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South Africa’s economy rebounded in the second quarter with 3 percent growth but there are still tough questions that need answering for it to swim to calmer waters. Following negative growth in the first quarter, a technical recession was avoided, but there is still concern such a fate could be met by year end. Triggers lie in wait as rating agencies sit with fingers on the button to downgrade the sovereign credit rating to junk, which could cause an unwanted domino effect. Rob Jeffrry puts on his economic hat, looking at solutions to the low-growth environment. Jeffery says reindustrialisation, electricity and employment growth are key but for this to occur, government, business, trade unions and the people of South Africa must recognise their obligations and work towards a common goal. The detailed report was first published in the SA German Chamber of Commerce 2016 annual report. – Stuart Lowman
By Rob Jeffrey*
South Africa is blessed with a treasure trove of natural resources. Some say the country holds some of the richest reserves of minerals in the world. It also has a population with the abilities and cultural diversity to develop them. It is indeed a country with huge possibilities and opportunities and, in addition, it offers a gateway and hub to a continent with vast market and economic growth potential. Yet South Africa is at a crossroads in its economic, social and political development. Hard choices need to be made, which will determine whether the country is to grow and help its people prosper or whether it is to sink into a long period of slow growth, stagnation, declining standards of living and steadily rising unemployment. Much will depend on the vision and courage of its political and business leaders in fostering a spirit of cooperation and support from all citizens and groups.
The Slowdown in Economic Growth
The signs are not good. Indeed, at the moment, they are ominous. In recent years, there has been a dramatic slowdown in the key goods-producing sectors, primarily agriculture and agricultural processing, mining and manufacturing. The global recession of 2008/9 left many sectors of the economy with sharply reduced domestic and export demand levels. Since the early years of the most recent decade, uncertainty regarding government policy relating to the mining sector (and its supporting industries) has discouraged fixed capital formation. South Africa remains an important producer of a number of key minerals including, amongst others, iron ore, chrome, platinum and manganese. However, if the supporting legislation were more enabling and the infrastructure, including logistics and electricity, were in place, South Africa could develop its mineral resources and manufacturing sectors to a far greater extent.
Since 1986, the secondary sector has fallen from 30% to approximately 21% of GDP, whilst the mining sector has fallen from representing approximately 13% to 7%. In the meantime, the tertiary sector has grown from 51% to 69% of GDP. Some of these trends are a normal development in economies with a rapidly growing standard of living, but for a country at this stage of its economic development, these shifts are excessive. The last seven years since 2008 have seen the situation worsen, with GDP growth falling to below 2%. Growth in mining and manufacturing has been negligible, whilst agricultural growth has averaged only 1% per annum. Financial services and personal service growth have averaged 2.4% and 2.8% per annum respectively and government services 3.3% per annum. Since 1995, the population has grown from 45 million to 55 million, but unemployment has grown from 3.7 million to 7.7 million. Since 2008, only half a million jobs have been created, almost all of which have been in the services sector and the larger portion in government.
#Gordhan says the latest GDP figure indicates a 'strong rebound',saying a recession in South Africa this year is 'unlikely'.
— EWN Reporter (@ewnreporter) September 7, 2016
Some argue that South Africa needs to move away from mining and manufacturing. The direction they favour is an economy based on the service sectors. They take the current trends as signs that South Africa is moving in this direction. More than that, many believe the recent decreasing trends in electricity demand and electricity intensity are signs that South Africa is moving in this direction naturally. This is incorrect. It is actually a strong sign of failed economic, industrial and energy policies. South Africa is still in an industrialising phase of its economic development. Like many other emerging economies, less than 25% of the population account for more than 75% of all energy, goods and resources usage, while unemployment remains high. Unemployment is currently running at over 25%, whilst amongst the young 16 to 24 year olds, it is close to 50%. After assessing the age distribution of the population, it is estimated that between 2015 and 2030, approximately 16 million new entrants will enter the labour market.
