## _cr12247 ## Source details **Canonical URL:** [_cr12247](https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2012/_cr12247.pdf) ## Other formats - [Markdown version](/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2012/_cr12247.pdf.md) - [Structured JSON version](/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2012/_cr12247.pdf.json) --- ### Macroeconomic context and assessment - Post-1994 strategy delivered macroeconomic and financial stability and allowed borrowing abroad in its own currency at investment grade rates. - Social outcomes improved with a nontrivial reduction in extreme poverty within a peaceful democratic process. - Key development challenges: employment, education, health, and public infrastructure. ### Labor market and social indicators - Unemployment rate stands at 25 percent. - One of the lowest labor force participation rates among emerging markets. - Educational attainment is low; standardized test for 8-year olds (given for the first time in 2011) produced poor results. - High prevalence of HIV and limited access to basic health care. - Job creation is identified as an urgent national priority; the New Growth Path (NGP) and draft National Development Plan (NDP) emphasize labor-intensive, inclusive growth and deep-rooted reforms, including labor market reforms. ### Recent cyclical developments and policy response - 2008–09 global financial crisis: countercyclical fiscal and monetary policy protected social spending while maintaining stability. - Flexible exchange rate and ability to lower nominal policy rates avoided the zero lower bound. - By mid-2011 South Africa had surpassed earlier GDP peaks and was on track to close the output gap by mid-2012, although growth lagged peer emerging markets. - Renewed distress in Europe and domestic factors reduced growth by roughly 1 percentage point compared with 2011 projections. - By April 2012 the rand had depreciated by 10 percent in nominal effective terms and by 7 percent in real effective terms (year on year). - Headline inflation briefly exceeded the 3–6 percent target band; core inflation rose but remained within the target band. - Real wage growth moderated significantly; employment rose by about 3 percent. ### Outlook and projections - 2012 growth is likely to fall below 3 percent. - Baseline shared by authorities and staff: slowdown is temporary and growth will pick up over the next few years to close the negative output gap. - External environment change implies downward revision of feasible growth rates, with lower inflation and fiscal revenue than previously anticipated, leading to higher fiscal deficits and public debt levels than envisaged earlier. ### Risks and vulnerabilities - Main external risks: renewed euro-area distress, slowdown in China, declines in commodity prices. - Strong external transmission channels: export dependence, foreign funding of fiscal and current account deficits, sensitivity to commodity prices. - Net external investment position weakened despite improved international reserve coverage; nonbank private sector portfolio investments abroad were about 30 percent of GDP in 2010. - Banks well capitalized and liquid but profitability is low; mortgage portfolios and recent sharp increase in unsecured lending could be vulnerable. - Fiscal position has worsened, significantly lowering fiscal space for countercyclical policy under adverse scenarios. ### Authorities’ concerns and policy judgement (excerpt "17. The authorities expressed concern") - Concern about mutating five-year global financial crisis and erosion of policy space in advanced economies, and that lack of decisive action could impair global outlook. - Baseline judgement: temporary deterioration in external environment justifies delaying pace of fiscal consolidation and keeping interest rates on hold; staff recommended saving any revenue overperformance. ### Fiscal stance, performance, and projections - 2011/12 cyclically adjusted fiscal deficit remained broadly stable at around 4 percent of GDP. - Gross national government debt reached just below 40 percent of GDP. - 2012 Budget envisages fiscal deficit in 2012/13 will fall by 0.2 percent of GDP (0.3 percentage point of GDP in cyclically-adjusted terms), mainly by reducing public spending, especially the government’s wage bill. - Cyclically adjusted deficit projected to narrow gradually to just below 3 percent of GDP by 2014/15. - Gross national government debt projected to peak at about 42 percent of GDP. - Staff advised reducing the gross national government debt-to-GDP ratio to around 35 percent by 2017; staff noted restraint on fiscal spending alone could reduce public debt to about 38 percent of GDP. - Wage bill is the single largest component of government spending and one of the largest in peer emerging markets; in 2011 wage bill higher and capital spending lower than budgeted. - Staff recommended bringing the wage bill back to pre-crisis levels and, over the medium term, limiting real public sector wage growth to 1–2 percent a year. ### Infrastructure, public enterprises, and fiscal risk management - Investment in infrastructure held back largely by limited implementation capacity; bottlenecks in electricity, transport, and ports constrained exports and domestic activity. - Public enterprises increased fixed capital formation in the late 2000s; a new large power plant will start partial operations only in 2013. - Recommendations: rigorous but prompt assessment and prioritization of large-scale projects; tariffs and user fees should reflect service and investment costs; explore private sector involvement in sectors dominated by state-owned enterprises. ### National Health Insurance (NHI) and social security reforms - Staff supports intent to introduce NHI and social security reforms with gradual and cautious implementation. - Preliminary National Treasury estimates suggest public health spending could increase by 2 percentage points of GDP to reach 6.2 percent of GDP in 2025. - Authorities considering funding options: a payroll tax (payable by both employees and employers), a higher value-added tax rate, a surcharge on taxable income, or some combination. - Caution: chosen financing package should not further increase labor costs and must keep fiscal consolidation plan intact. - NHI implementation planned over 14 years in three phases: - First phase: 2011–15—organizational changes and pilot projects. - Second phase: 2016–2020—progressively take over administration for health functions. - Third phase: 2020–24—further progression of NHI administration. - Containment requires macrolevel instruments (budget caps and central oversight) and microlevel efficiency measures; strengthening market mechanisms recommended. ### Fiscal transparency and management reforms - Forthcoming report on long-term fiscal dynamics will improve transparency and help communicate medium-term costs of NHI and social security reforms. - Areas for improvement: external scrutiny of macroeconomic assumptions and forecasts; independent evaluation of fiscal policies; more systematic monitoring, reporting, and management of fiscal risks. ### Monetary policy stance and guidance - Inflation targeting framework anchored expectations within the 3–6 percent target range. - Policy rate unchanged at 5.5 percent since November 2010. - One-year-ahead inflation forecasts suggest the policy rate has become negative in real terms. - Staff view: keep policy rate on hold given negative output gap and well-contained core inflation; SARB should be ready to cut policy rate if outlook worsens, but tighten if inflation forecasts exceed the target range or balance-sheet vulnerabilities build. ### Exchange rate flexibility and competitiveness (excerpt "33. The highly flexible exchange rate") - Highly flexible exchange rate regime smooths external shocks but implies high volatility in nominal and real exchange rates. - Evidence: rand responds rapidly to changes in the VIX; exchange rates more sensitive than stock prices compared to peer EMs. - Model-based estimates suggest the rand was overvalued in real effective terms by 5–15 percent in March 2012. - Low structural savings and substantial investment needs justify large current account deficits but may require significant real rand depreciation over the medium term. - Reserves: further buildup likely required for precautionary purposes; recent strengthening of reserve position contributed to investor confidence but at significant fiscal (sterilization) cost borne largely by the treasury. - Policy under severe adverse scenarios: monetary policy has room to ease; fiscal space limited and public spending should be prioritized to protect social transfers. ### External sector assessment (Box 2) — selected figures and findings - Net IIP position at -18 percent of GDP in 2010. - Application of methods suggests real exchange rate misalignment in early 2012: - CGER approach: misalignment of 13 percent in February-March. - IMF’s pilot EBA approach: current account in 2011 was 2.5 percent of GDP higher than predicted, consistent with misalignment of 11 percent. - Staff assess real exchange rate misaligned by 5-15 percent during this period. - Medium-term projection of current account used: deficit of 5.9 percent of GDP in 2017 as proxy. ### Job-creating policies — product and labor market reform - Structural product and labor market characteristics preserve inequality and high unemployment. - High margins in product markets and high wages contributed to uncompetitive domestic costs and slow export recovery. - Labor arrangements have set entry-level wages above productivity of inexperienced workers; episodes of large wage increases have long-lasting effects on unemployment. - Durable pickup in job creation requires major labor and product market reforms. - Product market reform recommendations include strengthening antitrust enforcement, raising penalties for misconduct, improving firm entry regulations, promoting competition in sectors with state-owned enterprise presence, and crossborder cooperation to contain cartels. ### Wage-setting flexibility and Active Labor Market Policies (excerpt "44. More flexibility in the wage-setting") - More flexible wage-setting, supported by well-designed ALMPs, can support employment by aligning wages with productivity at firm level. - Draft labor law amendments in Parliament may reduce employment by restricting flexible contractual arrangements. - Short-run employment support