Getting South Africa’s defences in place

With the world’s economy, on the back of a looming financial crisis threatening from Europe, in what IMF-boss Christine Lagarde calls a dangerous new phase, anticipation is building for South African minister of finance Pravin Gordhan’s annual Medium-term Budget Policy Statement (MTBPS) in parliament later this month.

There have already been indications that the country’s financial policy-makers and top official financial managers, led by Gordhan and Reserve Bank governor Gill Marcus have been hard at work to ensure that South Africa gets the appropriate defensive strategies and mechanisms in place to deal with any possible eventualities in an extremely volatile and unpredictable global financial environment.

One of the first indications that the Treasury and the Reserve Bank are not taking the financial storm brewing in Europe lightly came some four weeks ago when it emerged that the Treasury is proposing that an emergency team should be set up between the minister and governor. The team will be tasked to take appropriate and possibly snap decisions if there is a sudden global financial crisis with potential negative impact on the local currency, financial industry and/or economy.

Treasury deputy director-general, responsible among other things for international financial relations, Ismail Momoniat told members of parliament’s portfolio committee on finance that rapid action to protect financial markets often had to be taken at weekends after the world bourses closed on a Friday and before the Asian bourses opened on Monday mornings.

Unexpected challenges to the financial system required quick decision-making, he said. His point was subsequently well validated during the first weekend of October by developments surrounding the financial woes of Greece.

During the final week of September international markets were buoyed by hopes that European leaders were finally moving to meet the continent’s financial crisis head-on with decisive actions as Germany’s parliament approved that country’s share of an expanded European Financial Stability Facility (EFSF) at the European Central Bank (ECB). That was on Thursday.

On Sunday 2 October Greece announced that its 2011 budget deficit will be 8.5% of gross domestic product, well above the 7.6% target set last year as part of its plan to back fiscal health. On Monday figures came available indicating the country’s economy will contract 2.5% in 2012 instead of the hoped-for 0.6% growth.

Talk of an inevitable Greek default with its dire implications for European banks picked up momentum. By Tuesday last week Germany’s Deutsche Bank issued a profit warning and the Franco-Belgian bank Dexia’s shares plunged on reports of unbundling.

The French and Belgian governments found it necessary to step in and guarantee the finances of Dexia, saying they would take all measures necessary to protect account holders and creditors. How precarious the position of some European banks has become is illustrated by the fact that at one point last week Dexia’s equity was valued at les than €2.5 billion while it is holding €3.8 billion in Greek sovereign bonds and has a total credit risk exposure to that country of €4.8 billion.

Austan Goolsbee, until recently chairman of US president Barack Obama’s Council of Economic Advisors told Germany’s Der Spiegel that “if Europe does not deal with the problem of undercapitalised banks, it could easily blow up and turn into another world-wide conflagration.”

South Africa was recently ranked second in the world in terms of financial health by the World Economic Forum’s report on the global competitiveness index, courtesy of healthy capital levels and stability of the funding bases.

Returning from meetings of the International Monetary Fund and the World Bank in Washington at the end of September, minister Gordhan told journalists at a briefing that South Africa will have to live with global uncertainties and a volatile rand for some time.

“There are many factors that are acting against us. One is an unstable US and political and economic uncertainty in the developed part of the world.

“Emerging markets always have to carry the burden. The rand is also a proxy for trading in other currencies. When our exports to Europe face uncertainty, the rand reacts. We are watching carefully and scratching our heads about what to do next.”

American economist Nouriel Roubini, who acquired fame by predicting the US housing meltdown that precipitated the 2008 recession, also recently at an event in Johannesburg warned that “… these shocks are going to keep on occurring. Thinking the problems of the euro zone are going to go away is delusional.”

In a think piece Dr. Prieur du Plessis of Plexus Asset Management last week wrote that emerging markets, like South Africa, have been on the receiving end of risk aversion, resulting in a flight of capital out of emerging economies to significantly lower-risk assets such as hard currencies and mature-market bonds.

“If global capital becomes more concerned about the global economy or another black swan emerges from somewhere, anxiety levels could approach those during the peak of the great liquidity crisis of 2008/2009. In that case I will not be surprised to see the rand trading above 10 against the US dollar,” he wrote.

During his briefing at the end of September minister Gordhan indicated that he was concerned about the threat posed by a too rapid move towards fiscal consolidation in an environment where the anticipated handover from public to private investment aimed at economic recovery was not taking place because of a lack o confidence.

He indicated that the subject will be addressed in the MTBPS on 25^t October and that the policy transition to monetary loosening and fiscal tightening as envisaged in the February budget will be deferred for growth-stimulating investment, to avoid the trap of austerity measures dampening an already slow-growing economy.

Detail can be expected in the MTBPS how government intend meeting what Gordhan described as the challenge “facing all of us around the world … that the normal recovery is not happening … and given the abnormality …and the tumultuousness within the recovery, the question is how do you then manage fiscal credibility … and how do you ensure that your economy grows so that you can also generate revenue. That is the mix that some countries aren’t getting right. I am not sure how we are going to manage those dynamics … but that is part of the challenge we face.”

Last week minister Gordhan gave a further indication to what extent the international developments have complicated the government’s budgetary ambitions, saying at a business dinner the 4% growth target over the next three years is too ambitious in the current global turmoil, and the 7% growth the country  needs to create jobs might not be possible at the moment.

More details about the proposed emergency team that may among others have to take quick decisions such as transferring funds from the Reserve Bank to troubled private banks might also emerge during the MTBPS.

Looking at recent history Treasury’s Momoniat told MPs that after Lehman Brothers fell in October 2008, the recession in the US and Europe spread rapidly to South Africa and even though local banks were regarded as safe, the economy shed almost one million jobs “even though we did not have a financial crisis”.

It is clear that everything possible is being done to be prepared to handle all eventualities in what could still turn out to be two or more years of turbulence on the global financial front fraught with as yet unpredictables.

“Government is very intent on working with the corporate sector in South Africa … but it needs to become a more urgent conversation in order to ensure that we can buffer ourselves against the worst of this crisis, but also seize the opportunities that are available to us,” Gordhan said on his return from Washington.