Public Information Notice: IMF Concludes Article IV Consultation with South Africa

May 9, 2001

Public Information Notices (PINs) form part of the IMF's efforts to promote transparency of the IMF's views and analysis of economic developments and policies. With the consent of the country (or countries) concerned, PINs are issued after Executive Board discussions of Article IV consultations with member countries, of its surveillance of developments at the regional level, of post-program monitoring, and of ex post assessments of member countries with longer-term program engagements. PINs are also issued after Executive Board discussions of general policy matters, unless otherwise decided by the Executive Board in a particular case.

On March 19, 2001, the Executive Board concluded the Article IV consultation with South Africa.1


South Africa has enjoyed a modest upturn in economic activity since late 1998. Spurred by a rebound in private consumption and exports, the economy experienced five quarters of progressively stronger growth that culminated in an increase in real GDP of over 4 percent (at an annualized rate) in the final quarter of 1999. Despite some adverse shocks during the first half of 2000, the pace of activity has regained momentum and, led by a healthy expansion in private investment, real GDP grew by over 3 percent in 2000. The recovery appears to have been accompanied by some reduction in unemployment, although it remains at high rates.

The economic recovery has been underpinned by sound financial policies. In particular, continued strength in the public finances has helped sustain a highly competitive exchange rate and ease pressure on long-term interest rates, while monetary policy has contained inflationary pressures. In 1999/2000, the national government registered a budget deficit of 2.0 percent of GDP (well under the original target of 2.8 percent of GDP) as a result of strengthened tax administration, effective spending controls, and underspending on certain projects. The public sector borrowing requirement fell to just over 1 percent of GDP in 1999/2000, from well above 3 percent the previous year. For 2000/01, the deficit of the national government is estimated to be 2.4 percent of GDP.

The authorities announced the adoption of a formal inflation-targeting strategy in February 2000, with a target for CPIX inflation (consumer price inflation, excluding mortgage costs) of 3-6 percent for 2002. In implementing inflation targeting, the Reserve Bank kept the repurchase rate unchanged at 11.75 percent from January 2000 until October, when it raised the rate by one-quarter of a percentage point. This policy stance has helped generally to keep monetary growth under control, although the pace of monetary expansion has picked up in recent months. Inflationary pressures have been dampened by the fall in unit labor costs, which has helped offset the impact of oil price increases and a weak rand. As a result, the CPIX inflation edged down from a peak of over 8 percent in August 2000 to 7.7 percent in February 2001.

The Reserve Bank has made considerable progress in lowering its short-term foreign exposure. The net open forward position (NOFP) of the Reserve Bank declined from its high of US$23.2 billion in October 1998 to less than US$10 billion at end-February 2001. The bulk of this reduction was achieved during 1999, when South Africa enjoyed large reflows of direct and portfolio investment. Since March 2000, however, the rand has come under renewed selling pressure in response to fallout from the Zimbabwe crisis and weaknesses in other emerging markets, and the pace of NOFP reduction slowed appreciably as a result.

The stance of financial policies has also helped sustain gains in external competitiveness, which has provided a boost to export performance. As a result, and despite the impact of higher fuel payments and weak gold prices, the current account deficit fell from 0.4 percent of GDP in 1999 to 0.3 percent of GDP in 2000.

Progress has continued to be made on structural reforms. Several legislative amendments aimed at improving the efficiency of the labor market and creating new jobs were proposed by the Minister of Labour in June 2000. A free trade agreement with the EU has been in effect and, within the South African Development Community, a free trade agreement was agreed in principle in September 2000. The government is moving forward with the restructuring of state-owned enterprises and announced a policy framework for accelerating the process in August 2000.

Executive Board Assessment

Executive Directors welcomed the continuing improvement in economic performance and the reduced vulnerability to external shocks, which have been underpinned by sound financial policies, a more flexible exchange rate regime, a healthy and robust financial system, and a reduction in the central bank's short-term foreign currency exposure. Nevertheless, Directors were concerned that unemployment and poverty remain unacceptably high, and that the HIV/AIDS pandemic, in addition to its deep human costs, threatens to adversely impact much of the economic and social progress achieved to date. They therefore urged the authorities to step up their efforts to combat these two problems.

Directors considered that investment and economic growth would need to rise significantly if substantive progress is to be made in lowering unemployment. They stressed that reforms to make the labor market more competitive would help ensure that investment increases employment, and that privatization and continued trade liberalization would help raise productivity growth and labor demand over time. Some Directors also stressed that more open markets by industrialized countries would help boost South Africa's exports and reduce unemployment.

Directors regarded as crucial steps to increase the flexibility and efficiency of the labor market that would, at the same time, protect workers' rights. They thus welcomed the government's efforts to enhance job skills and its intention to amend existing labor laws, though some encouraged the authorities to implement a more ambitious set of measures. Directors advised against the use of a payroll tax to finance training costs because they considered that it would raise labor costs. They recommended that labor legislation be reviewed regularly to eliminate labor market distortions, and that the collective bargaining system be decentralized to provide small- and medium-sized enterprises with greater autonomy in setting wages.

Directors considered that the public enterprise-restructuring program would enhance productive efficiency and help attract foreign investment, the benefits of which would outweigh possible short-term costs. They welcomed the recently announced policy framework for accelerating the program, which appropriately focused on the four major public enterprises, and encouraged the authorities to transfer majority control of corporatized enterprises to private hands, particularly in those cases where strategic investors are not being considered.