measures suggested: - Temporary youth wage subsidies. - Transport subsidies for job seekers. - Schemes to provide working experience and on-the-job training. - Temporary public work programs if wages are kept low. - Design cautions: prevent abuse, create net employment, and tightly control spending. - Existing ALMP spending on public work programs increased from R4.2 billion (0.6 percent of consolidated government expenditure) in 2008/09 to R7.8 billion (0.8 percent of expenditure) in 2011/12. - Authorities emphasize product market reforms to complement labor market reforms; political economy constraints noted. ### Regional integration and spillovers - South Africa’s exports to SSA amounted to about 15 percent of exports in 2011; SSA accounts for a third of South African manufacturing exports. - SADC FTA nearly fully implemented in 2012 with almost all tariff lines traded duty free (three country exceptions). - Tripartite negotiations (SADC, EAC, COMESA) aim to conclude by 2014 and implement by 2015. - Increased regional integration raises scope for inward and outward spillovers; SSA’s dependence on commodity prices and China increases South Africa’s exposure. ### Financial stability and banking sector resilience - Banks proved resilient to the 2008–09 crisis; soundness indicators comfortable and partially recovered. - Banks increased capital adequacy and liquidity buffers; profitability started to increase from a low base. - Risks: - Exposure to house prices: by May 2012 house prices had declined by 7 percent in nominal terms from their peak in August 2011. - Dependence on short-term domestic wholesale liabilities; rapid unsecured lending expansion from a low base. - Low profitability could push banks to take higher risks. - Institutional reforms: support for legal framework strengthening, 'twin peaks' regulatory structure, Basel III progress; authorities adopted alternative treatment to meet Basel III liquidity coverage ratio. - Staff recommends constructive engagement with Basel Committee on stability of rand wholesale funding and gradual liberalization of capital controls. ### Capital inflows and authorities’ decision (excerpt "58. The authorities have decided not to") - Authorities decided not to add capital inflow management measures (CFMs) to policy toolkit at this time. - Decision reflects careful examination of other countries’ experiences, subsided pressures with European stress, concerns about reliance on foreign savings, doubts over CFMs’ effectiveness, and possible unintended effects. - Staff advice: if CFMs added later, they should complement rather than substitute macroeconomic policy adjustments. - Past responses to capital inflow episodes: exchange rate appreciation, accommodative monetary stance, liberalizing capital outflow controls, building international reserves. ### Staff appraisal — macroeconomic stability and policy frameworks - Inflation targeting regime anchored expectations within 3–6 percent range. - Flexible exchange rate helped cushion real and financial external spillovers. - Credibility in government’s ability to pay mostly rand-denominated debt allowed maintenance of public spending plans despite revenue decline. - Monetary policy has appropriately reacted to the slowdown; nominal rates unchanged since November 2010, with implied additional stimulus from lower real rates. ### Policy space and countercyclical tools - After four years of stimulus, policy space diminished, particularly fiscal space, which will further shrink with global stress as fiscal revenue declines. - Monetary space may widen under a deflationary scenario, implying heavier reliance on countercyclical monetary policy if needed. ### Unemployment and recommended four-pronged reform approach - High unemployment could become politically and socially unsustainable. - Recommended approach: - Labor and product market reforms to increase flexibility and contestability. - Improved service delivery in health and education to boost human capital. - Short-term active labor interventions to create first-time employment opportunities for youth. - Better infrastructure in network industries to remove bottlenecks and support higher growth. ### Vulnerabilities and financial sector soundness - External debt moderate and about half rand denominated; reserves currently adequate but expected foreign liabilities warrant increasing reserve coverage. - Financial institutions remain sound, liquid, and profitable; impaired loans have started to decline. ### Debt sustainability and external debt projections (selected figures) - External debt projected to reach 42.0 percent of GDP by 2017 (baseline external debt series: 2007: 26.4; 2008: 26.6; 2009: 27.6; 2010: 28.7; 2011: 27.3; 2012: 32.0; 2013: 33.8; 2014: 35.7; 2015: 37.7; 2016: 39.8; 2017: 42.0). - Public sector debt (percent of GDP) baseline: 2007: 28.3; 2008: 27.4; 2009: 31.5; 2010: 35.3; 2011: 38.7; 2012: 40.2; 2013: 41.2; 2014: 42.0; 2015: 41.7; 2016: 40.3; 2017: 38.1. - Under the "no policy change" scenario, public debt ratio rises to 48.7 percent of GDP by end of projection period. - Stress tests: a 30 percent exchange rate depreciation would push external debt ratio to 54 percent by 2017; a further widening of the non-interest current account deficit would push it to 48 percent by 2017. - Gross external financing need (US$ billions) by year: 2007: 68.1; 2008: 93.9; 2009: 74.3; 2010: 56.8; 2011: 65.6; 2012: 69.9; 2013: 76.0; 2014: 83.9; 2015: 85.6; 2016: 91.6; 2017: 97.0. ### Data and monitoring - CPI coverage: metropolitan and urban households represent approximately 56 percent of total households and 75 percent of private consumption expenditure. - CPI weights rebased in January 2009 to 2008=100; new weights to be introduced January 2013 based on 2010/11 Income and Expenditure Survey; CPI indices will be rebased to 2012 without revising historical inflation backward. - Labor market statistics published with lags of three months; a new quarterly Labor Force Survey conducted January 2008. - Table of Common Indicators: latest observations include Exchange rates (6/25/12), International reserve assets (5/12), Broad money (4/12), GDP/GNP (Q1 2012), International investment position (2010). ### Staff and Executive Board policy recommendations (summary) - Fiscal: rebalance composition of spending away from the wage bill and toward capital spending; save any revenue over-performance to rebuild buffers; support gradual NHI reform with careful financing design. - Monetary: maintain accommodative stance with vigilance; be ready to cut if downside risks materialize and to tighten if inflation pressures build. - Exchange rate and reserves: maintain highly flexible exchange rate; cautiously build reserve buffers considering sterilization costs. - Employment: implement targeted ALMPs, consider temporary youth wage subsidies and public works, and pursue labor and product market reforms to reduce insider-outsider distortions. - Financial sector: monitor mortgage and unsecured lending risks; implement FSAP recommendations and Basel III-related measures; proceed cautiously on capital account liberalization. ### Appendix III — Real wage, productivity, and employment (selected figures) - 2009–10 job loss: about three-quarters of a million jobs—equivalent to about 5 percent of total employment at end-2008. - Unemployment rose to about 25 percent. - Deviations of real wage from productivity revert in about 10–12 quarters on average. - Nominal unit labor cost increased during 2009-2010 by about 20 percent on a cumulative basis. - Back-of-the-envelope calculation: excess real wage growth accounts for at least 25 percent of employment loss in 2008–2010. - Figure 1 cumulative growth values (Percent): 12.3; 8.4; 6.8; 16.8; 13.2; 9.3; 9.0; 7.1; 6.2. *Source: South Africa 2012 Article IV Report (IMF), content unit _cr12247.* ### 1. Authorities’ Response to Past IMF Policy Recommendations ............................................................ ### 1. Authorities’ Response to Past IMF Policy Recommendations ### Macroeconomic context and assessment - South Africa’s post-1994 economic strategy delivered macroeconomic and financial stability and allowed borrowing abroad in its own currency at investment grade rates. - Social outcomes improved with a nontrivial reduction in extreme poverty within a peaceful democratic process. - Key development challenges remain: employment, education, health, and public infrastructure. ### Labor market and social indicators - Unemployment rate stands at 25 percent. - One of the lowest labor force participation rates among emerging markets. - Educational attainment is low; standardized test for 8-year olds (given for the first time in 2011) produced poor results. - High prevalence of HIV and limited access to basic health care. - Job creation is identified as an urgent national priority; the New Growth Path (NGP) and draft National Development Plan (NDP) emphasize labor-intensive, inclusive growth and deep-rooted reforms, including labor market reforms. ### Recent cyclical developments and policy response - The 2008–09 global financial crisis tested South Africa’s resilience; countercyclical fiscal and monetary policy protected social spending while maintaining stability. - Flexible exchange rate and ability to lower nominal policy rates avoided the zero lower bound. - By mid-2011 South Africa had surpassed earlier GDP peaks and was on track to close the output gap by mid-2012, although growth lagged peer emerging markets. ### Growth, inflation, and labor outcomes since 2011 - Renewed distress in Europe and domestic factors (industrial action in mining and manufacturing) reduced growth by roughly 1 percentage point compared with 2011 projections. - Domestic demand continued to grow faster than GDP; consumption and inventory growth slowed, while fixed capital investment began to increase. - By April 2012 the rand had depreciated by 10 percent in nominal effective terms and by 7 percent in real effective terms (year on year). - Headline inflation briefly exceeded the 3–6 percent target band; core inflation rose but remained within the target band. - Real wage growth moderated significantly; employment rose by about 3 percent, reducing the gap between real wages and labor productivity. ### Outlook and projections - In 2012, growth is likely to fall below 3 percent, lower than most estimates of potential growth. - Authorities and staff share the baseline that the slowdown is temporary and