Things are looking up for South Africa

South Africa is set for an improved economic performance in the coming years as the country’s reforms in crucial sectors gather momentum and the private sector plays a greater role in the economy. 

While many of these reforms began before the formation of the Government of National Unity (GNU), it is crucial that they have unanimous support among the parties in government. 

This is feedback from Old Mutual Wealth chief investment strategist, Izak Odendaal, who outlined the progress South Africa has made in implementing vital reforms. 

In terms of problems, rail and electricity are the economy’s biggest infrastructure bottlenecks, with the deteriorating performance of state-owned enterprises in these sectors subjecting the country to economic stagnation. 

In terms of rail, transport minister Barbara Creecy noted last week that her department received overwhelming interest in accessing Transnet’s rail network from private sector operators. 

Though it will take time to finalise and implement such arrangements, South Africa is much closer to the day that privately-run freight trains become commonplace.

This is crucial, since South Africa is a big country, far from its export markets, and lacking any navigable internal rivers, Odendaal explained. It absolutely needs world-class rail and ports, something the state-owned monopoly could not deliver. 

Transnet will now evolve into mostly being a state-owned infrastructure provider (with much of the daily operations done by the private sector. 

Breaking up the century-old monopoly and encouraging private sector involvement represents a big mindset shift inside the ANC that predates the GNU. It can therefore outlast the GNU.

This change in mindset was first seen in the electricity sector, as a result of the severe crisis of Stage 6 load-shedding. 

Ideally, politicians would always do the right thing, but in reality, they respond to external pressure, and it is usually only in a crisis that they let go of deeply held but outdated ideas, Odendaal said. 

South Africa’s poor economic performance over the past 12 years has several causes but the lack of a reliable electricity supply is number one. 

Odendaal explained that economic activity is simply energy transformed. Without energy to transform, a modern economy stalls. 

Companies became more energy-efficient, but this only works up to a point. The end of persistent load-shedding is therefore a massive development. 

It is partly due to better performance at Eskom, and partly due to private investment in electricity generation by households and businesses.

Separately, there is a massive pipeline of large-scale private investments in electricity, some 22 GW in total according to a recent estimate from the National Treasury. 

Some of these projects are earmarked for specific customers, including Sasol, Anglo American, and other mining and industrial users, but others will sell into the emerging wholesale electricity market. 

It is envisaged that South Africa will have a completely competitive market by 2031, as is the case in most developed countries.

Strong financial institutions

Crucially, most of these reforms have already been legislated, meaning they cannot be simply undone by a change in minister. 

In this vein, the transport minister noted last week that she is preparing a National Rail Bill to similarly cement the reforms in the logistics sector into legislation. 

The Economic Regulation of Transport Act has already been signed into law, governing third party access to Transnet rails and allowing for a single regulator across road, rail, shipping, ports and aviation.

A major factor here is the strength of the country’s key institutions to facilitate investment in these sectors following the reforms.  

Some of these institutions are very weak. It is never good news when the national head of Crime Intelligence is arrested. It highlights that there is rot in the police, and it is no surprise that organised crime has flourished. 

However, the fact that the arrest was made by the new Investigating Directorate Against Corruption indicates that it is not all doom and gloom.

For the investor community in particular, there two key institutions, namely the National Treasury and the Reserve Bank. 

Despite the Budget wobbles earlier this year, Treasury continues to do credible work and is steering the stabilisation of government debt despite it being politically challenging. 

It has also led the charge in getting South Africa removed from the Financial Action Task Force greylist, something that looks likely by year-end or early next year.

The Reserve Bank’s operational independence is guaranteed by the Constitution, and this is not always appreciated widely enough. 

In the US, President Trump has attacked the Federal Reserve’s independence and might announce the next Federal Reserve chair early to undermine the incumbent, Jerome Powell, whose term only expires in May next year. 

Trump has been pushing for lower interest rates – as politicians tend to do – but Powell’s Fed wants to be sure that the data supports rate cuts. 

If the Fed is ultimately strong-armed into lowering rates, it takes us back to the Nixon era, a time of a weak dollar and high inflation.

In contrast, the South African Reserve Bank wants a lower inflation target and is likely to succeed both in lowering the target and eventually anchoring inflation expectations around that target. 

This is a positive for longer-term financial assets, though is not a free lunch, implying somewhat higher interest rates in the shorter term compared to an unchanged inflation target.   

Fifth and finally, local assets already have a notable margin of safety. The political uncertainty that has long plagued the country is already discounted in the market. 

Simply put, investors fear the risk of a populist government taking over at some point, abandoning fiscal discipline and following business-unfriendly policies.