Objectives and Policy
The objectives of government are clearly to reduce unemployment, poverty and inequality. This cannot be done without transforming the economy by focussing on raising the economic growth rate and thereby increasing employment and raising the standard of living of all South Africans – particularly that of the poor – and give the poorer 75% of the population a far bigger opportunity to obtain a greater share of the resources and goods. The mining and manufacturing industries are important contributors to the economy, representing 7% and 12% of South Africa’s GDP respectively. Their impact on the total economy, however, is far greater through their linkages with other important sectors of the economy. More importantly, these two sectors account for over 70% of the country’s exports by value. The skewed growth toward the government and services sectors and inadequate growth of the goods producing-sectors have resulted in a structural current account deficit with insufficient exports and higher imports. Services generally employ workers that are more skilled. This together with inadequate education and vocational skills training facilities has led to a shortage of skilled labour and high unemployment amongst less skilled workers. Universities and vocational training facilities are training students for jobs that the market doesn’t need. The development of higher education training cannot be done in isolation. It needs business and government to take greater responsibility for collaborating in developing skills that businesses need. The high growth in services at the expense of mining and manufacturing growth, far from being an indicator of a successful change to a services based economy, is an indication of the country’s inability to grow its goods-producing sectors.
New figures released today show that mining and manufacturing sectors helped South Africa avoid a recession.
— Egghead Odewale (@eggheader) September 6, 2016
There are many policy issues causing bottlenecks, which have resulted in an inflexible labour market, uncertainty regarding ownership and infrastructure weaknesses, particularly with regard to electricity. A strong perception has developed that government is not fostering or encouraging business and that business is considered to be part of the problem, not the solution. The recent interventions by government in financial institutions and the leadership issues associated with this have only added fuel to the fire. As a result, there has been a loss of domestic and overseas investor confidence in South Africa. All these matters need to be urgently addressed.
Lessons from the Past and the need for a new Visionary
The South African economy was transformed from its farming roots by the finding of diamonds near Kimberley in 1867 and later gold on the Witwatersrand in 1884. Other mineral discoveries were made and the rich mineral resources of South Africa became the engine room for the development of the South African economy. However, the economic base only increased dramatically once support industries started to develop.
It is these advances, which resulted in the real development and transformation of South Africa from a resource-rich commodity-exporting country into the modern, developing, mixed economy that it is today. What were the catalysts that separated South Africa from so many other economies that have failed to fully utilise their own natural resources?
The first reason, as always, is that there was someone, who had the vision and ability to see the potential of what could be done. The second reason was that the leadership of the country recognised this opportunity and gave effect to the development of this vision.
In case you missed it: South Africa is Africa’s largest economy (again). But what does it mean? An analysis: https://t.co/KeaFSIdiF9
— Conversation Africa (@TC_Africa) September 8, 2016
The landscape from those dark days in the country’s history has changed. Now the economy has to provide opportunities, not only for a minority of the population, but for all South Africans willing and capable to participate. While the ideologies underlying the vision of former governments and leadership to develop the economy were inherently flawed, examples of the economic contribution of companies such as Sasol and Eskom started decades ago have merit. The challenge of the modern government and leadership is to provide the country with the vision and direction that incorporates all South Africans.
In the 1920s, the man with the vision and the ability to execute these tasks was unquestionably Dr Hendrik Van der Bijl. There were other pioneers, but it was his vision and guidance that laid the foundations for the development of South African industry and modern South Africa.
Part of the vision was: “It is not the Government’s function to do everything for its people, but it is its duty to create conditions that will encourage enterprise, not the type of enterprise that results in the unfair enrichment of some at the expense of others, but enterprise that results in equitable distribution of all the benefits.”
At that time, he made an assessment and concluded that cheap secure electric power, cheap steel and financial and technical assistance to the developing industries were the prerequisites to further development. The capital would be provided by the State and the companies would be run on commercial lines. This led to him founding Eskom in 1923, followed by Iscor, the Industrial Development Corporation, and Amcor for the beneficiation of South Africa’s base minerals, and Van der Bijl Engineering for the establishment of a heavy engineering industry. The key components of the strategy depended on the cheap energy source that the rich resources of local coal allowed. One of the key decisions was that the country’s industrial development be based on secure low-cost electricity.
