## 2. Credit to Households (content unit _cr13303) ## Source details **Canonical URL:** [2. Credit to Households (content unit _cr13303)](https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2013/_cr13303.pdf) ## Other formats - [Markdown version](/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2013/_cr13303.pdf.md) - [Structured JSON version](/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2013/_cr13303.pdf.json) --- ### Context and macroeconomic backdrop - Growth averaged 3.3 percent since 1994, yielding a 40 percent increase in real per capita GDP and a 10 percentage point drop in the poverty rate. - Social assistance reaches more than half of all households. - Major structural challenges: - unemployment rate 25 percent (34 percent including discouraged workers); - youth unemployment rate 50 percent; - Gini coefficient 63. - Since the global financial crisis, growth averaged 3 percent (1.9 percent per capita) since 2009 versus 5 percent for EMs and 3.7 percent for commodity exporters. - Policy frameworks and institutions have strengthened, but implementation of structural reforms has been limited. ### Recent macro and financial developments - Real GDP growth: - Since 2009: averaged 3 percent (1.9 percent per capita). - 2012: growth dipped to 2.5 percent; mining strikes shaved 2 percentage points off exports and ½ a percentage point off GDP growth. - Q1 2013: GDP growth fell to 0.9 percent (lowest since 2009). - Domestic demand outpaced GDP; public consumption and public investment accounted for nearly 40 percent of growth since 2009. - SARB repo rate turned negative in real terms; interest rates at historical lows. SARB cut the repo rate by 50 basis points in 2012 despite inflation near the top of the 3–6 percent target range. - Rand depreciation since beginning of 2012: 23 percent. - Reserves: US$47 billion at end-June; about five months of imports and about 80 percent of the gross external financing requirement. ### Credit to households — recent patterns and vulnerabilities - Unsecured credit to households (mainly personal loans): - Has more than doubled over the past three years. - Now accounts for about 12 percent of banks’ total credit exposure. - Unsecured credit to low-income households rose from 1.6 to 2.2 percent of disposable income since 2008. - Roughly 85 percent of unsecured lending is granted by banks (mainly second-tier banks), remainder by nonbanks. - Year-on-year growth rate of outstanding unsecured credit remained elevated at 25 percent in May 2013 because the term lengthened significantly. - Mortgage and household leverage: - Residential mortgages account for about 36 percent of banks’ total credit and 56 percent of lending to households. - Over 35(50) percent of (new) mortgages have loan-to-value ratios above 80 percent. - CPI-adjusted house prices have dropped by 15 percent after 2008. - Household debt burdens amount to 76 percent of disposable income. - Debt service to disposable income is at 8 percent; a 200 bps increase in interest rates is estimated to bring this ratio to 10–14 percent. - Bank balance-sheet vulnerabilities: - Bank capital is well-above the regulatory minimum and profitability remains strong. - Combined with a large mortgage portfolio, banks’ exposure to highly leveraged households is 60 percent. - Banks have relatively low provisioning in international comparisons. - Banks’ reliance on short-term wholesale funding provided mostly by residents noted as a vulnerability. - Unsecured credit reported as current decreased in rand value (number of accounts) from 79 (74) percent to 74 (63) percent over the past year. ### Financial soundness and supervisory responses - Financial system remained broadly robust but rising vulnerabilities from household indebtedness and external financing needs were highlighted. - Supervisory and policy measures discussed or recommended include: - SARB urged banks to apply more stringent loan assessments and make adequate provisions. - Consider introducing quantitative affordability criteria (e.g., debt to disposable income ratios) accompanied by consumer protection measures. - Consider limits on mortgage loan-to-value ratios. - Bolster programs to improve awareness of the negative impact of over-indebtedness and strengthen debt-work out assistance for those in debt distress. - Resist proposals to expunge credit history of blacklisted individuals to avoid abrupt pull-back of lending. - Greater coordination among regulators ahead of the Twin Peaks implementation and study feasibility of extending regulation and supervision to shadow banking institutions. - Encourage retail deposits, especially low-cost accounts, to help banks meet the NSFR when it becomes operational. - Authorities seek to limit the use of debt collection via wage withholding. ### Outlook, projections, and key macro numbers - Growth projections: - 2013: 2.0 percent. - 2014: 2.9 percent. - Outer years: strengthen to about 3½ percent. - IMF staff estimate of potential growth: about 3 percent. - Output gap: remains slightly negative in 2018. - Unemployment: remains high throughout the projection period. - Terms of trade: projected to fall by 7 percent over 2013–2014 and stabilize thereafter. - Current account deficit: projected to be about 6 percent of GDP in 2013 and in 2014, and to fall only slightly in the outer years as public investment remains high. - Gross financing needs and balance-sheet metrics: - GFN estimated at 12.5 percent of GDP in 2012; expected to peak at 14.5 percent of GDP in 2014. - Projected debt-to-GDP ratio under baseline: 48 percent by 2018. - External debt: 36 percent of GDP in 2012; projected to reach 41 percent of GDP by 2018. - SOE debt stock at end-2012: 13½ percent of GDP. - Gross external financing need (in percent of GDP) projected to rise to 17.8 by 2018. ### Risks, scenarios, and stress tests - Main downside risk: a prolonged stop in capital inflows forcing disorderly adjustment of the twin deficits and causing a recession. - External triggers: - Continued global repricing of risk or term premia linked to unwinding of unconventional monetary policies. - Stronger U.S. recovery leading to sharp rise in long-term U.S. yields. - Further falls in gold prices and lower commodity prices. - Domestic triggers: - Escalating industrial tensions. - Further delays in new power plants coming on line. - Stress-test outcomes for external debt (by 2018): - 30 percent real exchange rate depreciation: external debt ratio rises to 53 percent. - Further widening of the noninterest current account deficit: external debt ratio rises to 45 percent. - Permanent half-standard-deviation growth shock → debt ≈ 56 percent of GDP (public debt). - Combined macro-fiscal shock → debt ≈ 57½ percent of GDP. - RAM selected items (likelihood / expected impact and policy response): - EM capital flow reversal: Likelihood M, Expected Impact H. Policy: let rand depreciate, provide FX liquidity, increase policy rates if needed. - Limited progress on structural reforms: Likelihood H, Expected Impact H. Policy: fiscal measures to ensure debt stabilization; structural reforms to drive growth. - Labor market disruptions and social unrest: Likelihood M, Expected Impact H. Policy: let rand depreciate, ease monetary policy, let automatic stabilizers work, broker national grand bargain if possible. ### Fiscal implications and policy guidance related to household credit risks - Recent fiscal developments: - General government deficits averaged 5 percent of GDP for the past four years. - Government debt increased by 15 percentage points to 42 percent of GDP. - National government primary deficit at 2.7 percent of GDP in 2012/13 versus the -1.9 percent of GDP primary balance necessary to stabilize debt under prevailing low interest rates. - Fiscal policy recommendations linked to stability: - Allow automatic stabilizers to work in the short term while remaining within expenditure ceilings, provided financing conditions allow. - Aim to reduce debt to around 40 percent of GDP in the medium term; announcing a debt benchmark around 40 percent of GDP by 2020 could bolster credibility. - Issue a comprehensive fiscal risk statement to strengthen monitoring of fiscal risks, including from public enterprise borrowing. - Re-orient spending toward investment and improve spending efficiency through expenditure reviews and program-performance-based budgeting. ### Structural reform priorities affecting household saving, credit, and employment - Structural issues constraining saving and employment: - Low household saving: households’ savings averaged about 2 percent of GDP; household saving was 1.7 percent of GDP in 2012. - High structural unemployment, adverse demographics, decline in labor share of income, and rising household debt are drivers of low household saving. - Product and labor market rigidities (insider-outsider dynamics, collective bargaining extensions, barriers to entry) reduce job creation and keep wages above market-clearing in some sectors. - Recommended reforms and measures: - Product market reform to boost potential growth by 1.2–1.5 percentage points (more if combined with transport, communication, and skilled labor supply reforms). - Labor market reforms: limit extending collective bargaining outcomes to nonparticipating firms; resist restrictions on temporary contracts; raise education attainments and focus on vocational training. - Measures to increase household saving: tax incentives (noted welcome in 2013 budget), proposed pension reforms including compulsory preservation, and reducing unemployment. - Encourage FDI via a one-stop shop for foreign investors and greater coordination among agencies. ### Authorities’ stance and specific supervisory preferences - Authorities view unsecured lending as enhancing financial inclusion and do not consider it systemic, though they recognize increased credit risk. - Authorities prefer a soft landing in unsecured credit growth and emphasize: - strengthening consumer protection; - improving households’ financial literacy; - formalizing affordability guidelines while avoiding overly tight constraints that could restrict credit access. - Authorities and SARB agree on readiness to move interest rates either direction and on maintaining a flexible exchange rate regime; authorities see merit in higher reserves and opportunistic accumulation. *Source: IMF staff report excerpt, “SOUTH AFRICA” (selected sections on credit to households, financial soundness, fiscal outlook, external vulnerabilities, structural reforms, and risk scenarios) — content unit _cr13303.