QUARTERLY REVIEW OF THE SOUTH AFRICAN ECONOMY WITH KEY

UNCLAS SECTION 01 OF 06 PRETORIA 000071 DEPT FOR AF/S; AF/EPS; EB/TPP USDOC FOR 4510/ITA/IEP/ANESA/OA/JDIEMOND TREASURY FOR TRINA RAND DEPT PASS USTR FOR PCOLEMAN SIPDIS E.O. 12958: N/A TAGS: ECON EFIN EINV EMIN ENRG ETRD BEXP KTDB SF SUBJECT: QUARTERLY REVIEW OF THE SOUTH AFRICAN ECONOMY WITH KEY ECONOMIC STATISTICS REF: STATE 08 134905 ¶1. (U) Summary: The deterioration in the global economic landscape affected South Africa's third quarter 2008 economic performance. Weaker international demand, falling commodity prices, and the tight domestic economic environment resulted in the lowest quarterly real GDP growth in ten years. Unemployment increased from 23.1 percent in the second quarter to 23.2 percent in the third quarter. The current account deficit increased from 7.3 percent of GDP in the second quarter to 7.9 percent in the third quarter. A combination of direct and other investment inflows financed the current account deficit in the third quarter, while portfolio investment switched to a net outflow. The outflow was prompted by global financial risk and a reduction in commodity prices, which also resulted in a significant depreciation in the rand during September and a subsequent fluctuation around lower levels. Uncertainty and volatility in global financial markets also affected the South African Reserve Bank's reserve accumulation which led to a slight decrease in foreign reserves in the third quarter of 2008. CPIX-inflation peaked at 13.6 percent in August, before decelerating to 12.1 percent in November, while growth in the broadly defined M3 money supply and credit extensions to the private sector also decelerated further in the third quarter. Declining inflation and credit demand together with weakening domestic and international economic conditions allowed the South African Reserve Bank's Monetary Policy Committee (MPC) to reduce interest rates by 50 basis points in December. End Summary. The sources for the following tables are from the South African Reserve Bank (SARB),Statistics SA, and the Customs Department of the South African Revenue Service. Some figures from previous months may have changed as the result of statistical revisions. -------------- ¶I. MONTHLY FIGURES -------------- ¶2. EXCHANGE RATES Rand/US Dollar Exchange Rate (monthly average): 2007 2008 Sep 7.13 Jan 6.99 May 7.62 Sep 8.05 Oct 6.77 Feb 7.64 Jun 7.92 Oct 9.67 Nov 6.70 Mar 7.98 Jul 7.64 Nov 10.12 Dec 6.83 Apr 7.79 Aug 7.66 Dec 9.94 Trade-Weighted Rand (monthly average; 2000 = 100): 2007 2008 Sep 75.82 Jan 74.68 May 66.29 Sep 66.11 Oct 78.65 Feb 67.98 Jun 63.85 Oct 57.32 Nov 77.92 Mar 63.13 Jul 65.69 Nov 56.61 Dec 77.03 Apr 64.31 Aug 67.66 Dec 56.73 Comment: The rand depreciated by 31.5 percent against the dollar and 25.2 percent against the trade-weighted average exchange rate of the rand in 2008. The sharp decline in the exchange rate was caused by global financial turmoil, with investors rechanneling funds to familiar, mature markets, as well as by the drop in international commodity prices, which constitute a large percentage of South Africa's exports. The significant appreciation of the US dollar resulted from increased investment in US assets by risk-averse investors. The movement in the rand was not unique as most commodity-producing, emerging-market countries with large current-account deficits experienced significant declines in their currencies. End Comment. ¶3. INFLATION (year-on-year, not seasonally adjusted) Q3. INFLATION (year-on-year, not seasonally adjusted) 2008 Jul Aug Sep Oct Nov CPI 13.4 13.7 13.1 12.1 11.8 CPIX 13.0 13.6 13.0 12.4 12.1 PPI 18.9 19.1 16.0 14.5 12.6 Comment: Almost all inflation-targeting countries, including South Africa, continue to experience inflation rates in excess of their inflation targets. South Africa's inflation was primarily driven by the rising prices of energy and food. CPIX-inflation (CPI minus mortgage interest) peaked at 13.6 percent in August, more than double the upper limit of the inflation target range of 3 to 6 percent, before decelerating to 12.1 percent in November. Producer