that growth will pick up over the next few years to close the negative output gap. - The external environment change implies a downward revision of feasible growth rates over the next few years, with lower inflation and fiscal revenue than previously anticipated, leading to higher fiscal deficits and public debt levels than envisaged earlier. ### Risks and vulnerabilities - Main risks are external: renewed euro-area distress, slowdown in China, and declines in commodity prices. - External transmission channels are strong due to export dependence, foreign funding of fiscal and current account deficits, and sensitivity to commodity prices. - Capital outflows and a sharp increase in risk aversion could force abrupt adjustments in fiscal spending and imports; portfolio flows have funded significant current account and fiscal deficits, though foreign direct investment played a major role in 2011. - Domestic risks include increased labor unrest in a politically important year (ANC presidential candidate selection in December 2012) and potential inappropriate policy responses to high structural unemployment. - Balance-sheet effects are likely contained by prudential rules and capital controls; public debt levels are moderate with little exchange rate or maturity risk. - Fiscal position has worsened, significantly lowering fiscal space for countercyclical policy under adverse scenarios. - Net external investment position weakened despite improved international reserve coverage. - Nonbank private sector portfolio investments abroad were about 30 percent of GDP in 2010 and could be vulnerable in a severe adverse scenario. - Banks remain well capitalized and liquid, but profitability is low; mortgage portfolios could be vulnerable if unemployment rises and house prices decline substantially. - Recent sharp increase in unsecured lending (from a low base) could add stress. ### Policy implications and priorities (as reflected in authorities’ views) - Preserve macroeconomic and financial stability while advancing reforms to promote long-run inclusive growth. - Implement measures to boost job creation consistent with the NGP and the NDP draft, requiring coordinated action by government, business, and labor. - Maintain prudent fiscal and monetary stances to retain policy space and market access, while preparing for scenarios of higher risk aversion and capital outflows. - Monitor and address financial sector vulnerabilities arising from mortgage exposures, rising unsecured lending, and potential profitability pressures under adverse scenarios. *Source: SOUTH AFRICA 2012 ARTICLE IV REPORT (IMF) — Chapter: Authorities’ Response to Past IMF Policy Recommendations* ### 17. The authorities expressed concern ### _cr12247 - 17. The authorities expressed concern ### Authorities' concerns and global outlook - Authorities expressed concern about the mutating nature of a five-year global financial crisis and its negative effects on emerging markets such as South Africa. - Concern that tail risks in Europe would hit emerging markets hard because policy space in advanced economies, and to a lower degree in emerging markets, had been eroded. - View that lack of decisive and timely action by key policymakers in advanced countries could severely impair the global economic outlook. ### Policy discussion and baseline judgement - The temporary deterioration in the external environment under the baseline justifies the authorities’ current policy mix: delaying the pace of fiscal consolidation and keeping interest rates on hold, with fiscal space to be rebuilt in the medium term. - Staff recommended that any revenue overperformance be saved. ### Fiscal stance, performance, and projections - Findings and recent outturns: - In 2011/12, the cyclically adjusted fiscal deficit remained broadly stable at around 4 percent of GDP. - Gross national government debt reached just below 40 percent of GDP. - 2012 Budget and near-term consolidation: - The 2012 Budget envisages the fiscal deficit in 2012/13 will fall by 0.2 percent of GDP (0.3 percentage point of GDP in cyclically-adjusted terms), mainly by reducing public spending (as a share of GDP), especially the government’s wage bill. - Staff view: the budget strikes the appropriate balance between fiscal consolidation and supporting the economy. - Medium-term projections and targets: - Cyclically adjusted deficit projected to narrow gradually to just below 3 percent of GDP by 2014/15. - Gross national government debt projected to peak at about 42 percent of GDP. - Staff advised measures to rebuild policy buffers and reduce the gross national government debt-to-GDP ratio to around 35 percent by 2017. - Note: Figures do not include the health and social security reforms, which have not yet been budgeted, except for pilot programs. - Staff comment: restraint on fiscal spending alone as recommended by staff could reduce the public debt to about 38 percent of GDP. - Composition of spending and wage bill: - Wage bill has grown to become the single largest component of government spending and one of the largest in peer emerging markets. - In 2011 the government’s wage bill ended up being higher, and capital spending lower, than budgeted; the wage bill is set to increase further in the near term. - Raising real public sector wages during the peak of the recession contributed to one of the largest job shedding experiences among emerging markets during the global financial crisis. - Staff recommendations on spending composition: - Bring the wage bill back to pre-crisis levels; staff cautioned that further slippages could erode government credibility. - Lowering the wage bill burden would provide greater room for capital spending to improve delivery and quality of public services, especially in health and education. - Strengthen implementation capacity at lower levels of government to increase capital spending. - Over the medium term, once the wage bill burden has been lowered as planned, limit real wage growth in the public sector to 1–2 percent a year in line with estimates of long-term economy-wide average labor productivity growth. ### Infrastructure, public enterprises, and fiscal risk management - Findings: - Investment in infrastructure has been held back largely due to limited implementation capacity; resulting bottlenecks in electricity generation, transport, and port infrastructure have constrained exports and domestic activity. - Public enterprises increased fixed capital formation in the late 2000s; a new large power plant will start partial operations only in 2013. - A presidential commission in 2012 identified key infrastructure projects to be rolled out over coming decades. - Recommendations: - Large-scale projects need rigorous but prompt assessment and prioritization to maximize long-term benefits. - To contain fiscal risks, tariffs and user fees should reflect service and investment costs while ensuring efficiency in running state-dominated enterprises. - Explore options to involve the private sector in network industries dominated by state-owned enterprises. ### National Health Insurance (NHI) and social security reforms - Staff supports the government’s intent to introduce an NHI scheme and social security and retirement reforms, endorsing gradual and cautious implementation. - NHI design and financing considerations: - Careful attention to design issues is essential because they determine incentives and ultimately program cost. - Preliminary National Treasury estimates suggest public health spending could increase by 2 percentage points of GDP to reach 6.2 percent of GDP in 2025. - Authorities are considering funding options including a payroll tax (payable by both employees and employers), a higher value-added tax rate, a surcharge on taxable income, or some combination. - In choosing funding options, care should be taken not to further increase labor costs that could adversely affect employment. - The chosen financing package should keep the fiscal consolidation plan intact and preserve fiscal sustainability. - Cost containment and efficiency: - Containing public health spending will require macrolevel instruments (budget caps and central oversight) and microlevel measures to improve efficiency. - Strengthening market mechanisms—allowing more competition between health service providers and insurers, relying on greater private provision, and increasing cost-sharing—has been successful elsewhere in containing spending growth. - Implementation timeline: - NHI planned to be implemented gradually over 14 years in three phases: - First phase: 2011–15—organizational changes to build capacity and pilot projects. - Second phase: 2016–2020—progressively take over administration for health functions. - Third phase: 2020–24—further progression of NHI administration. ### Fiscal transparency and management reforms - The forthcoming report on South Africa’s long-term fiscal dynamics will improve fiscal transparency, raise public awareness of long-term fiscal implications and options, and help communicate medium-term costs of NHI and social security reforms. - The 2012 Budget Review mentioned as funding options an increase in the VAT rate, a payroll tax on employers, and a surcharge on taxable income of individuals. - Areas for further improvement in fiscal management: - External scrutiny of the treasury’s macroeconomic assumptions and forecast and independent evaluation of fiscal policies beyond current fiscal commission activities. - More systematic monitoring, reporting, and management of fiscal risks. ### Authorities’ stance - Authorities are committed to careful fiscal management to maintain macroeconomic stability while balancing stimulus and fiscal sustainability. - They recognize that fiscal space diminishes as government debt continues to increase and acknowledge the merits of wage moderation in the public sector to make space for needed public infrastructure. ### Monetary policy stance - Inflation targeting framework has been crucial in South Africa’s resilience and has allowed monetary authorities to provide stimulus while keeping inflation expectations well anchored. - Policy rate: - The policy rate has remained unchanged at 5.5 percent since November 2010. - One-year-ahead inflation forecasts suggest the policy rate has become negative in real terms. - Staff view and guidance: - Staff supports keeping the policy rate on hold for now given the negative output gap and well-contained core inflation and inflation