* ### 2. Credit to Households __________________________________________________________________________ 26 ### 2. Credit to Households ### Context and macroeconomic backdrop - Growth averaged 3.3 percent since 1994, yielding a 40 percent increase in real per capita GDP and a 10 percentage point drop in the poverty rate. - Social assistance reaches more than half of all households. - Major structural challenges: unemployment rate 25 percent (34 percent including discouraged workers); youth unemployment rate 50 percent; Gini coefficient 63. - Since the global financial crisis, growth averaged 3 percent (1.9 percent per capita) since 2009 versus 5 percent for EMs and 3.7 percent for commodity exporters. - Policy frameworks and institutions have strengthened; macroeconomic stability and diversified economy exist, but implementation of structural reforms has been limited. ### Recent developments and growth performance - Real GDP growth: - Since 2009: averaged 3 percent (1.9 percent per capita). - 2012: growth dipped to 2.5 percent; mining strikes shaved 2 percentage points off exports and ½ a percentage point off GDP growth. - Q1 2013: GDP growth fell to 0.9 percent (lowest since 2009). - Domestic demand outpaced GDP; public consumption and public investment accounted for nearly 40 percent of growth since 2009. - Private consumption supported by solid disposable income growth and rising unsecured credit to households. - Private investment remained anemic despite strong corporate health and favorable financing conditions. - SARB repo rate turned negative in real terms; interest rates at historical lows. SARB cut the repo rate by 50 basis points in 2012 despite inflation near the top of the 3–6 percent target range. ### Financial market developments and external spillovers - Rand depreciation since beginning of 2012: 23 percent; depreciation and volatility among the highest for main EM currencies. - August 2012–April 2013: 10-year government bond yield rose by 40 bps while most EMs saw declines. - May–June 2013 turmoil: South Africa’s currency and bond sell-offs were among the largest in EMs. - Commodity prices, especially gold and platinum, experienced substantial declines. - Portfolio and other investment liabilities accounted for 5.1 percent of GDP in 2012, reflecting non-FDI financing of the current account deficit. - Nonresidents holdings: 34 percent of shares of the top 100 listed firms; about 36 percent of local government bonds held by nonresidents (from 13 percent in 2008). - External debt at 32 percent of GDP; IIP improved to -7 percent of GDP in 2011 from -18 percent of GDP in 2010 (rand depreciation effect). - Reserves: US$47 billion at end-June; about five months of imports and about 80 percent of the gross external financing requirement; at the low end of IMF adequacy metric. ### External position and competitiveness - Current account: - Averaged 3½ percent of GDP in the three years before 2012; deteriorated to 6.3 percent of GDP in 2012. - Q1 2013: improved marginally to 5.8 percent of GDP. - Terms of trade fell by 2 percent in 2012. - Share of manufacturing exports fell to just below 40 percent from above 50 percent in 2002; commodities account for almost all the rest. - IMF external balance assessment: current account deficit exceeded the level consistent with fundamentals and policies by 2–4 percentage points of GDP. - Mechanical application of trade elasticities would imply a 10–15 percent exchange rate overvaluation given the gap. - Structural factors, including low household savings, likely to keep external position weaker than fundamentals justify. ### Fiscal developments and risks - General government deficits averaged 5 percent of GDP for the past four years. - Government debt increased by 15 percentage points to 42 percent of GDP. - Wage bill nearly doubled since 2007/08 and now absorbs more than 35 percent of spending (EM peers average 22 percent), reducing expenditure flexibility and crowding out capital spending. - Public enterprise borrowing increased to 14 percent of GDP since 2007/08, raising contingent liabilities. - Agreement to limit public sector real wage increases to 1 percent for the next three years and the setting of explicit expenditure ceilings aim to facilitate withdrawal of fiscal stimulus. - National government primary deficit at 2.7 percent of GDP in 2012/13 versus the -1.9 percent of GDP primary balance necessary to stabilize debt under prevailing low interest rates (i.e., shortfall relative to debt-stabilizing primary balance). - Rising deficits have more than doubled the government’s gross financing need since 2008, which at 12 percent of GDP is above the EM average. Nearly 60 percent of the 2012/13 borrowing requirement was financed by nonresidents. - Debt-stabilizing primary balance estimated to increase to -0.6 percent of GDP in the medium term as global interest rates normalize. ### Structural problems: labor, product markets, and inclusion - Product and labor markets exhibit insider-outsider dynamics; collective bargaining between large incumbent firms and labor unions contributes to above-market-clearing wage settlements binding the entire sector. - Large incumbent firms partly a legacy of apartheid-era promotion of national champions and limited progress in reducing barriers to entry. - Poor education attainment and skill mismatches contribute to unemployment. - Spatial divides and limited entrepreneurship opportunities persist from apartheid, hindering SME development. - Burdensome regulations and, to a lesser extent, access to finance raise barriers to entry; SME creation and survival rates among the lowest in the world. - Crime is an important deterrent to economic activity in townships. - Employment growth: - 2010–12: employment grew 0.8 percent annually versus 1.6 percent in 2002–08, increasing unemployment from 21 percent to 25 percent. - All net job creation post 2009 occurred in the public sector; the private sector recovered only two-thirds of jobs lost during the global financial crisis. - With inflation at 5½–6 percent and wage settlements averaging 10 percent since 2008, the gap between real wages and productivity growth has widened. Wage demands in 2013 exceed inflation by large amounts. ### Implications for household credit and financial stability - Rising unsecured credit to households supported private consumption amid low real interest rates. - Financial system remained broadly robust, but market pressures in 2013 highlighted rising vulnerabilities from large external financing needs, high nonresident participation, low reserves, and fiscal pressures. - A worsening funding mix (increase in portfolio and other debt flows) increases exposure to shifts in global investor sentiment. *Source: IMF staff report excerpt, "SOUTH AFRICA" (selected sections on macroeconomic context, developments, structural issues, and vulnerabilities).* ### 14. Financial soundness indicators remain strong, but the rapid expansion of unsecured ### 14. Financial soundness indicators remain strong, but the rapid expansion of unsecured lending to households has increased credit risk. ### Financial soundness and household indebtedness - Bank capital is well-above the regulatory minimum and profitability remains strong. - Unsecured credit to households, mainly personal loans: - Has more than doubled over the past three years. - Now accounts for about 12 percent of banks’ total credit exposure. - Combined with a large mortgage portfolio, banks’ exposure to highly leveraged households is 60 percent. - Unsecured credit to low-income households rose from 1.6 to 2.2 percent of disposable income since 2008. - Household debt burdens amount to 76 percent of disposable income. - Banks have relatively low provisioning in international comparisons, increasing vulnerability to: - Higher interest rates. - Weaker household income growth. - Lower house prices. - Banks’ reliance on short-term wholesale funding provided mostly by residents is a vulnerability, though historically stable and tied to corporate deposits and contractual savings in pensions and insurance funds subject to capital controls. - South African banking groups’ expansion on the African continent requires improved home-host regulatory cooperation. ### Outlook and key macroeconomic projections - Growth projections: - 2013: 2.0 percent. - 2014: 2.9 percent (rebound). - Outer years: strengthen to about 3½ percent. - IMF staff estimate of potential growth: about 3 percent (subject to considerable uncertainty). - Output gap: remains slightly negative in 2018. - Unemployment: remains high throughout the projection period. - Terms of trade: projected to fall by 7 percent over 2013–2014 and stabilize thereafter. - Current account deficit: projected to be about 6 percent of GDP in 2013 and in 2014, and to fall only slightly in the outer years as public investment remains high. ### Risks and scenarios - Main downside risk: a prolonged stop in capital inflows forcing disorderly adjustment of the twin deficits and causing a recession. - External triggers: - Continued and substantial global repricing of risk or term premia linked to the unwinding of advanced economies’ unconventional monetary policies. - A stronger U.S. recovery leading to a sharp rise in long-term U.S. yields would have negative spillovers. - Further falls in gold prices with declining demand for safe haven assets. - Lower global growth rooted in Europe or persistent weaker growth in China and other major EMs could reduce commodity prices considerably, lowering South Africa’s exports and growth—especially damaging if combined with a financial shock. - Domestic triggers: - Escalating industrial tensions. - Further delays in new power plants coming on line. - Spillovers to Sub-Saharan Africa: - Deemed modest once global growth is accounted for, but larger on immediate neighbors due to currency pegs to the rand, Southern African Customs Union revenue sharing, people and financial flows. ### Structural reform potential and implications - Quicker implementation of structural reforms could materially boost growth and employment: - Product market reform could boost potential growth by 1.2–1.5 percentage points—more if combined with transport, communication, and skilled labor supply reforms. - Such reforms could increase employment by nearly 40 percent (research cited). - Without structural reforms, low growth and anemic job creation would increase economic vulnerabilities and social tensions. ### Monetary and exchange rate policy (demand management) - SARB monetary stance and inflation framework: - SARB kept rates on hold since July 2012. - Headline inflation likely to exceed the upper end of the 3–6 percent band temporarily. - Inflation expectations remain well anchored, close to the upper end of the target band. - Taylor-rule illustration: - With staff’s end-year forecasts: output gap about -1½ percent and inflation 5.7 percent, a simple Taylor rule suggests the repo rate could be cut modestly. - If inflation rises in line with historical exchange rate pass-through (15 percent), the Taylor rule suggests an increase in the policy rate. - Policy tradeoffs: - Moderate space for an interest rate cut could open if exchange rate pass-through is low and wage settlements are not excessive. - A rate increase may be needed if inflation risks materialize or in the event of a sustained stop in capital inflows. - Monetary easing could be used in the event of additional demand shocks. - Exchange rate and reserves: - South Africa has one of the most flexible exchange rates among EMs; foreign exchange risk on domestic balance sheets is limited. - Higher reserves would enhance the SARB’s ability to provide FX liquidity in disorderly conditions and lower the country’s risk premium. - The SARB has seldom intervened and has done so opportunistically; some countries build reserves via regular, pre-announced small FX-buying auctions—an option noted as potentially useful for South Africa. - Capital flow management: - Authorities have relied primarily on macroeconomic policies to manage volatile capital flows. - Inflows: initial policy response should rely on reserve accumulation and looser monetary policy where possible. - Large inflows/outflows that raise macroeconomic or financial stability risks could warrant capital flow management measures in certain circumstances, but not as a substitute for macroeconomic adjustment. - Outflow