of the economy – historically, employment in SA has grown at about half the pace of economic growth (growth elasticity of employment of about 0.5). Since the 2009 recession, however, employment appears to have broadly kept pace with GDP, though at a slow rate of growth. But the official employment statistics are inconsistent, and in some years diverge considerably from GDP growth trends. Reconciling the data and improving our understanding of employment trends would be helpful.

From a productivity perspective, this might reflect a deterioration in economic performance (little or no growth in labour productivity). But seen from the perspective of the need to reduce unemployment, there is perhaps good news in the prospect of employment creation keeping pace with economic growth. Expanding employment is key to reducing poverty and inequality, and to expanding the productive frontier of the economy relative to its available resources. There are complex structural and sectoral shifts underway here – the growth in services relative to mining and manufacturing perhaps accounts in part for a upward shift in the elasticity of employment. It is also possible that urbanisation contributes positively to employment trends, while underpinning longer term productivity advances.

Higher investment needs higher levels of savings, over time. In SA’s period of strong growth in the 2000s, savings improved as a share of GDP, but slowly, consistent with standard macroeconomic expectations and indicative of the sustainability of investment-led growth. But for the period ahead we need private sector credit extension, rather than increased reliance on public sector borrowing.

Lead-in discussants highlighted the dilemma of corporate investors – in an environment of high uncertainty or volatility, hurdle rates of return are higher. If the macro framework is to assist in increasing investment and employment, it needs to contribute to lower risk and lower policy uncertainty.

We know that SA’s macro framework is designed to reduce the cost of capital - through monetary policy by reducing inflation and uncertainty, and through fiscal policy by reducing the cost of labour via substantial investments in social services. If we look at industrial policy – we have a domestic demand bias, which means that the capital stock has increased in sectors exposed to domestic demand – the financial sector, the trade sector, etc. But these sectors are not growing fast enough to catalyse broader growth, and to some extent reflect the unbundling of value chains rather than an underlying growth dynamic. There is a decline in manufacturing capital formation, so we are not increasing or diversifying the productive capital stock of the economy. Simultaneously, our labour regulations increase the cost of capital. In the end our macro framework may have reduced the cost of capital, but we have not made sufficient progress in competitiveness or reducing the cost of labour and the cost of doing business. Furthermore, we have replaced labour with investment/capital, but very low savings rates and reliance on foreign savings characterize the financing of investment, while portfolio flows are dominated by the government’s financing requirement. In the financial accounts, interbank loans count as foreign direct investment, so this is not a useful indicator of openness to external investment and technology. Perhaps we need to re-think our approach to risk-sharing mechanisms – we have an historic bias to equity investment rather than fixed-income securities, with possible cost-raising implications and curtailment of investment when the outlook deteriorates.

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Discussion points:

Changes on micro side required – in a low growth and high unemployment environment we need to find ways to shift the balance between capital and labour subsidies and incentives.

Not enough attention is given to firms and sectors with growth potential - examples are the horticulture sector (with potential in employment, exports, emerging Black farmers, etc.). However – investment in water supply is a crucial input to make this happen.

We need better coordination in government and between sectoral and investment policies before we can speak about better coordination between monetary and fiscal policy. The Spanish example is useful here - focus on one big thing! We should not try and do too much at once:

o In our case – Eskom is the critical imperative, but there are huge finance problems - selling an income stream from the assets would be a partial solution to the immediate finance problem. The assets can remain government’s but the present value of the income stream can be sold for a specified period. This would also assist in addressing efficiency concerns, but would result in job losses. Perhaps lost labour could be employed in other infrastructure projects prioritised by government.

o Other examples of policy priorities that are broad and cross cutting include the labour market structure. There are trade-offs to be made with labour – perhaps building on recognition of a more differentiated approach to industrial development and employment, for example in the clothing and textiles sector.

Project preparation facilities to support infrastructure investment planning are crucial. We need blended finance approaches – involving IDC, DBSA, and combined public and private finance and expertise to incentivise investment, especially in export-oriented sectors.

o Business is keen to be part of an urban development strategy. At present it is difficult to speak to metros and city municipalities. A safe space is needed for the executives of the metros and cities to engage with business and the private sector, work needs to go into building trust. Business and NT held a “speed dating” day with DFIs and metros, which proved constructive in identifying development ideas but hard work is needed to bring these to practical fruition.

o The PPP framework needs to be revitalised – a clear distinction should be maintained between the transactional advisor to the client (muni) and those who advise on the investment side. This enables the deals and the transactions to be properly structured.

o Corporate savings will happily fund well worked out projects, but trust and willingness to partner with private sector is difficult to build. The regulatory environment that municipalities face presents substantial barriers to private investment promotion.

o The DBSA is well-placed to serve as an intermediary and service provider, particularly in support of municipal project preparation. There may be institutional gaps to overcome and it is important to identify and address potential conflicts of interest within the DBSA as both an advisor and investor.