expectations. - With the balance of risks tilted to the downside, the SARB should be ready to cut the policy rate to support the economy, especially given limited fiscal space. - The SARB should also be ready to tighten if inflation forecasts exceed the target range or balance-sheet vulnerabilities build up. - Forward-rate agreements are already pricing the possibility of rate cuts. *Source: South Africa 2012 Article IV Report (IMF), _cr12247 - 17. The authorities expressed concern* ### 33. The highly flexible exchange rate ### 33. The highly flexible exchange rate ### Exchange rate flexibility and volatility - The highly flexible exchange rate regime has helped smooth external shocks by rapidly transmitting news about the external environment. - Rapid transmission implies high volatility in nominal and real exchange rates. - The rand responds rapidly to changes in the VIX; surges in the VIX give rise to shifts away from risky assets and activities (Figure 7). - Evidence: South African exchange rates have been more sensitive than stock prices compared to peer emerging markets (elasticities to VIX shown in source figures). ### Enduring competitiveness weaknesses - Despite recent rand depreciation, indicators point to enduring problems with external competitiveness. - High wage bargains have contributed to high domestic costs of production, including high unit labor costs. - Export volumes remain below historically high precrisis levels and have continued to recover more slowly than partner demand; part of this reflects a substantial decline in gold production. - South Africa’s market share in global export markets has increased modestly since the mid-2000s, in contrast to rapid gains by other emerging markets and commodity producers. - Competitiveness problems could intensify if easy external financing conditions lead to a resumption of capital inflows to emerging markets. - Note: South Africa will be included in Citigroup’s World Government Bond Index (WGBI) in October, which will increase inflows at the margin. ### Model-based valuation estimates of the rand - Model-based estimates suggest the rand was overvalued in real effective terms by 5–15 percent in March 2012 (Box 2). - Low structural savings and substantial investment needs justify large current account deficits but may require significant real rand depreciation over the medium term to help service increasing foreign liabilities, even if largely rand denominated. - Authorities’ view: Authorities agreed firms face high domestic production costs and that low domestic savings necessitate foreign savings for investment. Authorities’ models also indicate the rand is somewhat overvalued, but precise magnitude is difficult to pin down due to high volatility in fundamentals and large rand volatility; assessments may vary by the specific date conducted. ### Reserve accumulation and adequacy - Further buildup of gross reserves will likely be required in the coming years to ensure reserves remain adequate for precautionary purposes. - Recent substantial strengthening of South Africa’s reserve position has contributed to investor confidence and dampened vulnerability to tail risks, although at significant fiscal (sterilization) cost, borne in large part directly by the treasury. - Maintaining an adequate stock of safe and liquid assets is especially critical in the current environment. - Because capital inflows needed to fund the structural current account increase financial risks, South Africa would benefit from building up further reserves for precautionary reasons. - Although reserves are adequate under traditional metrics, the IMF’s risk-weighted metric for reserve adequacy suggests that, under the prevailing macroeconomic outlook, further buildup might be warranted over the medium term just to remain within the adequacy range. - Authorities’ view: Authorities cautioned they will seek to further build up reserves for precautionary reasons as opportunities arise, and that the process will be determined by movements in the rand and the cost of reserve buildup; they use a variety of indicators each year to decide optimal reserve levels. ### Policy mix under severe adverse scenarios - Global uncertainty and narrower fiscal space may require difficult decisions; staff supported the monetary policy stance. - The SARB would have room to lower nominal policy rates if the outlook worsens, given resulting decline in economic activity and expected moderation in inflation. - Limited fiscal space would likely require policy measures to ensure fiscal sustainability; this could include reassessing spending limits and possible measures on the revenue side. - It would not be feasible to adhere to a nominal expenditure ceiling while allowing automatic stabilizers to operate through the revenue side. - Public spending should be prioritized to protect the envelope for social transfers. - Under a severe adverse scenario that could lead to substantial deceleration in economic activity, the policy mix may need to rely more on monetary policy; fiscal space would be very limited while monetary space would be available. ### External sector assessment (Box 2) — key findings - External sector risks are relatively contained; South Africa’s exchange rate regime is one of the most flexible among emerging markets. - Net IIP position at -18 percent of GDP in 2010 is not seen as a major source of risk. - Both external debt and the net international investment position are moderate, with a large share of liabilities either in equity and/or denominated in rand. - Although portfolio flows have increased, risks are mitigated by the free-floating exchange rate. - Reserves are currently adequate according to the IMF metric. - The quality of portfolio investments abroad of the nonbank private sector, about 30 percent of GDP in 2010, is a possible source of vulnerability. - Competitiveness and the elevated level of the underlying current account deficit have been more enduring sources of concern. - The dollar-rand exchange rate has traded in lock-step with risk aversion indicators such as the VIX; the real exchange rate was 7 percent below its year-earlier level in April (year not specified in excerpt). - To assess underlying current account, staff take a medium-term projection of the current account (a deficit of 5.9 percent of GDP) in 2017 as a proxy by which transitory factors dissipate. - Application of a range of techniques suggests real exchange rate remained misaligned in early 2012: - CGER approach suggests misalignment of 13 percent in February-March. - IMF’s pilot external balance assessment (EBA) approach implies the current account deficit in 2011 was 2.5 percent of GDP higher than predicted, consistent with misalignment of 11 percent. - Taking into account forecast uncertainty, staff assess real exchange rate was misaligned by 5-15 percent during this period. - CGER methodology component findings: - Macro-balance approach: underlying current account deviates by around 3 percent of GDP from a norm (at minus 3 percent of GDP), consistent with misalignment of around 17 percent. - External Sustainability (ES) approach: compares underlying current account with level that would stabilize external liabilities around the EM average of 34 percent of GDP; implies misalignment slightly exceeding 20 percent. - Equilibrium exchange rate approach: implies fairly valued real exchange rate, but application is complicated by structural change after Apartheid and the assumption of equilibrium on average over the sample. - Other structural indicators broadly support a chronic but moderate competitiveness problem: South Africa’s share of global export markets has expanded since mid-2000s but less rapidly than most large EMs; export volumes have grown slower than import demand in trading partners. ### Job-creating policies — product and labor market reform - Structural characteristics of product and labor markets have contributed to preserving inequality and high unemployment. - High unemployment results from chronic skill and geographical mismatches and from policies, product market structure, and labor market arrangements that protect insiders at the expense of the unemployed. - High margins in product markets and wages in labor markets have resulted in uncompetitive domestic costs of production, eroding external competitiveness and excluding part of the population from formal activity. - Labor market arrangements have set entry-level wages above productivity of inexperienced workers, including through relatively high minimum wages. - The struggle over rents between highly concentrated, oligopolistic firms and strong labor unions has resulted in large economic losses associated with frequent labor strikes. - Although real wages and labor productivity are cointegrated in the long run, episodes of large wage increases (e.g., 2008–10) tend to have long-lasting effects on unemployment and hiring incentives. - The relatively high labor cost discourages labor demand, especially for new market entrants, and helps explain the low share of labor income on GDP, which has declined over the last two decades in line with peer EMs. - A durable pickup in job creation that reduces mass unemployment seems unattainable without major labor and product market reforms. - Increasing product market competition can help reduce margins in consumer products: - Continue strengthening the antitrust legal framework and enforcement. - Strengthen the competition commission to crack down on abuse of market dominance and collusive behavior. - Raise penalties for market misconduct and shorten timeframes for due process. - Improve product market regulations, especially those for setting up new firms. - Public sector can promote competition where state-owned enterprises have a presence; consider opening sectors reserved for public enterprises to private competition. - Crossborder cooperation between jurisdictions where cartels operate could help contain anticompetitive practices in South Africa. *Source: 2012 Article IV Report — South Africa (excerpt: "33. The highly flexible exchange rate").