price inflation was 19.1 percent in August, the highest rate in 22 years, before decelerating to 12.6 percent in November. The Monetary Policy Committee's (MPC's) most recent central inflation PRETORIA 00000071 002 OF 006 forecast projects that inflation will continue its downward trajectory and return to within the target range in the third quarter of 2009. Inflation is expected to average 6.2 percent and 5.6 percent in 2009 and 2010, respectively. Monthly inflation is expected to drop by as mush as 3 percent in early 2009, when StatsSA implements a new inflation basket that gives less importance to food and fuel costs. The MPC highlighted the exchange rate as the most significant upside risk to the inflation outlook. End Comment. ¶4. MONEY AGGREGATES (percentage change over 12 months) 2008 Jul Aug Sep Oct Nov M1 7.64 2.40 4.57 4.67 2.61 M2 13.86 9.45 10.17 11.61 11.76 M3 18.10 15.42 15.23 15.59 16.26 Comment: After a two-year period of high growth in the broadly defined money supply (M3),some moderation set in towards the end of 2007 and became more pronounced in 2008. The deceleration in M3 growth reflected tighter credit conditions, diminishing wealth effects as asset prices receded, and slower underlying growth in income and expenditure. End Comment. ¶5. DOMESTIC CREDIT EXTENSION TO THE PRIVATE SECTOR (percentage change over 12 months) 2008 Jul Aug Sep Oct Nov 19.43 18.52 16.28 16.36 15.30 Comment: Growth in private sector credit extension continued to moderate amid tougher economic conditions and tighter credit conditions. The progressive tightening in the monetary policy stance, which began in the middle of 2006, has slowly but surely reduced credit demand by households and corporate sectors. Furthermore, consumers' purchasing power was eroded by inflation, household balance sheets were undermined by stagnant house prices and volatile financial markets, and lending standards were raised by the National Credit Act (NCA). Economists believe this downward trend in credit extension will continue in 2009. In a typical credit cycle, credit growth starts rising only 12 to 18 months after the first cut in interest rates. Consequently, the December interest rate cut is not expected to bolster credit growth until the first half of 2010. However, some economists expect that the 2010 World Cup may cause a "feel good" reaction that would accelerate the expected consumer response to lower interest rates. End Comment. ¶6. KEY INTEREST RATES (at end of month) 2007 Aug Sep Oct Nov Dec SARB Repo Rate 12.00 12.00 12.00 12.00 11.50 Prime Overdraft 15.50 15.50 15.50 15.50 15.00 Rate Comment: The South African Reserve Bank's Monetary Policy Committee (MPC) reduced the key policy interest rate, the repo rate, by 50 basis points to 11.5 percent in December, ending a period of unchanged monetary policy during its August and October meetings. The rate cut was made possible by declining domestic inflation and weakening domestic and international demand. Most analysts believe there will be further interest rate cuts in 2009. End Comment. ¶7. MERCHANDISE TRADE ACCOUNT (R millions) -------------- 2008 EXPORTS IMPORTS TRADE BALANCE Jan 39,356.8 49,573.2 -10,216.4 Feb 46,946.3 52,766.1 -5,819.8 QFeb 46,946.3 52,766.1 -5,819.8 Mar 51,150.9 56,181.0 -5,030.1 Apr 56,174.3 66,169.0 -9,994.7 May 56,240.5 57,900.0 -1,659.5 Jun 60,159.9 60,343.8 -183.9 Jul 61,268.2 75,599.6 -14,331.4 Aug 60,390.9 65,514.4 -5,123.5 Sep 61,067.3 68,179.2 -7,111.9 Oct 65,652.6 75,445.3 -9,792.7 Nov 53,877.9 65,944.3 -12,066.4 TOTAL (1) 609,463.0 693,641.2 -84,178.2 JAN - NOV 2007 TOTAL (1) 449,357.9 517,410.7 -68,052.7 (1) Total After Adjustments (year-to-date) PRETORIA 00000071 003 OF 006 Comment: The trade balance improved during the first half of the year as a result of growing merchandise exports, but deteriorated during the second half due to rising imports. Merchandise export growth stagnated in the third quarter due the slowdown in global demand and the substantial decline in international commodity prices. Sluggish growth in export volumes was recorded in the subcategory for motor vehicles and transport equipment, while