liberalization should consider implications for banks’ funding stability. - Savings and FDI: - South Africa’s saving rate is low relative to EMs, mainly due to low household saving. - The planned fiscal consolidation will help raise saving but may be partly offset by lower corporate saving. - Tax measures in the 2013 budget to promote savings are welcome; incentives for non-taxpaying people should be strengthened. - Proposed pension reforms, including compulsory preservation, are worth pursuing. - Reducing unemployment remains key to boosting household income and saving. - FDI should be encouraged to provide more stable external funding; a one-stop shop for foreign investors and greater coordination among agencies would help. ### Authorities’ views (selected) - Macro outlook: - Authorities broadly agree with staff on the macroeconomic outlook and note Q1 GDP weakness partly due to temporary factors and weaker external demand from Europe and China. - Domestic factors also contribute to sluggish growth and an elevated current account deficit. - Risks and policy stance: - Authorities concur on key risks but emphasize South Africa’s resilience in previous capital outflow episodes. - A slowdown or sudden stop in capital inflows would likely lead to sharp rand depreciation, possibly warranting higher interest rates if inflation risks emerge. - Authorities note prior episodes did not produce dollar shortages but acknowledge higher funding costs and lower GDP would require some fiscal adjustment. - The authorities view the risk of lower commodity prices as elevated and the risk of a deeper slowdown in Europe as high compared to the April 2013 WEO. - Monetary policy and exchange rate: - SARB is ready to move interest rates in either direction consistent with its flexible inflation targeting framework. - The SARB sees limits to monetary policy’s role in stimulating activity and stresses structural reforms to raise growth. - South Africa remains fully committed to its flexible exchange rate regime; some depreciation was warranted but the rand may have overshot and could appreciate once global turmoil settles. - Authorities agree South Africa would benefit from higher reserves and are working on modalities; recent reserve decline in May was due to repayment of a maturing Eurobond and is expected to be replenished when the sovereign issues an international bond later this year. ### Fiscal policy (selected) - 2013 budget adjustments: - Growth in real noninterest expenditure over the next three years reduced from an average of 2.9 in last year’s Medium Term Budget Policy Statement (MTBPS) to 2.3 percent per year—mainly by trimming underspent allocations and reducing the contingency reserve. - Objective: reduce the deficit to 3.1 percent of GDP by 2015/16. - Consolidation is more back-loaded compared with prior plans. *Source: _cr13303 - 14. Financial soundness indicators remain strong, but the rapid expansion of unsecured* ### 31. Mainly due to lower growth, the 2013 budget deficit is likely to be higher than ### _cr13303 - 31. Mainly due to lower growth, the 2013 budget deficit is likely to be higher than ### Fiscal outlook and 2013 budget - Staff projections suggest the 2013/14 deficit will fall marginally to 4.9 percent of GDP. - This is 0.3 percentage points higher than envisaged in the 2013 budget and 1.2 percentage points higher than envisaged in last year’s budget, reflecting the 1½ percentage point downward revisions to staff’s growth projections for 2013/14 relative to last year’s budget. - Relative to previous years, the margin for error in the budget has been reduced given cuts to the contingency reserve. - On a calendar year basis the deficit is projected to remain constant in 2013 due to a sharp deterioration in tax collection in the second half of the fiscal year as labor unrest in the mining sector negatively affected both corporate and personal income taxes. ### Debt projections and risks - Government debt is projected to stabilize at around 47 percent of GDP in 2018/19, 19 percentage points higher than in 2008. - Staff analysis suggests that in the absence of offsetting measures, even a modest shock to growth and interest rates would result in debt continuing to rise, with a 10 percent chance that debt will reach 63 percent of GDP by 2020. - State enterprise debt is expected to continue to increase. - Rising deficits have also raised gross financing needs. - The public debt sustainability analysis (DSA) based on the Fund’s new DSA template indicates South Africa’s government debt level remains manageable, but the relatively high bond spread, large financing requirements, and significant nonresident bond holdings pose risks. ### Fiscal policy stance and recommended near-term approach - Likely high multipliers in the current phase of the cycle and below-potential growth argue for allowing automatic stabilizers to work this year, while remaining within existing expenditure ceilings and improving the composition of spending, provided financing conditions allow. - Staff analysis suggests the authorities should aim to reduce debt to around 40 percent of GDP in the medium term. - Announcing a debt benchmark around 40 percent of GDP by 2020 and the measures to buttress it could help bolster the credibility of the fiscal outlook. - Issuing a comprehensive fiscal risk statement would strengthen monitoring of fiscal risks, including from public enterprise borrowing. ### Required fiscal adjustment to reach a 40 percent debt target - The fiscal path outlined in this year’s budget implies a 1.8 percent of GDP improvement in the primary balance to –0.4 percent of GDP by 2015/16. - If the debt target is to be reached in 2020, the primary balance would have to average around 0.5 percent of GDP in the post-Medium Term Expenditure Framework (MTEF) period. - The increasingly challenging financing outlook suggests it may be desirable to introduce some additional measures already during the MTEF-period to demonstrate a tangible improvement in the structural balance. - Government will need to reconsider revenue and expenditure plans within the MTEF-period, while protecting social transfers, if the economic environment deteriorates further or if financing conditions deteriorate sharply. - Because potential growth is not directly observable, if growth persistently disappoints, it would be prudent to adjust fiscal policy gradually. ### Measures to support adjustment and efficiency - Ongoing reforms to strengthen fiscal management—complemented by expenditure reviews and systematically taking into account program performance at all levels of government—could facilitate re-orienting spending toward investment and encourage spending efficiency. - Re-orienting spending toward investment and improving spending efficiency would deliver a more growth-friendly consolidation. ### Authorities’ views on fiscal discipline and reforms - The South African authorities remain committed to fiscal consolidation and rebuilding fiscal space to be able to conduct countercyclical fiscal policy. - Budget expenditure figures are generally regarded as ceilings and fiscal discipline has broad support. - The authorities agree debt should be low enough to have sufficient room to increase during downturns without destabilizing market expectations and fiscal dynamics. - The authorities will proceed cautiously with pension reforms and the implementation of the national health insurance to ensure affordability and consistency with fiscal sustainability. - The forthcoming long-term fiscal report will highlight tradeoffs in light of counter-cyclicality, debt sustainability, and intergenerational fairness. ### Financial sector policies and household indebtedness - In response to rapid growth in unsecured lending, the SARB has urged banks to apply more stringent loan assessments and make adequate provisions; unsecured credit is still rising rapidly despite some moderation in new lending. - Authorities are seeking to limit the use of debt collection via wage withholding to mitigate social implications of over-indebtedness. - South Africa has adopted Basel III earlier this year and envisages implementation of the Twin Peaks system from 2014; other initiatives include a committed liquidity facility, limited new style Basel III type bail-in capital instruments, and development of a deposit insurance scheme and improved crisis management framework. - Overall credit growth was 8.3 percent year on year in May. - Considered measures to manage rising credit risk and household indebtedness include: - Introducing quantitative affordability criteria (e.g., debt to disposable income ratios) accompanied by consumer protection measures. - Limits on mortgage loan-to-value ratios. - Bolstering programs to improve awareness of the negative impact of over-indebtedness and strengthening debt-work out assistance for those in debt distress. - Resisting proposals to expunge the credit history of blacklisted individuals, as this may lead to an abrupt pull-back of lending. - Greater coordination among regulators ahead of the Twin Peaks implementation and studying the feasibility of extending regulation and supervision to shadow banking institutions. - Measures to encourage retail deposits, especially low-cost accounts, to help banks meet the NSFR when it becomes operational. ### Authorities’ view on unsecured lending - Authorities consider unsecured lending not to pose systemic risks and view banks as managing credit risk well and being well-capitalized. - Unsecured lending to households has helped enhance financial inclusion; authorities aim for a soft landing without a sudden stop in credit provision. - The SARB shares concerns about a credit information amnesty that would eliminate some credit history and could induce a sharp reduction in bank lending or higher cost of credit to consumers. - Authorities emphasize strengthening consumer protection, improving households’ financial literacy, and formalizing affordability guidelines while avoiding overly tight guidelines. ### Structural policies and growth strategy (NDP and implementation) - The NDP aims to eliminate poverty and reduce inequality by 2030 by creating 11 million jobs on top of the existing 13½ million and increasing labor force participation to reduce the unemployment rate from 25 to 6 percent. - The NDP estimates this will require increasing growth to an average of 5½ percent between 2011 and 2030 by rebalancing the economy toward investment and raising productivity and competitiveness. - The plan includes proposals to improve infrastructure, education, healthcare, public service delivery, governance, and fighting corruption. - Near-term priorities include delivering a set of high-impact reforms ("quick wins") to build support and demonstrate implementation capacity; examples include piloting the National Treasury’s proposed youth employment incentive, implementing e-tolling, advancing legislative clarity, and bringing new power plant units online and starting construction of the manganese railway corridor. - Normalization of industrial relations, especially in mining, is critical to boost confidence. ### Product- and labor-market reforms - Reforms should be pursued jointly as part of a social bargain, including wage restraint in return for hiring commitments, measures to enhance product market competition, and improved public services (particularly education and training). - Product market reform recommendations: - Strengthen the Competition Commission’s