* ### 44. More flexibility in the wage-setting ### 44. More flexibility in the wage-setting ### Wage-setting flexibility and employment - More flexibility in the wage-setting mechanism, supported by well-designed and targeted active labor market measures, can support employment by better aligning wages with productivity levels at the firm level. - A more flexible wage bargaining mechanism for small, and medium enterprises (SMEs) or newly created businesses, as well as more flexible labor laws and regulations, are essential to improve the business environment and increase employment opportunities, especially for newcomers with limited skills. - Draft labor law amendments in Parliament may reduce employment as they imply restrictions on the flexible contractual arrangement that led to large increases in employment during 2004–07 (Figure 11). - OECD product market regulations index: South Africa ranks poorly compared to the OECD median because regulations remain a substantial entry barrier for new firms. ### Active Labor Market Policies (ALMP) and short-run employment support - Short-run employment support measures suggested: - Temporary youth wage subsidies. - Transport subsidies for job seekers. - Schemes to provide working experience and on-the-job training. - Temporary public work programs as a safety net if wages are kept low (self-selecting and would not permanently increase the public wage bill). - Design cautions: - Schemes should be carefully designed to prevent abuse and create net employment. - Spending should be tightly controlled given the fiscal cost of such schemes. - Staff view: Recent increase in public sector employment is not a cost effective or efficient way to increase employment; it may crowd out critical health and education spending and put upward pressure on wages, limiting impact on aggregate employment. ### Existing ALMP programs and fiscal magnitudes - According to the Budget Review, existing ALMP programs include: - Training courses and apprenticeships to enhance skills. - 125 labor centers offering job-search and job-matching services. - Public work programs that provide short-term jobs to the unemployed. - A Jobs Fund to support projects with the potential to create a large number of jobs. - Training layoff schemes to subsidize the temporary suspension of work in favor of training. - Government spending on public work programs: - Increased from R4.2 billion (0.6 percent of consolidated government expenditure) in 2008/09 - To R7.8 billion (0.8 percent of expenditure) in 2011/12. ### Authorities’ views on reforms - Authorities emphasized the need for product market reforms to complement labor market reforms and felt greater emphasis should be placed on product market reforms. - Political economy constraints: Difficulty of carrying out radical labor market reforms given historically hard-won labor movement rights. - COSATU (largest umbrella labor union) emphasized: - Greater emphasis should be given to temporary public works programs. - In its present form, the youth wage subsidy would not lead to a net increase in permanent employment. - Current labor protection laws do allow for SMEs to be exempted from certain collective bargaining agreements; authorities clarified this is very difficult to achieve in practice. ### Regional integration and spillovers - South Africa’s de facto economic and financial integration with sub-Saharan Africa (SSA) has significantly expanded in recent years. - Key facts: - South Africa’s exports to the region amounted to about 15 percent of exports in 2011. - SSA accounts for a third of South African manufacturing exports. - Progress on regional trade and infrastructure: - SADC free trade agreement: with three country exceptions, should be fully implemented in 2012 with almost all tariff lines traded duty free. - June 2012 SADC summit highlighted a regional infrastructure development master plan for energy, transport, and other key sectors. - Tripartite negotiations (SADC, EAC, COMESA) aim to conclude negotiations by 2014 and implementation by 2015, with a work plan focusing on infrastructure for regional trade. - SACU integration: Reform of the 2002 revenue sharing formula has identified principles to improve predictability; SACU members working on industrial development, trade facilitation, common institutions, and joint trade negotiations. - Spillover note: Increased integration raises scope for inward and outward spillovers; SSA’s dependence on commodity prices (and thus China) increases South Africa’s exposure to China. ### Financial stability and banking sector resilience - Summary findings: - South African banks proved resilient to the 2008–09 global financial crisis. - Financial soundness indicators remain at comfortable levels and have partially recovered from the crisis. - Banks have increased capital adequacy ratios and liquidity buffers, currently well above regulatory limits. - Profitability has started to increase from a low base as a decline in impaired loans has offset large increases in operational costs. - Risks and vulnerabilities: - Heavy exposure to fluctuations in house prices through mortgage collateral; by May 2012, house prices had declined by 7 percent in nominal terms from their peak in August 2011. - Banks subject to business cycle risks that would increase impaired loans and compromise profitability, especially if unemployment rises. - Liquidity risk from dependence on short-term domestic wholesale liabilities, though this funding has been stable because it largely corresponds to contractual savings in pension and insurance schemes. - Low profitability could tempt banks to seek higher yields and take increasing risks. - Rapid expansion in unsecured lending, albeit from a low base, requires close monitoring. - Institutional reforms and Basel III implementation: - Staff welcomes program to strengthen legal framework for bank supervision and crisis management, including a 'twin peaks' regulatory structure separating prudential regulation/supervision and market conduct. - Ongoing Financial Stability Board peer review will focus on interagency coordination, 'twin peaks' introduction, and OTC derivatives market reforms, including self assessment of FSAP and ROSC recommendation implementation. - Progress toward Basel III: - South African banks already meet more stringent capital requirements. - Authorities adopted alternative treatment to meet Basel III liquid coverage ratio requirements; SARB created a liquidity facility and allowed banks to count statutory reserves as high quality liquid assets. - Difficulty meeting the net-stable-funding ratio by the 2018 implementation date could result in higher interest rates or deleveraging; staff recommends engaging constructively with the Basel Committee on the stability of rand wholesale funding and seeking opportunities to extend the duration of bank liabilities. - Capital controls and macroprudential stance: - Staff supports a gradual and cautious pace in liberalizing capital controls and replacing them with prudential regulations addressing underlying risks. - Liberalization of limits on foreign investments of domestic nonbank institutional investors should proceed slowly to allow time to address liquidity risk for banks that depend on domestic wholesale funding. *Source: IMF staff report chapter titled "44. More flexibility in the wage-setting" (South Africa 2012 Article IV Report).* ### 58. The authorities have decided not to ### _cr12247 - 58. The authorities have decided not to ### Capital inflow management measures (CFMs) - The authorities have decided not to add capital inflow management measures to their policy toolkit at this time. - Decision reflects: - Careful examination of experiences of other countries. - Subsided pressures for adopting such measures with global stress arising from Europe. - Concerns including South Africa’s large reliance on foreign savings, doubts about the effectiveness of CFMs, and possible unintended effects if inadequately designed and calibrated. - Staff advice if CFMs were to be added in the future: - They should complement rather than substitute macroeconomic policy adjustments. - Authorities’ past responses to capital inflow episodes have been eclectic, including: - Allowing the exchange rate to appreciate. - Maintaining an accommodative monetary stance. - Liberalizing capital outflow controls. - Building international reserves. ### Staff appraisal — macroeconomic stability and policy frameworks - Key findings: - South Africa’s economic and financial policy frameworks have reliably delivered domestic and external stability. - The inflation targeting regime has anchored inflation expectations within the 3–6 percent target range. - The flexible exchange rate regime has helped cushion large real and financial external spillovers. - Credibility in the government’s ability to pay back its mostly rand-denominated debt has allowed maintenance of public spending plans despite fiscal revenue decline. - This credibility depends on the government’s ability to generate surpluses to honor future debt payments and the SARB's ability to maintain a predictable value of the rand. ### External environment and growth risks - Distress in Europe has delayed South Africa’s recovery; recovery expected to pick up over the next few years to close the persistently negative output gap, but risks are tilted to the downside. - A severe intensification of the euro area crisis would negatively affect South Africa mainly through real sector channels, especially if it affects global risk aversion and investor confidence. ### Monetary policy assessment - Monetary policy stance has appropriately reacted to the slowdown. - Although nominal rates have remained unchanged since November 2010, the pickup in inflation expectations toward the upper end of the band has de facto implied additional stimulus from lower real interest rates. - The large degree of uncertainty requires close vigilance from the SARB to provide as much stimulus as possible while keeping one-year-ahead inflation expectations within the target. ### Fiscal policy and public spending composition - The more gradual fiscal consolidation is broadly appropriate, but rebalancing the composition of public spending remains a priority. - Within the overall spending envelope envisaged: - The wage bill needs to fall. - Capital spending needs to increase, especially for priority areas such as health and education. - The new drive for public infrastructure in network industries should help remove bottlenecks holding back growth opportunities. - Given large uncertainties in the world economy, any revenue overperformance should be saved to reduce debt accumulation. ### Policy space and countercyclical tools - After four years of monetary and fiscal stimulus, policy space to deal with adverse shocks has significantly