the volume of exported machinery, electrical equipment and precious metals receded in the third quarter. Merchandise imports increased in the third quarter despite the moderation in domestic economic activity and more stringent international credit conditions. Economists expect the trade balance to narrow in 2009 as weak domestic spending contains import volumes and the global recession keeps import prices under control. Export volumes and prices will also be impacted by the global downturn, but exporters will receive some support from a weaker rand. End Comment. ¶8. FOREIGN RESERVES ($ billions) -------------- 2008 Jul Aug Sep Oct Nov SARB Gross Gold and Foreign Reserves 35.00 34.33 34.42 32.91 33.22 SARB Net Open Forward Position 34.17 33.50 33.64 32.11 32.58 Comment: South Africa's gross foreign reserves decreased slightly in the third quarter of 2008. Valuation changes rather than outflows caused these declines. Uncertainty and volatility in global financial markets inhibited the SARB's natural tendency to accumulate reserves. Economists expect South Africa's reserve position to remain under pressure in 2009, given the weakness of the rand and volatility in financial markets. End Comment. -------------- II. QUARTERLY FIGURES -------------- ¶9. REAL GROSS DOMESTIC PRODUCT (percent change, seasonally adjusted and annualized) -------------- -------------- 2007 2008 Q3 Q4 Q1 Q2 Q3 -------------- -------------- Primary Sector 1.7 1.2 -14.5 19.2 -0.5 Agriculture 7.1 15.5 16.2 19.4 16.1 Mining -0.4 -4.4 -25.8 19.2 -8.0 Secondary Sector 1.6 9.4 1.2 11.8 -2.6 Manufacturing -1.4 9.0 -0.6 14.3 -6.9 Electricity 3.6 -0.8 -5.8 -2.1 3.0 Construction 15.5 17.8 13.9 9.1 15.0 Tertiary Sector 6.1 4.7 3.7 1.6 1.5 Trade & catering 4.4 2.0 4.1 -4.0 -6.9 Transport & Comm. 4.5 3.6 3.4 4.3 4.5 Finance 10.4 8.0 2.6 3.3 3.2 Government 3.7 4.3 4.6 2.5 3.9 -------------- -------------- TOTAL 4.5 5.4 1.6 5.1 0.2 -------------- -------------- Comment: South Africa's real GDP growth slowed noticeably in the third quarter of 2008, recording the lowest quarterly growth rate in ten years. The sluggish growth was visible in all the major goods-producing sectors of the economy. Primary sector: The decline in economic activity in the primary sector in the third quarter was primarily the result of a decline in mining production, in particular, in platinum-group metals, gold, Qmining production, in particular, in platinum-group metals, gold, diamonds, and coal. Lower growth in the third quarter also reflected the statistical effect of the high base established in the second quarter, and was exacerbated by weaker international demand and falling commodity prices. Platinum output was adversely affected by intensive maintenance programs usually conducted in February, safety-related shutdowns and one-day strikes. In contrast, the agricultural sector made a positive contribution to overall growth in the third quarter, benefiting from increased planting of field crops and bolstered by favorable weather conditions. The result was a bumper maize crop. PRETORIA 00000071 004 OF 006 Secondary sector: Growth in the secondary sector turned negative in the third quarter, mainly due to a decline in manufacturing output. The decline in manufacturing was caused by slowing domestic demand, falling commodity prices, and decelerating global economic growth. Notably slower growth was observed in the subsectors for motor vehicles, parts and accessories, textiles, clothing, leather and footwear, and food and beverages. The domestic demand for these products was probably affected by the sluggish growth in real income, higher interest rates, and already high debt levels, which inhibited the take-up of more credit. However, the construction sector remained buoyant in the third quarter, benefiting from the upgrading of existing infrastructure and large projects such as the Gautrain, power stations, roads, sport stadiums and related infrastructure developments for the 2010 FIFA World Cup under construction. Tertiary sector: The slower pace of growth in the tertiary sector reflected a slowdown in the trade sector. This sector