By 1975, South Africa was faced with potentially increased isolation and rising levels of sanctions. There was a considerable need to become more self-sufficient in its energy requirements. Whilst independent in terms of its electricity-generating requirements, South Africa remained heavily dependent on imported oil and chemicals.
South Africa must restructure its electricity sector to spur innovation + investment before another crisis hits https://t.co/PAhLfCEd6Y
— Conversation Africa (@TC_Africa) August 26, 2016
Sasol was established in 1952 and significantly reduced South Africa’s dependence on imported hydrocarbons. Today, the Secunda operations of Sasol are one of the world’s largest petrochemical operations and manufacture more than seven million tons of fuels and chemical feedstock a year in their primary production phases. Besides producing liquid and gaseous fuels, the group produces more than 200 chemical products supplying customers in over 90 countries. It supplies the majority of the country’s chemical building blocks. While Sasol arguably stands out among the success stories of companies created out of necessity, the need to drive growth through the creation of new businesses should become the vision for a modern and transforming South Africa.
The Developmental Strategy
The strategy was effectively a developmental state policy, philosophy and strategy, albeit a deeply flawed government policy model, as it was effectively based on cheap labour and the equity was mainly held by a privileged segment of the population. Nevertheless, its impact propelled South Africa and the majority of its people from an agricultural and resource commodity-based trading economy to become a modern mixed economy with a solid economic base for future development and growth.
Throughout its post-1860’s existence, the mining industry has been an important raison-d’être for the development of both the mining financial and other financial markets within the South African economy. Mining contributed to the development of secondary and tertiary education in the country as its technological requirements expanded. The sector has played an important developmental role in both social and socio-political developments in the country and the SADC region over the past 150 years. For many decades, it provided the basic demand for industrial outputs of technology, which soon spread to the transport and communication sectors of the economy, and eventually to the manufacturing, electricity supply and construction sectors. Although the other sectors of the South African economy may appear to be independent of mining activity today, the initiation of many value-added chains can be traced back to a combination of the historic demands and wealth of the mining sector and its current output and export contribution to the economy. All this has been based on the security of supply of electricity, for which the energy source has been coal.
It is not suggested that in the future South Africa is going to depend on the same industries as set out above to the same extent. Mining will take some time to recover from the recent global reduction in demand and low prices. There are new industries that require development for the modern economy. However, the aforementioned industries remain the essential building blocks of almost any successful sustainable economic development for many years to come.
The decline in the rate of economic growth, the balance of payment deficits and the low increase in the rate of employment, particularly for less skilled workers and youth, are structural problems caused partially by the relative decline of the country’s goods-producing industries – effectively the deindustrialisation of South Africa – and partially by well-meaning policies which have had unintended detrimental consequences. The ratings agencies themselves have clearly stated that the sovereign rating of South Africa will be lowered unless the economic growth rate is raised, the balance of payments improves and employment increases. One way for this to occur is if the country were to reindustrialise. This can only happen, if the rate of growth of the electricity-intensive goods-producing industries, namely mining, manufacturing, agriculture and agricultural processing, are substantially increased. If this does occur, then the electricity intensity in the country may well increase or at least stay constant. For this to occur, the correct economic policies must follow. Energy and electricity will never again be cheap, but for higher economic growth, there has to be security of supply of electricity at competitive prices. Unfortunately, economic growth models based on relatively low electricity growth forecasts become self-fulfilling prophecies. This will result in the objectives listed above becoming unachievable.
South Africa desperately needs five important components for its future economic success.
- Firstly, the country needs its leadership positions filled by people with impeccable credentials, capable of giving clear leadership and guidance to a country of talented people.