ability to deal with abuse of market dominance, including moving to effects-based standards and raising firms’ costs for uncompetitive behavior and strengthening the Commission’s resources. - Identify entry barriers and regulatory mechanisms that protect incumbents; consider initially targeting a sector with extensive linkages such as Information and Communication Technology. - Align onerous product market regulation with international best practice and relax employment protection legislation to increase productivity. - Consider trade liberalization measures: reduce the number of tariff bands, lower tariffs, and remove tariffs on imports of raw materials and intermediate inputs. - The Licensing of Businesses Bill would likely add to administrative burden, especially for SMEs, contrary to NDP proposals to cut red tape. - Labor market reform recommendations: - Limit extending collective bargaining outcomes to nonparticipating firms to increase wage flexibility and reduce barriers for SMEs. - Resist proposals to restrict temporary contracts, given temporary employment has accounted for a large share of employment growth. - Raise education attainments and focus on vocational training to address skill mismatch. - Targeted transport subsidies for job seekers and greater competition in private transport could alleviate spatial dispersion constraints. ### Lessons and warnings from other economies - Experiences of Greece, Ireland, Portugal and Spain illustrate that low productivity growth, large current account deficits, and easy foreign financing can mask structural weaknesses; Spain and Ireland had public debt below 45 percent of GDP in 2008, showing debt dynamics can quickly become perverse when growth slows and risk premia climb. - Contingent liabilities from the financial sector are likely smaller than in Spain and Ireland, but public enterprises’ borrowing could crystallize contingent liabilities. - Lessons: do not postpone structural reforms; expansionary policies can buy time but not sustained growth; easy financing builds leverage that can move out of line with repayment capacity. ### Authorities’ implementation stance on structural reform - Authorities are working toward implementing the NDP and note progress in infrastructure, public service delivery, and accountability. - The National Planning Commission will release the first of a series of five-year plans after the elections in 2014 to coincide with the Government’s Medium-Term Strategic Framework. - Authorities continue to work toward developing social consensus to manage trade-offs between policy options. *International Monetary Fund staff report excerpt.* ### 48. Over the last two decades, South Africa has made great strides in economic and ### Over the last two decades, South Africa has made great strides in economic and ### Economic performance and vulnerabilities - Institutions and policy frameworks have delivered macroeconomic stability and living standards have improved markedly, but unemployment remains unacceptably high. - Market dominance in many sectors and rigidities in product and labor markets have produced an insider-outsider system that creates too few jobs and stifles growth. - In recent years growth has underperformed and vulnerabilities have increased. Domestic factors cited include: - flagging competitiveness, - an environment not conducive to investment, - labor unrest, - infrastructure bottlenecks. - Elevated fiscal and current account deficits, combined with greater dependency on external debt, have heightened vulnerabilities. ### Outlook and risks - The outlook is for sluggish growth, with considerable downside risks. - Government adoption of the NDP as a blueprint for reform is welcome, though progress on structural reforms is likely to be slow given entrenched opposition. - Main risks: - sudden and prolonged stop in capital inflows (domestic or external triggers, e.g., tighter global financing conditions), - escalating labor tensions, - lower global growth and commodity prices. ### Structural reforms and policy priorities - Demand management policies cannot address the root causes of weak growth; decisive progress on structural reforms (many in the NDP) is essential to boost inclusive growth, job creation, and lower vulnerabilities. - Quick wins can help build consensus and confidence. - Critical product and labor market reforms could be pursued as part of a social bargain. - Trade policy should not be used as a tool for industrial policy; trade liberalization could help promote competition and create jobs. - Staff recommends that South Africa remain on the standard 12-month Article IV consultation cycle. ### Fiscal policy stance - The need to support growth while managing vulnerabilities argues for a gradual consolidation while bolstering the credibility of the medium-term fiscal outlook. - With debt broadly in line with other EMs and weak growth, the government’s commitment to stick to the expenditure ceiling is welcome; revenue can be allowed to move with activity this year. - Authorities should prepare contingency measures that could be implemented quickly were funding conditions to deteriorate sharply. - Continued sluggish growth beyond this year, and the need to stabilize debt, will likely require measures. - Announcing a debt target that accounts for significant volatility in the South African economy could strengthen credibility. - Reforms to boost efficiency of public spending and improvements in expenditure composition would help make consolidation more growth-friendly. ### Monetary policy and exchange rate - The current monetary policy stance is appropriate and high inflation uncertainty warrants caution. - Critical factors for the next monetary move: evolution of capital inflows, exchange rate pass-through to inflation, and wage settlements. - The SARB is ready to move in either direction; in the event of additional demand shocks, monetary policy should provide most of the stimulus given diminished fiscal space. - Present inflation targeting regime has anchored expectations and provided flexibility. - Rand flexibility helps cope with global shocks; recent depreciation should help reduce the current account deficit. - Recommendation to increase international reserves to enhance ability to supply FX liquidity in disorderly market conditions; opportunistic FX purchases are warranted and consideration could be given to regular and pre-announced auctions. - Measures to boost FDI would lower external vulnerability, though structural reforms are needed to strengthen the low household saving rate and external position, which is assessed to be weaker than justified by fundamentals and desired policies. ### Financial system and household credit vulnerabilities - South Africa’s financial system is well capitalized and supervised, but risks from unsecured lending have risen, warranting some measures. - Ongoing regulatory and supervisory improvements include adoption of Basel III standards and the planned twin peaks system. - Rapid expansion of unsecured credit from a low base has contributed to financial inclusion but highlighted areas for new measures to bolster financial stability and help households manage high indebtedness. - Authorities’ watchful monitoring of unsecured lending to ensure risks do not become systemic is critical; increased coordination among regulators ahead of twin peaks implementation is warranted. ### Box 1 — External competitiveness: key findings - CPI-based REER declined by 6 percent over the past few months due to recent nominal depreciation of the rand. - Estimates of dollar-denominated relative unit labor costs (ULC-based REER) show South Africa’s real exchange rate remains near 10 percent above its 10-year average, albeit on a declining path. - A ULC-based REER is likely a better indicator for labor-intensive sectors of strategic concern. - Manufacturing exports fell to 39 percent in 2012 from 53 percent in 2002; commodities now account for nearly 60 percent of exports. - Value-added REER (VA-REER), based on relative GDP-deflators and controlling for import-content of exports, has appreciated near 35 percent since its 2008 trough, versus about 26 percent suggested by the CPI-based REER. - South Africa’s export performance index is about 20 percent lower than in 2005 (cumulative basis), despite market diversification. - Staff research: commodity-intensive EMs tend to exhibit weaker export performance than manufacturing exporters; regression suggests elasticity of export volumes to trading partners’ growth is about 0.2 smaller for commodity exporters. - Among large EMs, Brazil, Chile, and South Africa have had weaker export performance than China, India, and Mexico after controlling for REER and relative ULC. ### Box 2 — Credit to households: key findings and risks - South Africa appears at the late stage of the credit cycle: a mortgage boom before 2008 was followed by rapid unsecured lending growth. - During 2001-2007, mortgages grew by an annual average of 22 percent. Mortgage growth slowed after 2008, but unsecured credit nearly quadrupled since 2007. - Residential mortgages: - account for about 36 percent of banks’ total credit and 56 percent of lending to households, - over 35(50) percent of (new) mortgages have loan-to-value ratios above 80 percent. - CPI-adjusted house prices have dropped by 15 percent after 2008. - Unsecured credit now accounts for 12 percent of banks’ total credit exposure, with deteriorating asset quality. - Year-on-year growth rate of outstanding unsecured credit remained elevated at 25 percent in May 2013 because the term lengthened significantly. - Roughly 85 percent of unsecured lending is granted by banks (mainly second-tier banks), remainder by nonbanks. - The rand value (number of accounts) of unsecured credit reported as current decreased from 79 (74) percent to 74 (63) percent over the past year. - Household debt to disposable income ratio increased by nearly 30 percentage points from 2002 to 2009 and has remained elevated at around 76 percent. - Debt service to disposable income is at 8 percent; a 200 bps increase in interest rates is estimated to bring this ratio to 10–14 percent. - SARB’s Financial Stability Review cites labor market tensions and higher unemployment as critical risks for financial stability due to effects on repayment capacity. ### Box 3 — Spillovers from global risk scenarios and Risk Assessment Matrix (RAM) - Three global risk scenarios analyzed: EM capital flow reversal, slower advanced-economy growth, and decline in commodity prices. - EM capital flow reversal: - South Africa may be more exposed due to relatively high current account deficit, risky funding mix, high share of nonresident holdings of government debt, and liquid financial markets. - Nonresidents hold about US$140 billion of South Africa’s debt and equity portfolio liabilities (about 40 percent of GDP). - Sale of bonds bought by nonresidents after the global financial crisis through end-2012 (about US$20 billion) would amount to about 20 percent of the local bond market and of export receipts. - Initial market reaction would be rand depreciation and sharply higher yields; stabilizing factors include over 90 percent of government bond holdings in rand and long duration, and domestic nonbank institutional investors with assets exceeding 100 percent of GDP and relatively low portfolio proportion in bonds. - A sharp reduction in funding for the twin deficits would force contraction in imports and public