On the macroeconomic front, Directors observed that the major challenges are to preserve the gains made in external competitiveness, ensure that the inflation target for 2002 is met, and further lower long-term borrowing costs. Attainment of these objectives, they indicated, would require appropriate fiscal, monetary, and exchange rate policies.

Noting that the process of budget deficit reduction was largely complete, Directors considered appropriate the current focus on making the tax system fairer and more competitive internationally, and on using savings in wages and interest payments to reorient spending to law and order, infrastructure, and the social sectors. Given the enhanced credibility of fiscal management, Directors observed that some flexibility in the medium-term fiscal stance might be warranted should additional resources be needed to tackle pressing social problems such as HIV/AIDS.

Directors observed that the inflation targeting framework seems to be working increasingly well, inflationary pressures appear to be abating, and the South African Reserve Bank is on track to meeting its inflation target. To further strengthen the inflation-targeting framework, the authorities were encouraged to communicate clearly the objectives of monetary policy to the public through the publication of technical and nontechnical reports.

Directors commended the authorities for the significant recent progress made in reducing the net open forward position (NOFP) of the Reserve Bank. Nevertheless, they noted that the NOFP remains an important source of external vulnerability, and that it needs to be further reduced as market conditions permit. They favored the use of privatization proceeds for this purpose, and some long-term foreign borrowing might also be considered. They noted that a reduction in the NOFP would also reduce the risk premium on South African assets and therefore lower long-term interest rates. Directors concurred that a gradual approach to the removal of capital controls would facilitate cuts in the NOFP.

Directors commended the Reserve Bank for not intervening in the foreign exchange market except to buy foreign exchange to lower the NOFP. They considered the pursuit of a flexible exchange rate policy to be appropriate, and noted that it would help cushion the impact of external shocks, such as a deterioration in the terms of trade and contagion from the situation in Zimbabwe. Several Directors expressed concern about the adverse effects of exchange rate volatility and encouraged the Reserve Bank to gradually increase the level of its international reserves.

Directors welcomed the confirmation by the follow-up assessment to the FSSA report of January 2000 that the financial system and the regulatory framework are sound, and that indicators of financial system health, such as capital adequacy ratios, nonperforming loans, and loan loss provisions, had improved from already relatively strong levels. They commended the authorities for implementing the recommendations of the report, as a result of which considerable progress had been made in raising overall compliance with the Basel Core Principles, and important anti-money laundering legislation is about to be enacted.

Directors noted with concern that there are likely to be significant demographic changes as a result of the HIV/AIDS pandemic, that are projected to have far-reaching economic and social consequences, including lower economic growth and an exacerbation of poverty. Directors welcomed the authorities' recently announced multisectoral strategic plan on HIV/AIDS and encouraged them to press ahead in combating the pandemic. Some Directors considered that a stronger fiscal effort could be required in that regard.

Directors commended the authorities for their commitment to produce high-quality economic data and for subscribing to the Fund's Special Data Dissemination Standard and publishing all data in the reserves template. However, they observed that, while reported data are generally timely and comprehensive, labor market statistics should be published with shorter lags and more frequently.

South Africa: Selected Economic Indicators

  1997 1998 1999 2000

(In percent)
Domestic economy        
Change in real GDP 2.5 0.7 1.9 3.1
Unemployment rate 37.4 37.5 36.2 ...
Change in consumer prices (end of period) 6.0 9.1 2.2 7.0
(In billions of U.S. dollars;
unless otherwise noted)
External economy        
Exports, f.o.b. 36.5 34.4 33.7 36.6
Imports, f.o.b. 34.9 32.9 30.1 32.8
Current account balance (deficit -) -2.3 -2.3 -0.6 -0.4
Direct investment 1.5 -1.2 -0.4 0.3
Portfolio investment 6.6 3.7 8.6 -2.0
Financial account balance (deficit -) 5.9 3.1 3.7 -1.4
Gross official reserves 5.8 5.4 7.4 7.5
Current account balance (in percent of GDP, deficit -) -1.5 -1.8 -0.4 -0.3
Change in real effective exchange rate (in percent) 1/ 7.0 -9.4 -5.4 -2.0
Net open forward position of the Reserve Bank 2/ 16.3 22.5 13.0 9.5
External debt (in percent of GDP) 3/ 26.4 28.2 29.8 ...
Exchange rate, rand per U.S. dollar (end-period) 4.87 5.86 6.15 7.57
(In percent of GDP)
Financial variables        
National government balance (deficit -) 4/ -3.8 -2.3 -2.0 -2.4
Change in broad money (in percent) 17.2 14.6 10.1 7.5
Interest rate (in percent) 5/ 16.0 19.3 12.0 12.0

Sources: South African Reserve Bank and Fund staff estimates.

1/ (+)=appreciation (period average).
2/ Defined as net forward foreign exchange liabilities less net spot reserves.
3/ Includes rand denominated external debt.
4/ Fiscal year starting on April 1.
5/ Bank/repo rate (end of period).

1 Under Article IV of the IMF's Articles of Agreement, the IMF holds bilateral discussions with members, usually every year. A staff team visits the country, collects economic and financial information, and discusses with officials the country's economic developments and policies. On return to headquarters, the staff prepares a report, which forms the basis for discussion by the Executive Board. At the conclusion of the discussion, the Managing Director, as Chairman of the Board, summarizes the views of Executive Directors, and this summary is transmitted to the country's authorities. In this PIN, the main features of the Board's discussion are described.


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