slipped into a technical recession following negative growth in the second and third quarters. Tighter credit conditions and inflationary pressures negatively affected consumer spending and consumer confidence levels in the third quarter of 2008. Growth in the financial services sector, the largest sector of the economy, moderated marginally in the third quarter. This was due to a moderation in the real output in the banking sector, which was partly offset by higher trading volumes in equities, bonds and other financial market instruments, as investors repositioned themselves in a volatile market. The increase value added in the general government sector was largely due to increased employment in the sector. End Comment. ¶10. BALANCE ON CURRENT ACCOUNT (R millions) -------------- -------------- 2007 2008 Q4 Q1 Q2 Q3 -------------- -------------- Merchandise Exp. 133,320 138,082 172,201 178,975 Net Gold Exports 11,268 11,516 11,877 10,239 Merchandise Imp. 152,260 161,474 188,411 204,626 Income Payments 33,497 31,608 29,566 34,380 Service payment 30,418 30,579 36,642 36,241 -------------- -------------- Current Account -37,431 -42,773 -40,485 -52,827 -------------- -------------- Current Account Deficit/GDP -7.2 -9.2 -7.3 -7.9 (percentage) Comment: The widening deficit on the current account in the third quarter reflected the impact of the slowdown in global economic activity and a substantial decline in international commodity prices as well as an increase in merchandise imports. The decline in global demand affected both the volume and prices of merchandise exports adversely. Over the same period, the growth in the value of merchandise imports also slowed alongside the moderation in domestic economic activity and more stringent international credit conditions. The trade deficit was further exacerbated by higher income payments accruing to non-resident investors on their investment in domestic securities. End Comment. ¶11. BALANCE ON FINANCIAL ACCOUNT (R millions) -------------- -------------- Q -------------- -------------- 2007 2008 Q4 Q1 Q2 Q3 -------------- -------------- Direct Investment 7,401 35,432 1,310 16,920 Portfolio Investment -6,055 -20,572 22,466 -12,970 Other Investment 35,280 40,525 14,798 20,550 -------------- -------------- Financial Account 36,507 55,385 38,574 24,500 -------------- -------------- Comment: South Africa continued to attract capital inflows to finance the current account deficit in the third quarter of 2008. As in the first quarter of 2008, when portfolio investments turned negative, capital inflows in the third quarter were from direct and other investment capital. The outflow of portfolio capital reflected conditions in the global capital markets where foreign PRETORIA 00000071 005 OF 006 investors limited their exposure to emerging-market assets and transferred funds to familiar home markets. Other investment flows consisted mainly of short-term foreign loans drawn upon by South African banks, as well as non-resident investors' foreign-currency denominated deposits with these banks. End Comment. ¶12. KEY LABOR MARKET VARIABLES (thousand) -------------- 2007 2008 Sep Q1 Q2 Q3 -------------- -------------- Employed 13,234 13,623 13,729 13,655 Unemployed 3,945 4,191 4,114 4,122 Total Labor Force 17,178 17,814 17,844 17,777 Not Econ. Active 13,235 12,794 12,861 13,024 Population 15-64 30,413 30,608 30,705 30,801 -------------- -------------- Unemployment rate 23.0 23.5 23.1 23.2 (percentage) Absorption rate 43.5 44.5 44.7 44.3 (Employed/population ratio) Comment: Unemployment in South Africa increased from 23.1 percent in the second quarter of 2008 to 23.2 percent in the third quarter. The number of employed persons decreased by 74,000 to 13.6 million. The decrease in employment was primarily due to a drop in informal sector employment, which more than offset a gain of 24,000 new jobs in the formal sector and the creation of 89,000 new jobs by private households. The prospect of slower economic growth in 2009 will slow employment growth and result in job losses in some sectors of the economy. End Comment. -------------- III. ANNUAL FIGURES -------------- ¶13. GROSS DOMESTIC PRODUCT (R millions, at market prices) -------------- -------------- 2005 2006 2007 -------------- -------------- Nominal GDP 1,543,976 1,745,217 1,999,086 -------------- -------------- GDP Growth Rate 5.0 5.3 5.1 (constant 2000 prices, y-o-y growth percentage) Comment: Strong growth in 2007 was due to high commodity prices, strong domestic consumer demand, and increased fixed capital investment. Economists expect economic growth to have slowed to between 3 percent and 4 percent in 2008. This slowdown is due to the sustained monetary policy tightening since mid-2006, energy supply constraints, and slower global growth. End Comment. ¶14. FINANCING OF GROSS CAPITAL FORMATION (R millions) -------------- -------------- 2005 2006 2007 -------------- -------------- Savings by Households 1,296 -5,088 -6,827 Corporate Savings 40,265 29,322 14,914 Government Savings -12,217 5,953 27,810 Consumption of fixed 190,705 219,506 256,373 capital -------------- -------------- Gross savings 220,049 249,693 292,270 Foreign Investment 62,179 110,198 146,076 -------------- -------------- Gross Capital Formation 282,228 359,891 438,346 -------------- -------------- Gross Savings/GDP 14.3 14.3 14.6 (percentage) Dependence on Foreign 22.0 30.6 33.3 QDependence on Foreign 22.0 30.6 33.3 Investment PRETORIA 00000071 006 OF 006 Foreign Investment/GDP 4.0 6.3 7.3 (percentage) Gross Capital Formation/GDP 17.1 18.8 21.1 (percentage) Comment: The savings rates for households and corporations continued to decline, while the government increased its savings rate in 2007. The government's higher savings rate was mainly due to an increase in tax revenue which more than offset growth in expenditure. Notwithstanding the minor improvement in the national savings/GDP ratio, South Africa's dependence on foreign capital to finance gross capital formation increased to its highest rate ever in 2007. Investment programs by private business enterprises, public corporations, and the general government boosted growth in gross capital formation. The ratio of gross capital formation to GDP increased to its highest level since 1985 and is approaching the SAG's target of 25 percent. Government savings are expected to decrease, if not end, in 2009, adding to even greater dependence on foreign capital to finance gross capital formation. End Comment ¶15. NATIONAL BUDGET (R billions) -------------- Fiscal Year Ending 31 March: 2005 2006 2007 2008 -------------- -------------- Total Revenue 347.4 411.2 482.7 559.8 Total Expenditure 368.6 416.8 470.2 541.7 Budget Balance -21.2 -5.6 12.5 18.1 -------------- -------------- Budget Balance/GDP -1.5 -0.4 0.7 0.9 Comment: The fiscal surplus in 2008, only the second since 1960, was the result of a large increase in tax revenue (owing to strong economic activity and stepped up revenue enforcement) that was only partly absorbed by additional expenditure. The fiscal surplus is expected to decline, if not disappear in 2009. End Comment. ¶16. GOVERNMENT DEBT (R billions) -------------- Fiscal Year Ending 31 March: 2005 2006 2007 2008 -------------- -------------- Total Debt 501.7 528.5 551.9 571.7 of Which: -- Domestic 431.8 461.2 469.0 475.2 -- Foreign 69.4 66.8 82.6 96.2 -- Other debt 0.5 0.4 0.3 0.2 Debt Service Cost 48.9 50.9 52.2 52.8 -------------- -------------- Government Debt/GDP 36.8 33.2 28.9 25.4 (percentage) Debt Service Cost/GDP 3.4 3.2 2.9 2.6 (percentage) Comment: The decline in government debt as a percentage of GDP can be attributed to the rapid growth of the economy and the creation of a fiscal surplus. Debt service costs have shown a steadily declining trend since peaking at 5.6 percent of GDP in the 1999 fiscal year. The decline in debt service costs has created the necessary "fiscal space" to finance social priorities. As a result, government spending on social priorities has more than doubled since ¶2003. End Comment. -------------- -------------- For additional information please consult the following websites: South African Reserve Bank South African Revenue Service Statistics South Africa QStatistics South Africa National Treasury BOST