spending; impact worsened if accompanied by credit rating downgrades. - Protracted slower growth in advanced economies: - Europe still accounts for about a fifth of South Africa’s exports. - WEO downside scenario: euro area growth recovers more slowly and only up to 1 percent a year by 2018, with GDP ending 4 percent below WEO baseline. - DSGE simulations suggest lower growth and inflation, and slightly higher twin deficits; impact on South Africa similar to median EM and smaller than median advanced economy. - Lower commodity prices: - Mining accounts for about 8 percent of GDP; supporting activities account for at least an additional 7 percent of GDP; mining generates about two thirds of exports. - Because aging deep-shaft mines have high cost structure, lower prices could lead to closures of marginal mines and large job losses with hysteresis effects. - Lower income would reduce aggregate demand and public revenue, widening twin deficits and raising risk spreads; currency depreciation would mitigate some earnings loss. - RAM summary (selected items, likelihood and expected impact as assessed): - Protracted period of slower European growth: Likelihood H, Expected Impact M (delayed recovery and lower potential growth). Policy: ease monetary policy; take fiscal measures to ensure debt stabilization; structural reforms. - EM capital flow reversal: Likelihood M, Expected Impact H. Policy: let rand depreciate, provide FX liquidity, increase policy rates if needed to ensure financing. - Lower commodity prices / deeper EM slowdown: Likelihood M, Expected Impact M. Policy: let rand depreciate, ease monetary policy, let automatic fiscal stabilizers work; take fiscal measures if slowdown is permanent. - Limited progress on structural reforms: Likelihood H, Expected Impact H. Policy: fiscal measures to ensure debt stabilization; structural reforms to drive growth. - Labor market disruptions and social unrest: Likelihood M, Expected Impact H. Policy: let rand depreciate, ease monetary policy, let automatic stabilizers work; broker national grand bargain to restore industrial peace if possible. - Rising spending pressure, mainly wages: Likelihood L, Expected Impact M. Policy: raise taxes, cut other spending, and improve spending efficiency. *International Monetary Fund staff summary based on the supplied chapter content.* ### Box 4. South Africa: Low Saving Rate ### Box 4. South Africa: Low Saving Rate ### Overview - South Africa’s national saving rate has been low for decades and fell further in 2012. - Saving averaged 15.5 percent of GDP during 1995–2011, but dipped to about 13 percent of GDP in 2012. ### Composition of national saving (sectoral contributions) - Most national saving comes from the corporate sector, especially nonfinancial firms. - General government saving has averaged zero over the long sample, with interactions between corporate and government saving tending to offset each other. - During the mid-2000s, a sharp decline in corporate saving was offset by a rise in government saving. - After 2008 the reverse happened. - In 2012, both corporate and government saving fell, reflecting weak growth. - Households: - Households’ savings have averaged about 2 percent of GDP over the long period. - Households’ saving was 1.7 percent of GDP in 2012. - The household saving rate averaged 3½ percent during 1995–2011, and was at 2.8 percent in 2012. - Charted components noted in the source: Households, F firms, NF firms, Government, Total (percent of GDP, 1995–2012). ### Comparison with peer emerging markets - The saving gap with peer EMs has increased over the last decade: - While saving in South Africa remained relatively stable, the median saving rate in EMs rose during the 2000s. - The rise in peers’ saving rates mainly reflects higher government saving and a stable private saving rate. - In contrast, South Africa’s private saving rate has been more volatile: - Fell from 1995 through 2007. - Rose sharply during the crisis. - Fell again since 2011. - Household saving comparisons: - South Africa’s household saving is the lowest of the seven peer EM countries for which data is available. - In a broader sample of 42 advanced and EM economies, South Africa’s household saving rate ranks in the low 25 percent of the distribution. - Government saving followed trends in peer EMs in the 2000s but diverged over the last three years. ### Determinants of low household saving - Household saving has moved together with household labor income in percent of GDP. - Main drivers of low household saving: - High structural unemployment. - Adverse demographics, especially a high young dependency ratio. - Decline in the labor share of income. - Households’ increasing debt. - Household saving rose modestly after the global financial crisis as wage settlements remained fairly insensitive to the economic cycle. ### Outlook and policy-relevant considerations - The national saving rate might increase going forward, but likely only slowly; it is expected to remain below the long-term 15.5 percent average given expected evolution of fundamentals. - Conditions for a durable increase in labor income: - Structural changes in labor and product markets that succeed in creating sufficient jobs to reduce unemployment substantially — these measures are likely to be implemented slowly and take time to have an effect. - Demographics: - Expected demographic changes, including lower youth dependency ratio, would tend to increase saving in the medium term. - Fiscal policy interactions: - Envisaged fiscal consolidation would also help increase national saving, but historically has been partly offset by lower corporate saving. - The expected increase in public health spending with the introduction of the National Health Insurance would tend to lower saving. *Source: Box 4. South Africa: Low Saving Rate (from the provided IMF content).* ### Box 7. Labor and Product Market Reforms—the Mexico Case ### Box 7. Labor and Product Market Reforms—the Mexico Case ### Labor Market Reforms - The Labor Market Reform Law approved in 2012 includes measures to promote labor market flexibility, increase productivity, and improve labor conditions. - Key provisions introduced by the Law: - Temporary trial and training contracts for project-specific and seasonal activities intended to boost youth employment. - Hourly pay contracts to facilitate part-time employment. - Streamlining the settlement of labor lawsuits. - Limiting compensation for unjustified dismissals to one-year’s salary. - Eliminating the requirement to terminate employment if a worker leaves the union. - Relaxing seniority rules and including productivity and labor skills as criteria for promotion. - Introducing training certification schemes and a National Committee for Productivity. - Bans on discrimination and child labor. - Establishing a regulatory framework for outsourcing. - Measures to improve working conditions for mining, rural, and domestic workers. - Expected outcomes and channels: - Boost job creation. - Reduce informality. - Increase productivity and growth. - Around two-thirds of the payoff is anticipated to come from new temporary contracts and the measures to increase worker productivity. ### Estimated Impact on Growth - The Banco de México and the OECD estimate that these reforms could boost potential growth by 0.15-0.5 percentage points per year. ### Product Market Reforms - Anti-trust and competition policy changes: - The 2011 Competition Law authorizes the Competition Commission (CFC) to impose fines of up to 10 percent of domestic turnover. - The CFC may carry out on-site searches and impose criminal penalties if necessary. - The Law envisages setting up specialized courts with expert judges for all competition and regulation issues; once operational, these courts should support competition and policing abuses. - The Commission’s new powers have already been applied in several cases and are expected to be a significant deterrent to abuse. - Telecommunications reform: - The Telecoms Reform Bill—signed into law in June—establishes a new regulatory body with powers to apply more stringent regulation to dominant firms and, if necessary, force asset sales. - The new regulations are expected to increase competition, improve access to broadband internet, and reduce the costs of communication services. - Business entry and regulatory improvement: - Procedures to start a business have been significantly eased: the time and average cost to open a business have been brought down. - The capital required to start a business has been progressively reduced, reaching zero for low-risk businesses this year. - The Federal Commission on Regulatory Improvement is applying a regulatory impact analysis (RIA) to all regulations introduced over the past decade, and has aligned its RIA systems with OECD best practice. *Source: Box 7, "Labor and Product Market Reforms—the Mexico Case."* ### Annex I. The Job Challenge ### Annex I. The Job Challenge ### Overview - South Africa needs to create jobs for its unemployed, those that have altogether withdrawn from the labor force, and future labor market entrants. - The National Development Plan (NDP) aims to create 5 million jobs over the next decade, and 11 million by 2030. - Achieving the NDP targets requires growth-enhancing reforms together with measures to improve the functioning of the labor market and to strengthen the country’s education system. ### Labor market outcomes and challenges - Unemployment and participation - Unemployment rate has persistently hovered above 20 percent since the late nineties and currently stands at 25 percent. - Youth unemployment registers 50 percent (ILO, 2013). - Labor force participation is 55 percent and is very low in international comparisons, in particular among women. - The low share of individuals who are gainfully employed contributes to high income inequality as measured by the Gini coefficient. - Skills and scarring - Unemployment is highly concentrated amongst individuals with little formal education and lower skills. - Poor labor market outcomes early in one’s career are typically associated with lower life time earnings and less stable employment (“scarring”). - Jobless growth - Since 2009, growth has been largely jobless. ### NDP targets, implied growth and scenario projections - NDP employment and participation targets - Target reduction in the unemployment rate to 6 percent by 2030. - Target increase in the labor force participation rate to 65 percent by 2030. - This implies employment growth of 2½ percent per year in 2013–2030. - Under the assumption that the historical relationship between growth and job creation remains unchanged, this implies average annual real GDP growth of 5 percent. - Comparison with observed and potential outcomes - Estimates of potential growth are 3 to 3½ percent. - Average annual employment growth was 1 percent over 2001–2012. - Illustrative scenario - If South Africa were to grow by 3 percent per annum through 2030, only 3.2 million jobs would be created and unemployment would remain at 25 percent, assuming that without reforms, labor force participation remained unchanged and employment elasticity at 0.4, the 2001–2012 average, down from 0.55 observed in 2010–2012. - Labor force participation rate is assumed to remain at 55 percent, the current level, in those projections. ### Factors restraining job creation - Skill gap - Current job seekers do not have the skills demanded by employers and the education system does