diminished. - This is particularly acute on the fiscal side, where space will further shrink with global stress as fiscal revenue is likely to decline. - In contrast, monetary space will likely widen under a deflationary scenario, suggesting heavier reliance on countercyclical monetary policy to cushion adverse spillovers. ### External competitiveness and structural factors - Despite recent currency depreciation, South Africa continues to face an external competitiveness problem. - Contributing factors: - High domestic costs of production from inadequate public infrastructure. - Market power in product and labor markets. - Burdensome regulations inhibiting labor and product market entry and flexibility. - Structural imbalance from low domestic savings relative to large investment needs, implying a more depreciated rand in the medium-term to service foreign liabilities, even if rand denominated. ### Unemployment and structural reforms (four-pronged approach) - High unemployment, especially among the young, could become politically and socially unsustainable. - Recommended four-pronged approach: - Labor and product markets reforms to increase flexibility, contestability, and access to reduce domestic costs of production. - Improved service delivery in health and education to improve human capital, marketable skills, and entrepreneurship of the currently unemployed. - Short-term active labor interventions to create first-time employment opportunities for the young. - Better infrastructure in network industries to remove bottlenecks and support higher growth rates. ### Vulnerabilities and financial sector soundness - Although vulnerabilities remain low, risks have increased. - External debt remains moderate and about half of it rand denominated. - International reserves are currently adequate, but the expected increase in foreign liabilities warrants increasing reserve coverage over the medium term. - South African financial institutions remain sound, liquid, and profitable, and impaired loans have started to decline. - Direct crossborder exposures are limited, but institutions would be indirectly affected through real sector channels, which would tend to increase impaired loans. ### Consultation cycle recommendation - Staff recommends that South Africa remains on the standard 12-month Article IV consultation cycle. ### Authorities’ response to past IMF recommendations (summary) - Fiscal policy: Broadly consistent — The 2012 Budget calls for rebalancing public spending and wage moderation; implicit real annual primary spending growth is 2.7 percent over the 3-year budget horizon. - Public enterprises: Fully consistent — Eskom planning to ramp up investment; in 2013 will start partial operations one of the two power plants that will increase installed capacity by [20] percent by 2018. - Monetary policy: Fully consistent — Policy rate kept unchanged while inflation expectations remained within the target band. - Reserve policy: Marginally consistent — Reserves have fluctuated around a relatively stable level, partly reflecting valuation changes. - Capital flow management: Broadly consistent — One of the most flexible exchange rate regimes in emerging markets; No capital inflow management measures have been added to the toolkit. - Labor reforms: Inconsistent — Labor regulations protect worker rights but may impose rigidities; amendments to labor laws would constrain labor brokers, affecting labor market flexibility. - Product market regulation: Broadly Consistent — New Companies Act and other measures ease business entry/exit and encourage small businesses. - Financial sector policy: Fully consistent — Significant overhaul in laws and regulations to adopt FSAP recommendations and Basel III initiatives and to set up the twin-peaks system. ### Risk Assessment Matrix — selected entries - 1. Strong intensification of the euro area crisis - Relative Likelihood: Medium - Impact if Realized: Medium to High - Notes: Would directly affect about ¼th of South African exports, especially manufactured goods; indirect effects via commodity prices and global risk aversion. - 2. Sharp slowdown in China - Relative Likelihood: Low - Impact if Realized: Medium to High - Notes: Would directly affect about 12 percent of South African exports; indirectly affect South Africa’s exports to sub-Saharan Africa (about 15 percent of exports). - 3. Idiosyncratic adverse terms of trade shock - Relative Likelihood: Medium (slowdown in economic activity may lead to lower commodity prices); Low (oil prices may increase beyond cyclical levels) - Impact if Realized: Medium - Notes: Lower commodity prices reduce domestic demand; sharp rise in oil prices increases headline inflation and could affect refining costs. - 4. Sharp fall in nominal house prices - Relative Likelihood: Low - Impact if Realized: Medium - Notes: Home mortgages account for a significant share of banks’ loan portfolios; a sharp drop may increase nonperforming loans and erode capital. - 5. Large capital inflows - Relative Likelihood: Medium (easy external conditions may result in high inflows) - Impact if Realized: Low to Medium - Notes: Large inflows ensure low interest funding but resulting real appreciation may affect growth if not accompanied by booming external activity. - 6. Ratings downgrade - Relative Likelihood: Medium - Impact if Realized: Low - Notes: A possible downgrade has already been priced in and partly offset by inclusion of South Africa in Citi’s emerging market index. *Source: IMF staff report excerpts contained in the provided content unit.* ### 6. Regulatory deleveraging ### 6. Regulatory deleveraging ### Risk assessment - MediumLow ### Key finding - As currently defined, the BIS’s net stable funding ratio may require South African banks to replace their domestic wholesale funding with more expensive funding, to increase their liquidity, or to deleverage. - These adjustments may affect bank profitability and hurt credit growth. ### Contextual note - 1 The RAM shows events that could materially alter the baseline path—the scenario most likely to materialize in staff’s view. *Source: _cr12247 - 6. Regulatory deleveraging* ### Appendix III. South Africa: Real Wage, Labor Productivity, and Employment ### Appendix III. South Africa: Real Wage, Labor Productivity, and Employment ### Employment losses and recent trends - The recent financial crisis hit South Africa’s labor market severely: in 2009–10, South Africa lost about three-quarters of a million jobs—equivalent to about 5 percent of total employment at end-2008. - Unemployment, which already hovered above 20 percent during the precrisis period, increased further to about 25 percent. - In 2011 the trend was partially reversed; however job creation continued to be rather weak and insufficient to make a substantial dent in unemployment. ### Real wage growth, productivity, and timing of adjustment - Real wages increased rapidly in recent years and outpaced the growth of labor productivity in the non-agricultural sector. - Empirical findings point to a clear long-term link between the real wage and labor productivity, but deviations from “equilibrium” are persistent: - Deviations take about 10–12 quarters on average to revert. - Persistent deviation from equilibrium was reflected in a high increase in nominal unit labor cost. - Nominal unit labor cost increased during 2009-2010 by about 20 percent on a cumulative basis. ### Contribution of excess real wage growth to employment decline - A sectoral panel analysis focused on 2008–11 in South Africa confirms that higher excess real wage growth (real wage growth above labor productivity growth) significantly contributed to the decline in formal employment. - Back-of-the-envelope calculations suggest that the excess real wage growth accounts for at least 25 percent of the employment loss in 2008–2010. ### International perspective on the wage–productivity link - Cross-country analysis confirms that labor productivity growth has, on average, a positive and significant impact on real wage growth. - In South Africa, the link between real wage growth and labor productivity growth is substantially weaker than in other emerging markets, even after controlling for labor market tightness indicators such as: - unemployment, and - labor absorption rate. ### Select quantitative indicators (as shown in figures) - Figure 1 (cumulative growth of real wage and labor productivity of the non-agricultural sector) displays the following values (Percent) associated with the periods shown: - 12.3 - 8.4 - 6.8 - 16.8 - 13.2 - 9.3 - 9.0 - 7.1 - 6.2 - Figure 2 illustrates the cointegrating links between non-agricultural labor productivity and real wage, with axes spanning -0.08 to 0.08 (real wage deflated by CPI and by GDP prices). *Source: Appendix III. South Africa: Real Wage, Labor Productivity, and Employment (IMF staff summary).* ### 2005. At the same time, benchmarking was ### _cr12247 - 2005. At the same time, benchmarking was ### Real sector and labor market statistics - Real sector data reporting for International Financial Statistics (IFS) is timely. - Labor market statistics are published with lags of three months. - Given the seriousness of the unemployment problem, labor market analysis and policy design would benefit from better, more frequent and timely labor market data. - A new quarterly Labor Force Survey has been conducted in January 2008. ### Consumer Price Index (CPI) - The CPI covers all households living in metropolitan and urban areas, which represent approximately 56 percent of the total number of households and 75 percent of private consumption expenditure. - The CPI weights were rebased in January 2009 according to the new weights published in July 2008. - Current price indices, which were rebased to 2008=100, are calculated according to these weights. - These indices form the basis for calculating the year-on-year changes in the CPI for 2009 and the month-on-month change between December 2008 and January 2009. - New weights for the CPI will be introduced in January 2013 based on the 2010/11 Income and Expenditure Survey. - The CPI indices will be rebased to 2012, and the historical rates of inflation will not be revised backward. ### Government finance statistics - Data are compiled and disseminated according to the GFSM 2001 framework. - Data for social security funds and central government’s extra budgetary funds have been reported on an accrual basis, starting in 2000 and 