7. Monetary and financial policy coordination

The background document argues that in the current circumstances of slow growth and benign inflation there is scope for reductions in the repo rate, which would contribute to both private confidence and investment and an easing of government’s borrowing costs. However, it is also important that financial policies should assist in promoting public-private partnerships in infrastructure financing, stronger international trade and investment linkages and access of households and businesses to secure long-term, low-cost capital.

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Households’ debt to disposable income has improved since 2009, but credit extension has not regained momentum and has continued to shift towards unsecured high-cost credit. Lending for property development, as well as municipal infrastructure spending has deteriorated, though both are crucial for social and economic development. The background document reasons that a macroeconomic policy framework cannot just focus on containing public debt and lowering inflation, it has to support structural changes to improve growth: higher investment, more labour-intensive industry, urban investment and housing, industrial diversification and trade competitiveness.

The lead-in discussants emphasised the importance of sustained and consistent long-term policy targets as a foundation of macroeconomic stability. In thinking about long-term targets for a small open economy like SA, there are several central priorities: maintaining financial stability and resilience of financial institutions, for example, that fiscal policy is counter-cyclical over the cycle, and that it is effective in what it tries to do. South Africa’s macroeconomic policies are broadly consistent with these principles. However, it appears that fiscal multipliers are declining. In a deteriorating global environment South Africa ramped up public debt and experienced somewhat higher inflation for a long time. We also had an exchange rate level and volatility that were unhelpful, adding to risks associated with trade and investment. But global price inflation is low, and as a result SA has to some extent imported global deflation which has dampened our price level trends. In addition, the global financial environment has remained supportive. These factors have contributed to lower domestic inflation and continued access to foreign capital, and have created greater monetary policy space.

SA now has a situation of lower growth rates but also lower inflation rates, which suggest more opportunities to use monetary policy to support economic recovery. However, if fiscal policy did not put upward pressure on price levels, we would have been in a better position – with fiscal policy focusing on long run counter cyclical positioning and allowing monetary policy to react more forcefully to the growth problem. However, with the fiscal burden on the economy as high as it is, it is unlikely that macroeconomic stimulation could contribute to improved productivity and growth rate. Monetary policy cannot substitute for the fiscal restructuring and broader policy reforms that are needed to generate investment and sustained economic progress. The policy environment has to include appropriate microeconomic and fiscal measures and adjustments that raise potential growth and productivity to create more space for accompanying monetary policy support.

Discussion points:

Considering monetary and fiscal coordination we need to reflect on (1) the dominance of the global commodity cycle in our own cycle and (2) the dominance of finance and financial services in the South African economy. As an example of the latter, measured by pension funds as a % of GDP, South Africa is one of the 4 biggest in the world, with the US, the UK and Australia. The vast financial stocks in the country and our open capital markets make our business cycle very sensitive to global financial cycles. So you have both a global financial cycle and a global commodity cycle that may well be coordinated.

In this situation the tools that we use to think about monetary and fiscal policy – like the output gap and notional output – are perhaps not useful. We rather have waves of rapid growth followed by waves of stagnation, and the slight oscillation is irrelevant relative to the long waves. If this premise is correct, our institutional framework does not equip us to speak about monetary and fiscal policy coordination.

We do need to begin to discuss whether inflation targeting is useful, and whether the manner in SARB’s mandate is enshrined in the constitution is relevant for SA.

SARB disagrees that there is conflict between fiscal and monetary policymaking. Fiscal policy has not generated the growth that we thought it would. Fiscal policy sets the frame that monetary policy needs to respond to.

On the financial environment and credit markets – before the National Credit Act there was huge credit extension. From a regulatory perspective, it was hard to determine how much of the expansion was from the demand side and how much was driven by the supply side. The cost of funding for banks is now significantly higher which brings into question the impact and significance of the repo rate.

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A strengthening and broadening of lending for housing would assist in building the asset base underlying creditor’s access to finance.

We need to improve access to patient, long term capital of middle-income households, as part of a broader strategy for inclusive access to finance.

However, access to capital and the cost of capital are not the binding constraint, it is rather the demand for capital. The low demand is a function of higher uncertainty, similarly to other developing countries. The demand side is more important, if government can identify long-term projects that can solve growth constraints (such as energy) and ensure that project concepts are fully developed into bankable plans, the required capital and financing resources will be forthcoming.