not provide the majority of graduates with these skills. - Bottleneck labor relations - South Africa’s wage bargaining framework contributes to real wage outcomes that appear to have little sensitivity to economic conditions. - Legal provisions on dismissal, in practice, appear to make employers reluctant to take on new workers. - Wage setting - Real wage growth has outpaced productivity growth, even during the 2008/09 crisis when real GDP fell. - Firms have responded by investing in labor saving capital and have been reluctant to hire. - The mandatory extension of collective bargaining agreements makes it difficult for smaller firms to compete on costs while still creating employment, makes markets less contestable, and contributes to oligopolistic structures that hold back innovation, growth, and job creation. - Temporary employment and labor brokers - Labor brokers have been a main source of private sector job creation since 1995. - Firms turn to labor brokers because, in practice, it appears to be extremely difficult to dismiss workers for performance reasons. - Unions see labor brokers as undermining collective bargaining and workers’ rights and are calling for them to be abolished; an amendment that would restrict the use of labor brokers is currently discussed in Parliament. - Bottleneck spatial gaps - A legacy of apartheid is that job seekers as well as workers do not live close to centers of economic activity. - Low-skilled workers often face transport costs that anecdotally can take up to one third of the take-home wage and spend inordinate amounts of time commuting. - HIV and AIDS infections - The HIV/AIDS adult prevalence rate remains one of the highest in the world, negatively affecting the labor supply, despite improved health outcomes in recent years. ### Cross-country evidence on job creation - Fast job-creating countries (India, Peru, Thailand) are characterized by: - Growth slightly higher than in countries that generated fewer jobs. - Substantially lower inflation. - REER depreciated or showed less appreciation. - Stronger current account balance. - Lower union density, substantially lower average and minimum wage levels, and less restrictive working hours. - At present, South Africa does not exhibit these characteristics of job-creating economies. ### Policy recommendations - Youth unemployment - The youth employment incentive, envisaged in the NDP and currently under consideration by the government, could be an important trigger to ease the transition of young people into employment and avoid life-long “scarring” effects. - On-the-job training - For those already in the labor market, on-the-job training is instrumental, including through the use of temporary employment contracts and trainee wages combined with training requirements and certification. - Education system reforms - Making school leaders more accountable and providing quality teacher training. - Address infrastructure backlogs and prevent failures to distribute learning material (e.g., textbooks). - Given South Africa’s strong private school system and a nascent private school industry targeting low-income households, it may be worth exploring whether a school voucher scheme could help incentivize education providers. - Wage setting reforms - Stop extending negotiated wages to other firms that were not part of the bargaining process; discontinuing this mandatory extension would open the way to firm-level bargaining and facilitate wage outcomes conducive to employment gains. - Unemployed outsiders need to gain a voice in wage bargaining. - Higher labor force participation would reduce the burden on those gainfully employed to provide for others that do not have a wage income. - A national minimum wage, as currently proposed by Cosatu, could further slow job creation; the issue of a minimum household income needs to be addressed through social transfers (CDE, 2013). - Temporary employment and labor brokers - Labor brokers should be encouraged, unless problems with dismissal practices are addressed in parallel. - Spatial and transport bottlenecks - Better public transport, targeted transport subsides, and introducing more competition in the private mini-bus industry could help lower commuting costs and make low-wage jobs more attractive. - These measures would also facilitate job search by reducing the transaction costs of going to interviews. - It would be useful to pilot these reforms before applying them nationally. *Source: Annex I. The Job Challenge, IMF staff analysis.* ### 7. Past and ongoing industrial policies have aimed to bring South Africa to a new growth path ### 7. Past and ongoing industrial policies have aimed to bring South Africa to a new growth path ### Industrial policy (IPAP) — objectives and critiques - South Africa’s industrial policy is articulated mainly in its Industrial Policy Action Plans (IPAP). - The IPAP: - focuses on sectors deemed to be most productive; - envisages a host of interventions at the micro level; - places an emphasis on import substitution. - Criticisms of the approach include: - difficulties of picking winners; - focus on industry as the only sector with high job creation potential; - possibility that implementation could provide space for rent-seeking behavior. ### Competition commission — implementation challenges and enforcement - Despite a well-developed system of competition regulation, further improvements in implementation and effectiveness are needed. - Enforcement timing: - It is not unusual for cases to take four to five years from referral by the Commission to the Tribunal hearing being concluded. - This typically follows an investigation period of one to two years by the Commission. - Legal and practical issues: - Legal provisions include specific effects-based tests for dominance abuse, but the test remains broadly form-based in practice. - There is a need to identify entry barriers and regulatory mechanisms by which incumbents continue to protect market dominance from outsiders. ### Product market challenges (summary of figure findings) - Product market regulation is relatively restrictive: "Product Market Regulation (index scale of 0-6 from least to most restrictive, 2008)". - Barriers to entrepreneurship and trade and investment are high relative to other countries. - South African firms are relatively profitable; highly concentrated sectors tend to have higher profitability (Industry concentration measure: total asset of top five listed companies as a share of all listed companies in the same sector). - Telecommunication sector findings: - Local prices in the telecommunication sector in South Africa are relatively high. - "Telecommunication Price Comparison (in percent greater than average price, 2007)" shows South Africa above average for several telecom baskets. - Tariff note: - "Mean of applied tariff rate during 2009-11 for manufactured products." Tariff rates remain elevated relative to EM peers. ### External Balance Assessment — key findings and model results - 2012 current account and components: - South Africa’s current account deficit reached 6.3 percent of GDP in 2012—the highest since the global financial crisis. - Deficits in the income account and net transfers were 2.2 percent of GDP and 1 percent of GDP, respectively. - Their 10-year averages are 2.4 and 0.7 percent of GDP, respectively. - The trade deficit was much larger than its 10-year average of ½ percent of GDP. - Q1 2013 update: - Higher-than-expected income receipts, terms of trade gains, and higher exports to other SACU countries contributed to a narrowing of the current account deficit to 5.8 percent of GDP (in seasonally adjusted terms) in the first quarter of 2013. - Cyclically-adjusted and underlying current account: - The cyclically-adjusted current account balance from the IMF External Balance Assessment (EBA) was -5.8 percent of GDP in 2012. - A separate methodology that eliminates cyclical and other temporary factors reaches similar conclusions. - Trade composition and deterioration: - Decomposition shows the deficit on manufactured goods—especially machinery, chemicals, and vehicles—outgrew the surplus on mineral products, precious and base metals by a substantial amount in 2012. - Part of the deterioration in the commodities surplus could be attributed to labor unrest in the mining sector. - Demand for manufactured imports—driven in large part by capital goods—remained robust and grew faster than domestic demand. - Model-based assessments of external position: - Two regression-based EBA approaches and an external sustainability approach were used to assess misalignment. - Macro-balance approach result: gap between the 2012 cyclically adjusted current account and the estimated current account norm of -2.8 percentage points of GDP (with a large confidence interval). - External sustainability analysis: gap of -4.2 percent of GDP between the 2012 cyclically adjusted current account and a benchmark current account that stabilizes South Africa’s NFA/GDP ratio at peers’ average (2 percent). - Combined staff judgment: the current account is 2–4 percentage points of GDP weaker than implied by fundamentals and desired policies. - Applying mechanically the estimated trade elasticity of 0.2, and taking into account the REER depreciation during the first four months of 2013, the overvaluation of the rand was estimated at 10–15 percent in 2012. - CGER macro-balance approach suggests an exchange overvaluation of 13 percent; the CGER external sustainability approach suggests an exchange overvaluation of 20 percent. - REER regression and sensitivity: - EBA estimates of the CPI-based REER imply a small degree of undervaluation (about 7 percent) as of mid-April. - Results are highly sensitive to the sample period; the 1990s involved major structural shifts (including abolishment of the financial rand). - High volatility of the rand and many structural changes reduce the reliability of REER regression inferences. - Other indicators (declining share of world exports and the ULC-based REER) point to an overvaluation. - CGER REER regression suggests an undervaluation of 14 percent. - Conclusion on external position: - South Africa’s external position appears weaker than consistent with medium-term fundamentals and desirable policy settings. - The current account deficit has widened sharply and has been financed to a large degree by debt flows. - Several indicators point to competitiveness issues. - Though the real depreciation in 2013 should help reduce the gap, structural factors (including structurally-low domestic saving coupled with robust public infrastructure investment) suggest the external position will likely remain weak. - Structural reforms that would help increase household savings are needed to yield a sustained improvement in the current account balance. *Source: STAFF REPORT FOR THE 2013 ARTICLE IV CONSULTATION — INFORMATIONAL ANNEX (South Africa), July 19, 2013.