- Secondly, it needs people of vision. The country requires a more equitable developmental model based on its strengths. It is imperative that South Africa urgently reindustrialise. Many of the same industries remain important but different, new industries are required for the modern world.
- Thirdly, there is need to withdraw restrictive legislation and introduce legislation that fosters an environment, which promotes both foreign and domestic investment.
- Fourthly, it needs a government steadfast and firm enough to instil confidence that the future course will be strictly followed.
- Finally, it urgently needs to ensure security of supply of sufficient base load electricity at competitive prices, which are necessary for an industrialising economy.
In summary, the leadership and government must recognise there are many conflicts in a diverse emerging economy and that compromises are necessary. For success in the reindustrialisation process and to restore domestic and foreign investor business confidence in South Africa, leadership should:
- Unequivocally lead the country away from interventionism and hold the leadership accountable to effect this.
- Remove all barriers to market entry and foster a spirit of unity and co-operation, like Kennedy did when he said, “Ask not what your country can do for you: ask what you can do for your country.” The government by its laws and actions must lead the reunification of South Africa.
- Adapt, or withdraw, a host of well-meaning policies that could restrict fair and equitable labour market practices, leading to low productivity and loss of efficiency. These policies often have unintended consequences that benefit the few but often in practice make matters worse, not better, for the poor. They can also be abused and lead to increases in graft and corruption. These range from current labour legislation to the proposed legislation on minimum wages. All these have the potential to significantly reduce investment, slow economic growth and increase unemployment.
- Ensure that decisions are made on a competitive basis and are based on efficiency and cost. The economy remains largely untransformed and this needs to be urgently addressed by adopting policies, which focus on creating economic growth rather than focussing on policies which often restrict participation, becoming excessive and are often abused.
- While the premise, on which preferential supplier agreements are enacted, should be lauded, they often have significant unintended consequences. For example, purchasing policies, where high cost electricity producers whatever their merits are selected in preference to lower cost producers, can cause unnecessarily high electricity prices that reduce the rate of economic growth and job creation, thereby creating unemployment.
- Base its legislation on the fact that the country needs to improve its productivity. More than that, it needs to improve its efficiency and effectiveness. The laws governing procurement and the restrictions on market entry have a profound negative impact on all these matters. Many laws are in place that protect employed labour at the expense of the unemployed.
- Adapt its land reforms to cater for the requirement that agricultural production needs to be secure and agricultural supplies offered at competitive prices. The country has lost almost half its farming population. Farming is a commercial enterprise today. Agriculture is one of the foundations of the country’s economy. South Africa needs to ensure a healthy agricultural industry to ensure food security, profitable yields, and the well-being of farmers and farm workers.
- Privatise many state companies and assets. This should involve an arm’s length market related transaction involving the sale of shares and genuine control into private competent ownership whether this involves foreign or domestic investment or both.
- Finally and most importantly, ensure that a large segment of education moves its focus from an academic orientation to a vocational skills-based approach to cater for the needs of an industrialising economy and the skills of the broad majority of its youth.
Only by making significant progress in each of the above areas, can the economy move towards higher economic growth based on reindustrialising its economy. In short, it is necessary that government and leadership should “stop cutting the cake and instead put the ingredients in place to start baking it.”
South Africa should take as examples the success of those countries that have adopted market orientated policies and fostered their goods producing sectors. Vietnam stands out. In 1992 the Prime Minister Võ Văn Kiệt, an economic reformer introduced more market orientated policies. He died in 2008, but the country has since flourished. During the period 2000 and 2015, it grew at over 6% per annum. Its growth has not been due to its farming output alone; high growth has also been recorded in manufacturing, information technology and high-tech industries.