2002, respectively. - Starting in 2005, the authorities have included additional noncash data, consistent with their migration to accrual accounting. - South Africa currently reports data for the consolidated general government for publication in the Government Finance Statistics Yearbook. - South Africa also reports monthly data covering the cash operations of the budgetary central government for publication in IFS. ### Monetary statistics - Monetary statistics compiled by the SARB are consistent with the methodology recommended in the Monetary and Financial Statistics Manual. - South Africa regularly reports good quality monetary statistics for publication in the IFS and the IFS Supplement. - There is room for improving the timeliness of the data on nondepository financial institutions. ### Balance of payments and external statistics - Balance of payments data are broadly consistent with the fifth edition of the Balance of Payments Manual (BPM5). - Authorities are working with partners in the Southern African Customs Union (SACU) to improve the coverage of intra-SACU trade flows. - Data reported for Direction of Trade Statistics differ substantially from external trade data reported for IFS, particularly exports, because of balance of payments adjustments. - Data on international reserves position are disseminated in line with the requirements of the IMF’s template on international reserves and foreign currency liquidity. - Work is ongoing to improve the reliability and accuracy of balance of payments data, with the aim of reducing the number of errors and omissions. - Export and import price deflators are expected to be revised in 2013. ### Bank and IMF planned activities (June 2012–May 2013) — summary of key items - Bank Work Program highlights: - $3.75b Eskom operation (Ongoing) - $500m renewable (solar and wind) operation (Ongoing) - Possible urban sector fee-based TA program (Ongoing) - ROSC accounting and auditing report (November 2012) - PFM dialogue (Ongoing) - PETS on HIV/AIDS in KZN province (December 2012) - National Health Insurance dialogue (Ongoing) - Economics of Township Report (February 2012) - Other items: Economic updates (Semiannual), Financial sector stability (Ongoing), Economic Diversification and MSME Development (Ongoing), Study on private sector development in less developed regions (November 2012), Monitoring and Evaluation technical assistance (Ongoing), Rural development and land reform fee-based program (Phase II) (2013) - IMF Work Program: - Staff visit (November 2011) - 2013 Article IV Consultation (May 2013. July 2013) - Joint products in the next 12 months: - No joint products planned at this time ### Table of Common Indicators (as of June 25, 2012) — selected metadata and data-frequency notes - Exchange rates: Latest observation 6/25/12; Date received 6/25/12; Frequency of data: D; Frequency of reporting: D; Frequency of publication: D. - International reserve assets and reserve liabilities of the monetary authorities: Latest observation 5/12; Date received 6/7/12; Frequency: M; Reporting: M; Publication: M. - Reserve/base money: Latest observation 5/12; Date received 6/17/12; Frequency: M; Reporting: M; Publication: M. - Broad money: Latest observation 4/12; Date received 5/30/12; Frequency: M; Reporting: M; Publication: M. - Central bank balance sheet: Latest observation 5/12; Date received 6/17/12; Frequency: M; Reporting: M; Publication: M. - Consolidated balance sheet of the banking system: Latest observation 4/12; Date received 5/01/12; Frequency: M; Reporting: M; Publication: M. - Interest rates: Latest observation 6/25/2012; Date received 6/25/12; Frequency: D; Reporting: D; Publication: D. - Consumer Price Index: Latest observation 5/12; Date received 6/20/12; Frequency: M; Reporting: M; Publication: M. - Revenue, expenditure, balance and composition of financing – general government: Latest observation 4/12; Date received 5/31/12; Frequency: M; Reporting: M; Publication: M. - Revenue, expenditure, balance and composition of financing – central government: Latest observation (4/12); Date received 6/10/12; Frequency: M; Reporting: Q; Publication: Q. - Stocks of central government and central government-guaranteed debt: Latest observation 5/12; Date received 6/29/12; Frequency: Q; Reporting: Q; Publication: Q. - External current account balance: Latest observation Q1 2012; Date received 6/21/12; Frequency: Q; Reporting: Q; Publication: Q. - Exports and imports of goods and services: Latest observation 4/12; Date received 5/31/12; Frequency: M; Reporting: M; Publication: M. - GDP/GNP: Latest observation Q1 2012; Date received 5/29/12; Frequency: Q; Reporting: Q; Publication: Q. - Gross external debt: Latest observation Q1 2012; Date received Q2 2012; Frequency: Q; Reporting: Q; Publication: Q. - International investment position: Latest observation 2010; Date received 11/2011; Frequency: A; Reporting: A; Publication: A. - Data quality assessments reference the data ROSC (October 2001) and use observations: O (fully observed), LO (largely observed), LNO (largely not observed), NO (not observed). - Footnote: Includes reserve assets pledged or otherwise encumbered as well as net derivative positions. ### Debt Sustainability Analysis — external debt and public debt projections and risks - External debt projection: - South Africa’s external debt is projected to reach 42 percent of GDP by 2017. - The 15 percentage point increase in the external/GDP ratio reflects a widening of the current account deficit to around 6 percent of GDP in 2014-17. - Drivers cited: strengthening growth buoying import demand, recent gains in the terms of trade unwinding, rising profits and global interest rates spurring dividend and interest outflows. - The deficit is expected to be financed to a large extent by non-resident portfolio investment, including portfolio equity (which does not add to the debt stock), and local-currency bonds, with only a small share expected to come from foreign-currency denominated debt. - The public-sector borrowing requirement is expected to be financed partly by nonresidents through international bond issues, purchases of domestic bonds, and multilateral loans for infrastructure projects. - Vulnerabilities and stress-test outcomes: - The rising external debt ratio only slightly increases South Africa’s vulnerability to external shocks and rollover risk; risks look manageable against a range of other shocks. - The large share of debt denominated in local currency, and at fixed rates of interest significantly lowers risks. - Stress tests indicate the largest adverse impact would arise from: - a 30 percent exchange rate depreciation, which would push the external debt ratio to 54 percent by 2017; - a further widening of the non-interest current account deficit, which would push the external debt ratio to 48 percent by 2017. - The report notes these are likely to represent upper bound estimates, since the standard DSA does not capture the likelihood of exchange rate weakening if those shocks were to materialize, and therefore narrower trade deficit. - A large (one standard deviation) permanent shock to real GDP growth and the standard shock to interest rates have only minor effects, and the combined shock has a moderate effect on external debt levels. - Public debt outlook: - South Africa’s public debt position appears sustainable. - Under the policies in the medium-term expenditure framework outlined in the 2012/13 budget: - The ratio of government debt to GDP is expected to rise over the short term from 39 percent in 2011 to a maximum of 42 percent in 2014 — of which, some 2.5 percent of GDP is expected to be denominated in foreign currency — before declining gradually thereafter. - Gross financing needs peaked at some 8 percent in 2009, and steadily decline afterwards to below 3 percent in the medium term. - Total public debt is projected to rise in the short term as public enterprises borrow to help finance the accelerated investment expansion, but total public debt is projected to peak at close to 55 percent of GDP by 2015. *Source: SOUTH AFRICA 2012 ARTICLE IV REPORT—INFORMATIONAL ANNEX (excerpt).* ### 4. The ratio of government debt-to-GDP ### 4. The ratio of government debt-to-GDP ### Debt-ratio robustness and scenarios - The debt ratio "appears broadly robust to a variety of shocks, including weaker GDP growth, a lower primary balance, a 30 percent real depreciation of the exchange rate, and a 10 percent increase in the debt stock (Figure 2)." - Under most scenarios "the government debt ratio rises above the baseline over the projection period by only modest margins." - Exception: "no policy change" scenario — the debt ratio "rises sharply and reaches 49 percent of GDP at the end of projection period," mainly owing to "the recent sharp deterioration in fiscal balance." ### External debt: baseline projections and identified flows (Table 1) - Baseline: External debt (percent of GDP) by year: - 2007: 26.4 - 2008: 26.6 - 2009: 27.6 - 2010: 28.7 - 2011: 27.3 - 2012: 32.0 - 2013: 33.8 - 2014: 35.7 - 2015: 37.7 - 2016: 39.8 - 2017: 42.0 - Debt-stabilizing non-interest current account: -7.6 - Change in external debt (percent of GDP) by year: - 2007: 4.5 - 2008: 0.2 - 2009: 1.1 - 2010: 1.1 - 2011: -1.4 - 2012: 4.7 - 2013: 1.8 - 2014: 1.8 - 2015: 2.0 - 2016: 2.1 - 2017: 2.2 - Identified external debt-creating flows (4+8+9) by year: - 2007: 1.1 - 2008: 6.1 - 2009: -2.2 - 2010: -3.8 - 2011: -2.7 - 2012: 0.0 - 2013: -1.6 - 2014: -1.7 - 2015: -2.2 - 2016: -2.4 - 2017: -2.6 - Current account deficit, excluding interest payments (percent of GDP) by year: - 2007: 5.5 - 2008: 5.4 - 2009: 3.0 - 2010: 2.0 - 2011: 2.2 - 2012: 3.5 - 2013: 3.6 - 2014: 4.1 - 2015: 4.0 - 2016: 3.9 - 2017: 3.7 - Deficit in balance of goods and services (percent of GDP) by year: - 2007: 2.7 - 2008: 3.1 - 2009: 0.9 - 2010: 0.2 - 2011: 0.6 - 2012: 1.6 - 2013: 1.5 - 2014: 2.1 - 2015: 1.9 - 2016: 1.3 - 2017: 0.9 - Net non-debt creating capital inflows (negative) by year: - 2007: -3.7 - 2008: -0.5 - 2009: -5.1 - 2010: -2.2 - 2011: -3.0 - 2012: -4.0 - 2013: -5.7 - 2014: -6.3 - 2015: -6.8 - 2016: -7.0 - 2017: -7.0 - Automatic debt dynamics 1/ by year: - 2007: -0.7 - 2008: 1.1 - 2009: -0.1 - 2010: -3.6 - 2011: -1.9 - 2012: 0.5 - 2013: 0.5 - 2014: 0.5 - 2015: 0.5 - 2016: 0.6 - 2017: 0.7 - Contribution from nominal interest rate (percent) by year: - 2007: 1.5 - 2008: 1.7 - 2009: 1.1 - 2010: 0.8 - 2011: 1.1 - 2012: 1.2 - 2013: 1.5 - 2014: 1.8 - 