* ### Box 1. Liberalization of Capital Controls on Residents (Selected Measures) ### Box 1. Liberalization of Capital Controls on Residents (Selected Measures) ### Selected measures (chronological) - October 2009—The authorities (i) raised the lifetime limit on individuals investment offshore to R4 million from R2 million a year and (ii) increased the single discretionary allowance to R750,000 from R500,000. - March 2010—Authorised dealers were allowed to acquire direct and indirect foreign exposure up to a macroprudential limit of 25 percent of their total liabilities, excluding total shareholder's equity. - October 2010—Authorities (i) eliminated the 10 percent levy on the capital South Africans can transfer upon emigration, (ii) raised the limit on offshore investments by individuals to R4 million a year from R4 million in a lifetime, and (iii) raised the single discretionary allowance to R1 million from R750,000. - December 2010—Limits that resident institutional investors can invest offshore were raised by 5 percentage points, and now range from 25 to 35 percent depending on the type of institutional investor. - January 2011—Authorities allowed qualifying international headquarter companies, subject to approved registration with the Financial Surveillance Department of the South African Reserve Bank, to raise and deploy capital offshore without exchange control approval. - October 2011—Authorities (i) removed the restriction on foreign participation in the ownership of money remittance businesses and the requirement to partner with an existing authorized dealer to conduct money remittance business; (ii) approved criteria for consideration of individual foreign investments above R4 million; (iii) announced that all inward-listed shares traded and settled in rand on the Johannesburg Stock Exchange will be regarded as domestic assets; (iv) permitted South African companies to make bona fide new outward foreign direct investments, outside their current line of business, allowing them to diversify their offshore operations from a domestic base; (v) withdrew the prohibition on the transfer of additional working capital for investments below R500 million per applicant company, per calendar year; (vi) allowed South African companies to acquire from 10 to 20 percent equity and/or voting rights, whichever is higher, in a foreign target entity, which may hold investments and/or make loans into any Common Monetary Area (CMA) country; (vii) allowed residents (natural persons) to transfer up to R1 million abroad, as part of the single discretionary allowance, for investment purposes, without the requirement to obtain a tax clearance certificate. - February 2013—South African multinationals were allowed to treat a local subsidiary as a nonresident company for exchange control purposes to encourage retaining treasury operations in South Africa. Authorized dealers were also allowed to invest an additional five percent of their total liabilities, excluding total shareholder’s equity, for expansion into Africa, in addition to the current macro-prudential limit on foreign exchange of 25 per cent. ### Context, objectives, and observed effects - Exchange controls on capital transactions by residents have been gradually relaxed. - The authorities’ main objective has been to move toward a system based on prudential limits and supervision, and away from a rigid system of quantitative controls. - These measures are described as consistent with the overall liberalization strategy and "have helped offset some of the pressure on the exchange rate coming from strong portfolio flows since 2010." *Box 1. Liberalization of Capital Controls on Residents (Selected Measures).* ### 3. Joint ### 3. Joint ### Joint products / near-term outputs - No joint products planned at this time. ### Data and coverage notes - Fiscal assumptions and debt data are based on the national government main budget; coverage excludes provincial governments, social security funds, and extra-budgetary institutions (these entities are either not allowed to incur debt or only borrow in small amounts). - State-owned enterprises (SOEs) borrowing has increased substantially and is projected to continue to increase; around 40 percent of this borrowing is covered by government guarantees. - The authorities are compiling statistics on the indebtedness of the overall public sector. ### Macroeconomic baseline assumptions - Real GDP growth: 2 percent in 2013, rising gradually to 3½ by 2018. - GDP deflator: expected to average around 6½ percent, consistent with CPI inflation close to the upper range of the authorities’ 3–6 percent target range. ### Fiscal baseline and assumptions - 2012: Weaker-than-budgeted growth led to a sharp widening of the primary deficit. - 2013: Deficit projected to remain broadly unchanged despite a slow-down in expenditure growth due to automatic stabilizers and weak revenue performance. - Projections follow the authorities’ 2013 budget: anticipated expenditure restraint and a modest pickup in revenues are expected to produce a gradual narrowing of the deficit over the medium term. - Projections do not assume additional fiscal measures that authorities indicated in the 2012 MTBPS could be necessary, and do not assume any policy response to shocks. ### Gross financing needs (GFN) and triggers - GFN estimated at 12.5 percent of GDP in 2012. - GFN expected to peak at 14.5 percent of GDP in 2014. - The DSA framework uses a 10 percent of GDP trigger for expanded analysis; 15 percent of GDP is the DSA benchmark for high risk in GFN assessment. ### Historical and forecast debt dynamics - Primary deficits averaging 3 percent of GDP over the past four fiscal years contributed to a 15 percentage point increase in the debt-to-GDP ratio since 2007. - Under the baseline, government debt-to-GDP ratio projected to increase to 48 percent by 2018. - The DSA framework’s indicative debt benchmark is 70 percent of GDP; a South Africa–specific debt ceiling from staff analysis is 60 percent of GDP. - The projected baseline debt path remains below both the DSA 70 percent benchmark and the South Africa-specific 60 percent ceiling. ### Risk and stress-test findings - No evidence of a systemic projection bias: median forecast errors for real GDP growth and the primary balance between 2004–12 are below 1 percent. - Cross-country experience suggests the projected fiscal adjustment is feasible: maximum three-year adjustment in the cyclically adjusted primary balance is 1.3 percent of GDP; maximum level of the primary balance is -1.1 percent of GDP. - Single shocks: - A one-standard-deviation temporary shock to growth or temporary return of interest rates to historical highs does not push debt above the DSA benchmark. - A customized shock with a permanent half standard deviation reduction in growth (consistent with a decline in potential growth of around one percentage point) would raise debt to around 56 percent of GDP (still below the 70 percent DSA benchmark but close to the 60 percent South Africa-specific ceiling). - Combined macro-fiscal shock: - Standard shocks to growth and interest rates, a primary balance shock (temporary half a 10-year historical standard deviation deterioration), and an exchange rate shock (consistent with the maximum movement over the past 10 years and an exchange rate pass-through of 0.25) result in a sharp increase in debt-to-GDP to 57½ percent (noted as an extreme shock). - Contingent liabilities: - SOE debt estimated at 13½ percent of GDP at end-2012. If the government had to absorb the entire SOE debt stock and the economy were hit by a persistent shock or the macro-fiscal combined shock described above, the 70 percent debt benchmark would be exceeded. - Contingent liability shocks materially increase risks and underscore vulnerability from SOE liabilities. - Fan-chart / stochastic projections: - Stochastic and asymmetric fan charts (accounting for historical macro-fiscal volatility and skew toward downside risks) yield results broadly consistent with the scenario and stress-test conclusions. - Heat-map assessment: - Despite a low share of foreign-currency and short-term debt, risks arise from high gross financing requirements and the debt profile. - GFN is close to the 15 percent of GDP benchmark considered high risk even in the baseline. - Local currency bond spreads and the relatively large share of debt held by non-residents point to emerging risks. - Staff view that a sudden stop in capital inflows causing disorderly adjustment in the twin deficits is the main risk for South Africa. ### Key numeric highlights (as reported) - Real GDP growth: 2 percent (2013 baseline) → 3½ percent (2018 baseline). - GDP deflator: around 6½ percent (baseline). - GFN: 12.5 percent of GDP (2012 actual); peak 14.5 percent of GDP (2014 forecast). - DSA indicative benchmarks: debt 70 percent of GDP; GFN 15 percent of GDP. - South Africa–specific debt ceiling (staff analysis): 60 percent of GDP. - Projected debt-to-GDP ratio under baseline: 48 percent by 2018. - Permanent half-standard-deviation growth shock → debt ≈ 56 percent of GDP. - Combined macro-fiscal shock → debt ≈ 57½ percent of GDP. - SOE debt stock at end-2012: 13½ percent of GDP. - Median forecast errors for real GDP growth and primary balance (2004–12): below 1 percent. - Recent primary deficits: averaging 3 percent of GDP over the past four fiscal years. ### Authorities’ views and assessment notes - Authorities welcome the refined IMF DSA framework for transparency but note it is data-intensive and increases discretion and qualitative analysis by Fund staff. - Budget statements indicate the government will revise the fiscal program if economic or fiscal risks materialize; Fund analysis assumes no policy response since the last budget, producing a pessimistic primary balance baseline. - Authorities emphasize South Africa’s low vulnerability in debt structure: increasingly long-term, largely domestic-currency-denominated debt, experienced debt management institutions, and liquid domestic bond markets. - Longer-term fiscal vulnerabilities typical in advanced economies (health care and pension systems) are largely absent in South Africa. ### Policy implications and recommendations (implied by analysis) - Maintain fiscal consolidation consistent with the 2013 budget to stabilize and reduce gross financing needs over the medium term. - Strengthen monitoring and transparency of SOE borrowing and contingent liabilities; compile full public-sector indebtedness statistics. - Preserve flexibility in debt management to mitigate risks from large GFN and non-resident holdings. - Pursue policies and structural reforms that can increase potential growth to reduce vulnerability and improve the primary balance. - Prepare contingent fiscal responses given the risk of sudden stops in capital inflows. *Source: IMF staff report—South Africa: Staff Report for the 2013 Article IV Consultation—Debt Sustainability Analysis (as provided in the content unit).