The economy is weird.
We don’t say that lightly: economists and commentators from the New York Times to the Washington Post have used the same word – weird – to describe an environment where inflation is high (double digits, even in some developed economies), interest rates are high, and a global recession appears inevitable.
At Dolphin Bay, we are confused by these unprecedented trends. Perhaps you, our readers, are too!
We approached the highly respected Dr Azar Jammine, Director and Chief Economist at Econometrix, to unravel the complexities, with a few key questions. Why is inflation still rising, despite the soaring interest rates?
Will the collapses of the Silicon Valley and Credit Suisse banks precipitate a world recession anytime soon? And if so, how might this play out for South Africa?
Are there any other risks or protections within the South African economy, compared to those of the most developed countries?
Bank collapses – no cause for panic
Fears of a global recession deepened last month with the twin collapses of Silicon Valley Bank and Credit Suisse. While some observers feared they were witnessing the dying flutter of the canary in the banking system’s proverbial coalmine, Dr Jammine is more sanguine.
And these collapses are not a significant threat to South Africa. “South African banks are very sound, and things are different here.”
Silicon Valley was an example of a medium-sized bank that had to pay borrowers far higher short-term interest rates than what they were receiving as income from long-term loans. This resulted in huge losses. However, this difficulty did not affect very large banks, which have experienced “stellar” profits recently.
Credit Suisse simply made very poor decisions and was in trouble for many years.
“There is fear about a banking crisis should the world go into recession as a result of the speed of interest rate rises, but there is no panic.”
Cause of the crisis
In his view, the root cause of the crisis is the unprecedented quantum of fiscal and monetary stimulation injected into the world economy after the Covid-19 crisis.
“The world’s major central banks increased the global money supply by more than $10 trillion over 18 months,” Dr Jammine said, “and on top of that, governments spent more than $10 trillion extra to try and prevent the world’s economy from going into a severe downturn. There is a price to pay for that.
“As lockdown restrictions lifted, you had all sorts of shortages emanating from supply chain disruptions. You also had the war in Ukraine, which resulted in shortages of fuel and food production.
“Inflation just took off because there had been too much money in the system to prevent it. Central banks are now finding it difficult to tame inflation, which is why there is a risk of recession.”
Swift action of SA’s Reserve Bank
In South Africa’s case, the motives for higher inflation were different. “We also suffered from a rise in global fuel and food prices, but we did not print masses of money as other economies did,” Dr Jammine explained. “Our central bank went to 7%, while some other countries went to 10%, 12% or more. We were very fortunate in that the Reserve Bank was pre-emptive in raising interest rates a lot sooner than many other central banks did. That quelled rising inflation by more than in other countries.
“One remains hopeful that ironically because the South African economy is so weak, we will eventually see a reasonable decline in inflation over the next 18 months or so, and it will get back to the four and a half percent target of the Reserve Bank.”
South Africa is now struggling to bring inflation down, partly because of the weakened rand, which has caused the costs of imports to rocket. To this point, Azar believes that the biggest threat to the South African economy – greater than the risk of bank failures or recession – is the damage being done by power cuts.
Constraints on a renewables boom
“We have very little control over the value of the Rand because of the kind of loadshedding we are having,” he said. “You can’t grow your economy rapidly with loadshedding. It sounds seductive to say everyone will invest in renewable energy – and yes, there will be a boom, but we haven’t seen it yet.”
He cites three reasons for this. “One is corruption, which makes investors reluctant to invest in South Africa. Another is cadre deployment, which has led to people, especially in the public service, being hopelessly incompetent and lacking the capacity to undertake decisions on investment projects. And the third big factor is crime, with a prime example being the Construction Mafia. If these three things change, we would see a big increase in the economy and employment,” he said.
Certainly, the economy – both domestically and globally – is weird right now. The business environment is uncertain, and consumers are under tremendous financial pressure.
“What’s different now is that we’re all better equipped than we were before the 2008/9 recession,” said Bertus. “If this recession happens, it will be one of the most anticipated ever. That changes the dynamic.”