2015: 1.9 - 2016: 2.0 - 2017: 2.1 - Contribution from real GDP growth by year: - 2007: -1.1 - 2008: -1.0 - 2009: 0.4 - 2010: -0.6 - 2011: -0.8 - 2012: -0.7 - 2013: -1.0 - 2014: -1.3 - 2015: -1.3 - 2016: -1.3 - 2017: -1.4 - Residual, incl. change in gross foreign assets (2-3) by year: - 2007: 3.4 - 2008: -5.8 - 2009: 3.2 - 2010: 4.9 - 2011: 1.3 - 2012: 4.7 - 2013: 3.4 - 2014: 3.6 - 2015: 4.3 - 2016: 4.5 - 2017: 4.8 - External debt-to-exports ratio (percent) by year: - 2007: 83.7 - 2008: 74.3 - 2009: 100.9 - 2010: 105.0 - 2011: 94.6 - 2012: 109.4 - 2013: 116.7 - 2014: 125.8 - 2015: 132.4 - 2016: 138.5 - 2017: 145.1 - Gross external financing need (in billions of US dollars) by year: - 2007: 68.1 - 2008: 93.9 - 2009: 74.3 - 2010: 56.8 - 2011: 65.6 - 2012: 69.9 - 2013: 76.0 - 2014: 83.9 - 2015: 85.6 - 2016: 91.6 - 2017: 97.0 - Gross external financing need (in percent of GDP) by year (selected shown): - 2007: 23.8 - 2008: 34.3 - 2009: 26.2 - 2010: 15.6 - 2011: 16.1 - Scenario with key variables at their historical averages 5/: 32.0, 32.3, 32.6, 33.2, 33.6, 34.0 - Key macroeconomic assumptions (selected): - Real GDP growth (in percent) historical average: 5.5; key series: 3.6, -1.5, 2.9, 3.1, 3.6, 2.1, 2.6, 3.4, 4.0, 3.9, 3.7, 3.7 - GDP deflator in US dollars (change in percent): 3.7, -7.4, 5.3, 24.3, 9.0, 10.4, 17.1, -5.4, 0.3, 1.3, 1.3, 1.3, 1.3 - Nominal external interest rate (in percent): 7.4, 6.2, 4.2, 3.9, 4.3, 5.7, 1.3, 4.4, 5.0, 5.5, 5.5, 5.5, 5.5 - Growth of exports (US dollar terms, in percent): 14.8, 9.1, -20.6, 27.6, 18.5, 13.6, 14.3, -1.5, 2.8, 3.1, 5.7, 5.9, 5.8 - Growth of imports (US dollar terms, in percent): 15.4, 8.9, -24.5, 24.5, 20.1, 15.9, 17.2, 1.7, 2.4, 5.3, 5.2, 3.7, 4.3 - Current account balance, excluding interest payments (percent of GDP): -5.5, -5.4, -3.0, -2.0, -2.2, -2.4, 2.4, -3.5, -3.6, -4.1, -4.0, -3.9, -3.7 - Net non-debt creating capital inflows: 3.7, 0.5, 5.1, 2.2, 3.0, 2.9, 2.0, 4.0, 5.7, 6.3, 6.8, 7.0, 7.0 ### Public sector debt: baseline projections and identified flows (Table 2) - Baseline: Public sector debt (percent of GDP) by year: - 2007: 28.3 - 2008: 27.4 - 2009: 31.5 - 2010: 35.3 - 2011: 38.7 - 2012: 40.2 - 2013: 41.2 - 2014: 42.0 - 2015: 41.7 - 2016: 40.3 - 2017: 38.1 - Debt-stabilizing primary balance 9/: -0.6 - Of public debt, foreign-currency denominated (percent of GDP) by year: - 2007: 3.8 - 2008: 4.3 - 2009: 4.1 - 2010: 3.7 - 2011: 4.1 - 2012: 3.5 - 2013: 2.8 - 2014: 2.6 - 2015: 2.3 - 2016: 2.1 - 2017: 1.9 - Change in public sector debt (percent of GDP) by year: - 2007: -4.3 - 2008: -0.9 - 2009: 4.2 - 2010: 3.7 - 2011: 3.4 - 2012: 1.5 - 2013: 1.0 - 2014: 0.7 - 2015: -0.3 - 2016: -1.4 - 2017: -2.2 - Identified debt-creating flows (4+7+12) by year: - 2007: -5.6 - 2008: -1.3 - 2009: 2.9 - 2010: 1.3 - 2011: 1.7 - 2012: 0.9 - 2013: 0.5 - 2014: -0.3 - 2015: -1.2 - 2016: -2.0 - 2017: -2.8 - Primary deficit (percent of GDP) by year: - 2007: -4.3 - 2008: -2.1 - 2009: 2.7 - 2010: 2.4 - 2011: 2.0 - 2012: 1.7 - 2013: 1.1 - 2014: 0.4 - 2015: -0.4 - 2016: -1.3 - 2017: -2.1 - Revenue and grants (percent of GDP) by year: - 2007: 29.6 - 2008: 29.8 - 2009: 27.8 - 2010: 27.5 - 2011: 27.5 - 2012: 27.6 - 2013: 27.9 - 2014: 28.2 - 2015: 28.6 - 2016: 29.0 - 2017: 29.4 - Primary (noninterest) expenditure (percent of GDP) by year: - 2007: 25.3 - 2008: 27.7 - 2009: 30.5 - 2010: 29.9 - 2011: 29.5 - 2012: 29.2 - 2013: 29.0 - 2014: 28.6 - 2015: 28.2 - 2016: 27.7 - 2017: 27.3 - Automatic debt dynamics 2/ by year: - 2007: -1.4 - 2008: 0.9 - 2009: 0.1 - 2010: -1.1 - 2011: -0.3 - 2012: -0.8 - 2013: -0.6 - 2014: -0.7 - 2015: -0.7 - 2016: -0.7 - 2017: -0.7 - Contribution from interest rate/growth differential 3/ by year: - 2007: -1.3 - 2008: -0.5 - 2009: 1.0 - 2010: -0.7 - 2011: -1.1 - 2012: -0.8 - 2013: -0.6 - 2014: -0.7 - 2015: -0.7 - 2016: -0.7 - 2017: -0.7 - Of which contribution from real interest rate by year: - 2007: 0.3 - 2008: 0.4 - 2009: 0.6 - 2010: 0.1 - 2011: -0.1 - 2012: 0.1 - 2013: 0.7 - 2014: 0.7 - 2015: 0.8 - 2016: 0.8 - 2017: 0.7 - Of which contribution from real GDP growth by year: - 2007: -1.6 - 2008: -0.9 - 2009: 0.4 - 2010: -0.8 - 2011: -1.0 - 2012: -0.9 - 2013: -1.3 - 2014: -1.5 - 2015: -1.5 - 2016: -1.4 - 2017: -1.4 - Contribution from exchange rate depreciation 4/: -0.1, 1.3, -0.9, -0.4, 0.8, ... - Other identified debt-creating flows: all years 0.0 - Residual, including asset changes (2-3) by year: - 2007: 1.3 - 2008: 0.3 - 2009: 1.3 - 2010: 2.4 - 2011: 1.7 - 2012: 0.6 - 2013: 0.6 - 2014: 1.1 - 2015: 0.9 - 2016: 0.6 - 2017: 0.6 - Public sector debt-to-revenue ratio by year: - 2007: 95.6 - 2008: 91.8 - 2009: 113.4 - 2010: 128.4 - 2011: 140.7 - 2012: 145.8 - 2013: 147.7 - 2014: 148.8 - 2015: 145.7 - 2016: 138.8 - 2017: 129.6 - Gross financing need (percent of GDP) by year: - 2007: 2.2 - 2008: 3.4 - 2009: 8.1 - 2010: 6.0 - 2011: 5.6 - 2012: 5.7 - 2013: 5.5 - 2014: 5.1 - 2015: 3.4 - 2016: 2.5 - 2017: 1.5 - Gross financing need (in billions of U.S. dollars) by year: - 2007: 6.4 - 2008: 9.3 - 2009: 23.1 - 2010: 21.8 - 2011: 22.7 - 2012: 24.0 - 2013: 23.9 - 2014: 23.4 - 2015: 16.3 - 2016: 12.6 - 2017: 8.1 - Scenario with key variables at their historical averages 7/: 40.2, 38.9, 38.1, 37.2, 36.0, 34.7 - Scenario with no policy change (constant primary balance) in 2012-2017: 40.2, 41.9, 43.9, 45.7, 47.2, 48.7 - Key macro-fiscal assumptions (selected): - Real GDP growth (in percent): 5.5, 3.6, -1.5, 2.9, 3.1, 2.7, 3.4, 4.0, 3.9, 3.7, 3.7 - Average nominal interest rate on public debt (in percent) 8/: 9.7, 10.3, 9.9, 8.6, 7.9, 7.5, 7.5, 7.3, 7.1, 6.9, 6.7 - Average real interest rate (nominal rate minus change in GDP deflator, in percent): 1.6, 2.0, 2.3, 0.8, -0.1, 0.6, 2.1, 2.2, 2.2, 2.2, 2.0 - Inflation rate (GDP deflator, in percent): 8.1, 8.3, 7.7, 7.9, 8.0, 6.9, 5.4, 5.1, 4.9, 4.7, 4.7 - Growth of real primary spending (deflated by GDP deflator, in percent): 11.3, 13.2, 8.7, 0.6, 1.9, 1.8, 2.4, 2.7, 2.3, 2.1, 2.2 - Primary deficit series repeated as above. ### Bound tests and shocks (Figures 1 and 2, summary) - Figures apply permanent one-half standard deviation shocks (individual shocks) and combined shocks; permanent 1/4 standard deviation shocks applied to real interest rate, growth rate, and current account balance (external debt) and to real interest rate, growth rate, and primary balance (public debt). - One-time real depreciation shock: "30 percent real depreciation" occurs; real depreciation defined as nominal depreciation minus domestic inflation. - Contingent liabilities shock: "10 percent of GDP shock to contingent liabilities" occurs in 2010 in public debt bound tests. - Gross Financing Need shown on right scales in Figure 1 and Figure 2. ### Executive Board assessment and policy recommendations - Immediate challenge: "calibrate the policy mix to support growth in the face of weak external demand, while making progress on reforms that promote long-run inclusive growth and social cohesion." - Fiscal policy: - "Pace of fiscal consolidation strikes the right balance between providing stimulus in the short run and ensuring long-term sustainability." - Priority: "rebalance the composition of spending away from the wage bill in favor of productivity-enhancing investments." - Encourage improving tax collection and "save any revenue over-performance, with a view to rebuilding fiscal buffers over the medium term." - Support for "gradual approach to reforming the National Health Insurance and social security systems, paying careful attention to their design, including financing options." - Monetary policy: - Supportive of current stance: "monetary policy should remain accommodative" with balance of risks tilted to downside. - Inflation targeting framework provides anchor; remain vigilant and adjust as warranted. - Exchange rate and external competitiveness: - "Highly flexible exchange rate regime has helped smooth the effects of external shocks." - Emphasize wage moderation and increased competition in product markets to enhance external competitiveness. - Support "cautious build-up of reserve buffers, taking into account the cost of holding reserves." - Employment and structural reforms: - "Job creation is an urgent national priority." - Support targeted active labor market policies, including temporary public works programs. - Need sustained efforts on labor and product market reforms, wage-setting mechanism, insider-outsider problems, and improving access to and quality of health care and education. - Financial sector: - Sector "remains sound, liquid, and profitable." - Encourage vigilance on risks including dependence on short-term wholesale funding and exposure to home mortgages and highly indebted households. - Support implementation of FSAP recommendations and progress toward Basel III benchmarks. - Support gradual and cautious approach to liberalizing capital controls on residents, replacing them with prudential regulations. ### Selected headline macroeconomic indicators (South Africa, 2008–2012) - Real GDP (annual percent change): - 2008: 3.6 - 2009: -1.5 - 2010: 2.9 - 2011: 3.1 - 2012 Proj.: 2.6 - CPI (end of period): - 2008: 10.1 - 2009: 6.3 - 2010: 3.5 - 2011: 6.1 - 2012 Proj.: 5.4 - Unemployment rate (percent): - 2008: 22.9 - 2009: 23.9 - 2010: 24.9 - 2011: 24.9 - 2012 Proj.: 22.7 - Broad money (annual percent change): - 2008: 14.8 - 2009: 1.8 - 2010: 6.9 - 2011: 8.3 - 2012 Proj.: 9.9 - National government budget balance (percent of GDP, calendar year): - 2008: -0.7 - 2009: -5.4 - 2010: -5.4 - 2011: -5.0 - 2012 Proj.: -4.8 - National government debt (percent of GDP, calendar year): - 2008: 27.4 - 2009: 31.5 - 2010: 35.3 - 2011: 38.7 - 2012 Proj.: 40.2 - External current account balance (percent of GDP): - 2008: -7.2 - 2009: -4.0 - 2010: -2.8 - 2011: -3.3 - 2012 Proj.: -4.8 - External debt (percent of GDP): - 2008: 26.6 - 2009: 27.6 - 2010: 28.7 - 2011: 27.3 - 2012 Proj.: 32.0 - Gross reserves (SARB, in months of next year's total imports): - 2008: 3.8 - 2009: 5.9 - 2010: 5.3 - 2011: 4.9 - 2012 Proj.: 4.8 - International liquidity position of SARB (in billions of U.S. dollars): - 2008: 33.5 - 2009: 39.0 - 2010: 43.4 - 2011: 47.9 - 2012 Proj.: 47.7 - U.S. dollar exchange rate (rand per U.S. dollar, end period): - 2008: 9.4 - 2009: 7.4 - 2010: 6.6 - 2011: 8.1 - 2012 Proj.: 8.2 *Source: INTERNATIONAL MONETARY FUND, 2012 Article IV Consultation — Debt Sustainability Analysis for South Africa.* --- _Source: https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2012/_cr12247.pdf_