Future Energy Sources
Industrialised countries and their leaders need to recognise that the needs and requirements for emerging and developing economies are very different from their own. They should not force their own standards onto these economies. Emerging markets need secure base load electricity power at the lowest possible cost. This means they need to fully utilise the natural resources that give them a comparative economic advantage, whether that natural resource be oil, hydroelectricity, or a fossil fuel such as coal or gas. Germany has chosen a path that is based on wind and solar. However, solar and wind are highly variable sources of power. In these instances, Germany is able to access a grid, from which it can draw nuclear power from France, coal-based power from Poland or hydroelectricity from Scandinavia or Switzerland. South Africa has no such luxury. It must generate its own power with very little being imported from elsewhere. Wind and solar only provide power approximately 33% of the time at best. South Africa must provide its own generation for approximately 67% of the time, when the renewables are either not working or not generating electricity because of their variability. The developed world needs to recognise that, at this stage of technological development, fossil fuels in the form of gas and coal will continue to play a substantial role in providing the country’s major energy source. They, together with nuclear, are the only sources of energy that can provide security of supply of base load electricity at internationally competitive prices. Energy, electricity and employment growth are the keys to South Africa’s future economic, social and political prosperity, sustainability and stability.
India is a case in point, their electricity power demands are expected to increase at more than 4% per annum during the period up to 2030. The coal-fired share of electricity production will fall from 75% to approximately 55%. However, it is anticipated that more than 120GW of additional coal-fired capacity will be brought on line. This represents an increase of approximately 3.6% per annum. The reason is that the Indian Government considers coal-fired electricity to be the cheapest and most secure source of base load power. In a speech earlier this year President Obama acknowledged that India and China would be building coal-fired power stations, but they should use clean coal technology. Other countries following this path include Bangladesh, Indonesia, Vietnam and Poland. This is something South Africa needs to do, and replacing older coal-fired powers stations with new clean coal technology is an important way forward.
Over the next century, the world’s sources of energy will move inexorably towards sustainable sources of energy, which are environmentally clean and have a smaller carbon footprint. Cleaner coal, gas and petrochemicals will remain dominant for many years in countries such as South Africa, India and China. Nuclear power is also available as a source of energy but it is so expensive in capital cost that only relatively small increases can realistically be envisaged.
The impacts of higher electricity prices on goods-producing industries, especially the mining and manufacturing sectors, are of particular concern. Other than PV solar for domestic use, large-scale, unreliable and expensive wind and solar are not suitable for base load power in the South African context.
South Africa’s economy and employment growth is dependent on the good performance and growth of the goods producing sectors. Their global competitiveness must be maintained as a major priority in order to promote exports and limit imports.
The reindustrialisation of South Africa is critical for growing the economy and increasing employment in South Africa. The goods-producing industries, namely mining, manufacturing, agriculture and agricultural processing, are crucial job drivers in the country’s economy. These industries have significant upstream and downstream linkages to other sectors in the primary, secondary and tertiary sectors. The socio-economic contribution of these sectors is vital in contributing to the social upliftment of communities. Together these industries with their upstream and downstream linkages make a significant contribution to the South African economy as a whole, in terms of GDP, employment, compensation, government revenue, exports and capital investment.
South Africa has had many national plans including AsgiSA, GEAR and the New Growth Path to guide the industrialisation of South Africa. All of these – to a greater or lesser extent – have not achieved their objectives. Today it has the National Development Plan (NDP). It must not be allowed to fail. It is time to put words into action. This document sets guidelines for this transition to happen. An example of what needs to occur has been given by the success and thrust of government working with the automotive industry where BMW, Mercedes-Benz and Volkswagen have made such a tremendous contribution to the industry, South Africa and all its peoples. There are many other industries, in which business leaders are ready to cooperate and lead the way. South Africa is not short of talented political, economic, religious, social and business leaders of all backgrounds to guide South Africa out of its current difficulties. With this talent and the assistance of the industrialised giants of the world, such as Germany, South Africa could indeed have a bright future.
Reindustrialisation, electricity and employment growth are the keys to South Africa’s future economic, social and political prosperity, sustainability, stability and individual economic freedom. For this to occur, it is essential that government, business, trade unions and the people of South Africa recognise their obligations and work towards the common goal of making this process a success.
- Rob Jeffrey, Managing Director and senior economist of Econometrix.