'Quantity Easing' and the SA economy for Dummies

12 June 2019 | Aidan van Niekerk
 


Last week saw a shock GDP announcement from StatsSA - announcing GDP growth of -3.2% which trumped even the worst of estimates at -1.9% (perhaps the only instance in recent years that the South African economy has exceeded expectations). The economy over the last 5 years can be compared to the Proteas performance at the ICC Cricket World Cup: both have been extremely consistent in their performance - consistently disappointing, but consistent nonetheless.

The announcement prompted Moody’s to lower their forecast for 2019 growth from 1.3% to 1.0%. S&P Global has cautioned that South Africa may face a credit downgrade due to a lacklustre economy and political uncertainty. The latter of which is stoked by public Twitter spats among top political figures, one of which has called for the miracle cure of “quantity easing” for our chronically ill economy. I cannot shed light on the phenomenon of “quantity easing”, but I may venture to explain the concept of quantitative easing and why politicians are bringing up the topic.

Quantitative Easing explained like you’re 5

Quantitative easing is the practice whereby central banks increase the supply of money in circulation by purchasing government securities, such as government bonds. To finance the purchase, the central bank “prints money” and simply enters new balances on its Excel sheets – and voilà, it has enough money to buy the bonds. This economic alchemy increases the money supply in the economy and, as with any other product, the higher the supply the lower the price. Locally, the lower price of money translates to inflation. Globally, the increase in supply devalues the currency (i.e. the exchange rate would weaken compared to the dollar, euro, pound, etc.)

The large purchase by a central bank leads to an increase in the price of bonds and facilitates a decrease in interest rates. As we know, lower interest rates make borrowing money cheaper for both the government and the broader economy. In theory this should drive an increase in economic activity and promote growth – i.e. increasing the country’s GDP.

So, perhaps the certain Secretary General was onto something when he mentioned “quantity easing”? (I am assuming that he meant quantitative easing). Not quite. The successful implementation of QE was in the wake of the 2008/2009 financial crisis when markets experienced a slowdown in economic activity. The developed markets like the USA and Europe, had relatively strong currencies at the time. Further, they had very low or even no inflation (no inflation is a bad thing too). QE acted as a kickstart – it increased the available credit, more money was being borrowed, more money was being spent, inflation increased, and the economy began to grow. QE is credited for pulling the US economy back from the brink and rightfully so.

South Africa though, has neither a strong currency nor low inflation. QE would further devalue the Rand and increase inflation. In addition, South Africa is very import dependent. The weaker Rand would lead to more expensive imports such more expensive oil/fuel, which leads to even more inflation. Blink twice and we could be staring at hyperinflation such as in Zimbabwe. In the SA context, all QE roads will lead to Harare.

SA’s Economic Woes Unpacked

Why then, are certain politicians obsessed with the concept of QE? Pen it down as economic ignorance. I do not know much about flying, so I stay away from commenting on aviation forums. Nor would any airline ever employ me as a pilot. Fortunately, the SARB is one of the very few untainted and independent entities headed by excellent pilots such as Governor Lesetja Kganyago. The calls for nationalisation may see politicians become pilots, or at the very least influence them and hijack the plane.

Contrary to the populist narrative, the SARB’s function is NOT to solve unemployment or economic growth. The function of the SARB is to protect the value of the Rand (viz. keeping inflation in check). It’s even on their website. It is the government’s responsibility to create an environment in which is the economy can thrive. The latest GDP data does not reflect well of its attempts:

Arguably the sectors with the sectors highest unemployment rate have seen the largest decline. Further, government (civil services) experienced the highest growth albeit only 1.2%. It is no secret that taxpayers are responsible for the funding in this sector. Government still seems under the impression that civil service and not a favourable economic climate will help solve our unemployment woes. A series of tweets highlights this plight.

A decade of mismanagement and over-regulation of the economy has led to a very detrimental business climate in the country. This decade saw SA drop from 34th to 82nd in the Ease of Doing Business Index. In the same time Rwanda went from 139th to 29th. Instead of attracting investment, we have caused current investors to take flight. It is not merely an opinion, but is supported by case studies such as mining behemoth AngloGold Ashanti planning its exit from SA. Ghana has overtaken South Africa as the largest African gold producer. In addition to a meagre business environment, crime and corruption only further hindered the economy.

I am by no stretch of the imagination an economist or a policy maker. I am, however, a statistician. It is elementary to see the correlation between an increase in ridiculous policy/over-regulation/mismanagement and the decline in the economy and social indicators. The chief objective of the government over the next 5 years should be to place politics aside, take a step back from business, and allow South Africans to do our thing. Let’s hope they read Sharenet Views.

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Aidan

Aidan van Niekerk
Junior Investment Analyst

Aidan is responsible for quantitative research and stock-market analytics. He has a keen interest in all things numbers and - in addition to working for Sharenet - is a full-time BSc Mathematics and Statistics student at Unisa. Aidan has represented South Africa at a professional level in road cycling where the rigorous demands and self-discipline has prepared him for the markets. He aspires to one day complete a Master’s degree in statistics and delve deeper into the world of algorithmic trading, market analytics, and financial modelling.


Disclaimer:
The information contained in this article is for informational purposes only and must not be regarded as a prospectus for any security, financial product or transaction. It is neither to be construed as financial advice nor to be regarded as a definitive analysis of any financial issue. Investors should consider this research/article as only a single factor in making their investment decision. We recommend you consult a financial planner/advisor to take into account your particular investment objectives, financial situation and individual needs. The views and opinions (where expressed) in this article are those of the author and do not necessarily reflect the official policy or position of Sharenet.

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