8. Conclusion

In concluding the seminar, participants reiterated the important of strengthening South Africa’s growth performance, improving living standards and broadening participation and employment opportunities. While fiscal and monetary policies can contribute to the economic recovery challenge, broader policy coordination issues also have to be addressed, including industry and trade promotion, urban development and housing and labour market support measures.

The largest single challenge is Eskom’s financing and its restructuring. The balance-sheets and performance of other state-owned enterprises also have to be addressed. These currently impose huge liabilities on the fiscus which in turn inhibit the scope for growth-oriented macroeconomic policy coordination. Greater urgency is needed in the consultations and engagement needed and the realignment of public and private sector roles and responsibilities to achieve SOE restructuring, and to give greater impetus to urban development, investment and job creation.

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Annexure 1

SEMINAR ON MACROECONOMIC POLICY AND INCLUSIVE GROWTH - AGENDA

Date: 4 December 2019 Time: 9.00 – 16.30 Venue: iThemba 2, 1st Floor, African Centre for HIV/AIDS Management, c/o Banhoek and Joubert Street, Stellenbosch As an outcome of the Presidential Jobs Summit held on 4-5 October 2018, it was agreed that a Macroeconomic Task Team should be convened under the auspices of NEDLAC to engage on macroeconomic policy, inclusive growth and related issues. This task team’s agenda is challenging – growth continues to be slow, unemployment is rising and the fiscal position is under severe stress. Against the background of the outlook for the economy and the public finances tabled in the recent Medium-Term Budget Policy Statement, the BER is hosting a Seminar on Macroeconomic Policy and Inclusive Growth, organized in consultation with National Treasury, Business Unity South Africa (BUSA) and the Association of Savings and Investment of SA (ASISA). Our hope is that an in-depth and frank engagement amongst a small group of leading economists and senior officials will assist in clarifying the challenges and policy options before us. The seminar will include an introductory presentation by the BER on the state of the economy, and a lead-in paper on fiscal and monetary policy considerations based on work undertaken for ASISA and BUSA in preparation for the NEDLAC Macroeconomic Task Team. The programme envisages in-depth discussion on igniting growth, fiscal policy, investment, employment and urban development, and financial and monetary issues. The closing session will seek to draw conclusions and recommendations together.

AGENDA

8h45 – 9h00 Arrival and morning coffee

9h00 – 9h15 Welcome and introductions Objectives of the seminar

Facilitators: Andrew Donaldson Johann Kirsten

9h15 – 9h45 A BER perspective on the state of the economy Hugo Pienaar Craig Lemboe

9h45 – 10h30 Restoring Growth in the South African Economy Andrew Donaldson

10h30 – 11h00 Mid-morning break

11h00 – 12h00 Igniting growth Lead-in discussants: Roy Havemann Sonja Keller

12h00 – 13h00 Fiscal policy Lead-in discussants: Ian Stuart Tania Ajam

13h00 – 14h00 Lunch

14h00 – 15h00 Investment, employment and urban development

Lead-in discussants: Nazmeera Moola Catherine Macleod

15h00 – 16h00 Monetary and financial policy considerations Lead-in discussants: Chris Loewald Brian Kahn

16h00 – 16h30 Concluding reflections on policy coordination Facilitators

16h30 Close and departure

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Annexure 2

Macroeconomic Policy Seminar Participants

Institution Title Name Surname

Absa Mr Peter Worthington

ASISA Mr Stephen Smith

BASA Mr Fuad Cassim

BER Prof Ben Smit

BER Mr Cobus Venter

BER Mr Craig Lemboe

BER Mr George Kershoff

BER Mr Harri Kemp

BER Mr Hugo Pienaar

BER Prof Johann Kirsten

BER Ms Lisette IJssel de Schepper

BUSA Mr Oliver Serrão

Investec Ms Nazmeera Moola

JP Morgan Ms Sonja Keller

National Treasury Ms Catherine McCleod

National Treasury Mr Ian Stuart

National Treasury Ms Nomvuyo Guma

National Treasury Mr Roy Havemann

Parliament Mr Rashad Amra

RMB Mr Ettienne Le Roux

RMB Mr Rudolf Gouws

Rothschild & Co Mr Paul Bondi

Sanlam Mr Arthur Kamp

SARB Mr Brian Kahn

SARB Dr Chris Loewald

Stellenbosch University Dr Tania Ajam

Stellenbosch University Prof Willem Boshoff

The dti Mr Nimrod Zalk

UCT Mr Andrew Donaldson

GTAC, National Treasury Dr Marie Kirsten

Wits University Mr Michael Sachs