* ### 14. South Africa’s external debt was 36 percent of GDP in 2012, but is projected to reach ### 14. South Africa’s external debt was 36 percent of GDP in 2012, but is projected to reach ### External debt projections and drivers - External debt: 36 percent of GDP in 2012; projected to reach 41 percent of GDP by 2018. - Increase in external/GDP ratio by 5 percentage points over the medium term driven by: - Persistently high current account deficit averaging 6 percent of GDP during this period. - Strong public infrastructure investment. - Structurally low savings. - Softer terms of trade. - Expected balance-of-payments effects: - Normalization of global interest rates expected to worsen the net income balance by ½ percent of GDP. - Transfers to other SACU members expected to remain close to 1 percent of GDP. - Financing composition of external deficit: - Largely financed by non-resident portfolio investment and other debt flows. - Includes portfolio equity (which does not add to the debt stock) and local-currency bonds. - Only a small share expected from foreign-currency denominated debt. - Net foreign direct investment projected at 1.2 percent of GDP over the medium term. ### Vulnerabilities, composition, and stress-test results - Composition reducing rollover risk: - Large share of external debt denominated in local currency: 58 percent. - Significant share at fixed interest rates. - Stress-test outcomes (effects on external debt ratio by 2018): - 30 percent real exchange rate depreciation: external debt ratio rises to 53 percent by 2018. - Further widening of the noninterest current account deficit: external debt ratio rises to 45 percent by 2018. - Permanent shock to real GDP growth (half a standard deviation, about 1 percent): only minor effects. - Standard shock to interest rates (half a standard deviation, about 50 basis points): only minor effects. - Combined shock (growth and interest rate shocks): moderate effect on external debt levels. - Caveat on stress-test upper bounds: - Standard DSA likely provides upper bound estimates because it does not capture potential import compression (narrower trade deficits) if shocks materialize. ### Debt-stabilizing and identified flows (selected figures from the DSA table) - Debt-stabilizing non-interest current account: -6.8 - Baseline: External debt (percent of GDP) - 2008: 26.6 - 2009: 27.5 - 2010: 28.8 - 2011: 28.1 - 2012: 35.8 - 2013: 35.0 - 2014: 35.5 - 2015: 36.8 - 2016: 38.1 - 2017: 39.6 - 2018: 41.0 - Change in external debt (percent of GDP by year): 0.3, 0.9, 1.2, -0.6, 7.7, -0.8, 0.5, 1.3, 1.3, 1.5, 1.4 - Identified external debt-creating flows (4+8+9): 5.6, -2.3, -3.7, -2.3, 1.5, -0.2, -0.5, -0.9, -1.2, -1.2, -1.5 - Current account deficit, excluding interest payments (percent of GDP): 5.5, 3.0, 2.0, 2.3, 4.9, 4.1, 4.3, 4.0, 3.9, 3.8, 3.7 - Net non-debt creating capital inflows (negative, percent of GDP): -0.5, -5.0, -2.1, -3.0, -3.9, -5.5, -5.6, -5.7, -5.8, -5.8, -5.9 - Automatic debt dynamics (contributions, percent of GDP): 0.7, -0.2, -3.6, -1.5, 0.5, 1.2, 0.9, 0.7, 0.7, 0.7, 0.8 - External debt-to-exports ratio (in percent): 74.3, 100.9, 105.1, 96.0, 126.6, 109.5, 113.9, 119.5, 124.7, 130.0, 134.5 - Gross external financing need (in billions of US dollars): 54.6, 40.5, 40.3, 45.8, 62.2, 59.6, 60.9, 65.1, 71.1, 76.3, 82.4 - Gross external financing need (in percent of GDP): 20.0, 14.2, 11.1, 11.4, 16.2, 16.8, 16.4, 16.6, 17.1, 17.4, 17.8 ### Key macroeconomic assumptions underlying baseline projections (selected) - Real GDP growth (in percent): 3.6, -1.5, 3.1, 3.5, 2.5, 2.0, 2.9, 3.3, 3.4, 3.5, 3.5 - GDP deflator in US dollars (change in percent): -7.7, 5.9, 23.5, 7.1, -6.8, -9.7, 1.9, 2.2, 2.3, 2.3, 2.3 - Nominal external interest rate (in percent): 6.2, 4.2, 3.9, 4.3, 4.5, 5.0, 5.5, 5.5, 5.5, 5.5, 5.5 - Growth of exports (US dollar terms, in percent): 9.1, -20.6, 27.6, 18.5, -7.8, 4.1, 2.4, 4.3, 5.1, 5.4, 5.9 - Growth of imports (US dollar terms, in percent): 8.9, -24.5, 24.5, 20.1, 0.0, 3.5, 2.6, 3.9, 4.5, 4.7, 5.1 - Current account balance, excluding interest payments (percent of GDP): -5.5, -3.0, -2.0, -2.3, -4.9, -4.1, -4.3, -4.0, -3.9, -3.8, -3.7 - Net non-debt creating capital inflows (percent of GDP): 0.5, 5.0, 2.1, 3.0, 3.9, 5.5, 5.6, 5.7, 5.8, 5.8, 5.9 ### Executive Board assessment and policy recommendations - Economic context and outlook: - Growth projected at 2 percent in 2013, rising to about 3 percent in 2014 and 3½ percent in the medium term. - Continued sluggish growth, elevated current account deficits close to 6 percent of GDP throughout the projection period. - Unemployment: 25 percent (noted as "already-high"); expected to remain high. - Main risks: balance of risks tilted firmly to the downside. - Principal risk: prolonged stop in capital inflows and disorderly adjustment in the twin deficits, possibly triggered by global repricing of risk or domestic labor/social unrest. - Vulnerability to weaker growth in Europe, slowdown in China, and weakening commodity prices. - Directors’ recommendations: - Firm policy action and progress on structural reforms to address vulnerabilities, create jobs, and foster inclusive growth. - Decisive and timely implementation of the National Development Plan. - Additional labor and product market reforms, improvements in the business climate, and trade liberalization. - Gradual fiscal consolidation and commitment to remain within medium-term expenditure ceilings. - If growth disappoints, allow automatic stabilizers to operate in the short term if financing conditions permit. - Stabilize debt and rebuild fiscal buffers; announcing a debt target could bolster fiscal credibility. - Maintain inflation-targeting framework; be ready to adjust interest rates as needed. - Maintain highly flexible exchange rate; consider increasing reserves via regular pre-announced auctions. - Promote foreign direct investment; structural reforms to raise household savings and improve external position. - Financial sector: continue regulatory and supervisory improvements (including Basel III adoption); address risks from rapid expansion of unsecured lending and encourage coordination among regulators. ### Selected economic and social indicators (selected figures) - Nominal GDP (2012, billions of U.S. dollars): 384 - GDP per capita (2011, U.S. dollars): 7972 - Headcount ratio at $1.25 a day (2009, percent of population): 13.8 - Undernourishment (2011, percent of population): 5.0 - Total population (2011, millions): 50.5 - Urban population (percent of total): 62 - Life expectancy at birth (years): 53 - Gini index: 63.1 - Income share held by highest 10 percent (percent of population): 51.7 - Income share held by lowest 20 percent (percent of population): 2.7 - Real GDP (annual percent change): 2009 -1.5; 2010 3.1; 2011 3.5; 2012 2.5; 2013 2.0; 2014 2.9 - Unemployment rate (percent of labor force, annual average): 2009 24.0; 2010 24.9; 2011 24.9; 2012 25.1; 2013 26.0; 2014 26.2 - Gross national saving (percent of GDP): 15.5, 16.4, 16.1, 13.2, 13.2, 13.2 (years corresponding to table) - Investment (including inventories, percent of GDP): 19.5, 19.2, 19.5, 19.4, 19.2, 19.3 - Overall fiscal balance (percent of GDP): -5.5, -5.1, -4.0, -4.8, -4.9, -4.7 - Gross government debt (percent of GDP): 31.3, 35.8, 39.6, 42.3, 43.0, 44.7 - Current account balance (percent of GDP): -4.0, -2.8, -3.4, -6.3, -6.1, -6.1 - Total external debt (percent of GDP): 27.5, 28.8, 28.1, 35.8, 35.0, 35.5 - Short-term external debt (residual maturity, percent of GDP): 10.2, 8.3, 8.0, 9.9, 10.8, 10.3 - Gross reserves (billions of U.S. dollars): 39.7, 43.8, 48.9, 50.7, 50.7, 50.7 *Source: IMF staff report and DSA material in the provided content unit.* ### 3. South Africa’s economy continues to grow, but at a slower rate than anticipated at ### _cr13303 - 3. South Africa’s economy continues to grow, but at a slower rate than anticipated at ### Growth outlook - Following the first quarter annualized growth rate of 0.9 percent, overall annual growth is likely to be lower than the 2.5 percent growth rate recorded in 2012. - SARB Monetary Policy Committee (MPC) revised growth forecasts: - 2013: down from 2.4 percent to 2.0 percent - 2014: down from 3.5 percent to 3.3 percent - Outlook for 2015: - Expected to accelerate to 3.6 per cent, supported by: - robust infrastructure investment spending - easing of electricity supply constraints as additional electricity supply from new power plants begin to come on stream - water supply and rail capacity upgrades - strong regional growth - relatively low interest rates - Downside risks to growth identified: - fragility in the global economic growth outlook - slowdown in a number of systemically important emerging market economies - weaknesses in the domestic mining sector - weakening commodities prices - infrastructure constraints - prolonged strike action - rigidities in the labor and product markets ### Employment - Employment growth remains subdued, particularly in the private sector. - Unemployment: - official unemployment rate increased from 24.9 per cent in the fourth quarter of 2012 to 25.2 per cent in the first quarter of 2013 - youth unemployment rate increased to 52.9 percent in the first quarter of 2013 - Authorities express particular concern about the increase in youth unemployment. ### Inflation and expectations - Consumer price index for all urban areas: 5.6 percent in May 2013, vis-a-vis 5.9 percent for the previous three consecutive months. - Main contributors to the May 2013 inflation outcome: - housing and utilities: contributed 1.4 percentage points - miscellaneous goods and services: contributed 1.1 percentage points - MPC inflation forecasts: - 2013: expected to average 5.9 percent - 2014: expected to average 5.5 percent - 2015: forecast 5.2 percent - Inflation expectations (Bureau for Economic Research, Stellenbosch University, Q2 2013): remained anchored around the upper end of the inflation target band of 3 – 6 percent. ### Monetary and exchange rate policies - Monetary policy remains supportive of growth; authorities more tolerant of inflation at the upper end of the target range in response to downside growth risks, consistent with a flexible inflation targeting framework. - Emerging inflationary pressures due to: - continued currency weakness - higher-than-expected petrol price increases - Risks to the inflation outlook are tilted to the upside, mainly related to: - uncertainty regarding exchange rate developments - expected outcome of the present round of wage bargaining - Implication: reduced scope for further monetary accommodation; SARB will continue to monitor and act to sustain credibility of the inflation targeting regime. - Authorities’ view on capital flow reversal risk: - Concerned about potential impact of withdrawal of stimulus by advanced countries and uncertainty around US Federal Reserve timing generating capital flow reversals affecting domestic bond and currency markets. - Authorities consider staff view somewhat alarmist regarding South Africa’s vulnerability if capital flows were to reverse. - South Africa’s flexible exchange rate regime has provided a crucial adjustment mechanism and prevented liquidity shortages even at the height of the global financial crisis. - Reserves accumulation stance: - Authorities recognize the importance of accumulating reserves for precautionary purposes but emphasize balancing benefits against costs of reserves build up and management. - Will continue opportunistic accumulation of reserves without unduly impacting the exchange rate. - Will consider policy advice on accumulation and management of reserves provided benefits and costs are robustly established. ### Fiscal policy - Authorities committed to sound fiscal management balancing support for growth with sustainable public debt. - 2012/13 fiscal year budget deficit: 5.2 per cent. - Authorities’ view on drivers of deterioration in fiscal position: - Staff report suggestion that government wage bill explains most deterioration is contested. - Authorities state deterioration mainly attributable to a sharp decline in revenues. - During 2009/10: - wages and salaries increased by 1.1 percentage points of GDP (Page 42, Table 2) - tax revenues contracted by 2.5 percentage points of GDP - Since then, both have stabilized. - Policy responses and commitments: - Additional steps to ensure expenditure remains under control, including adjusting medium-term expenditure allocations to national departments downwards. - Readiness to make further adjustments in the October Adjustment Budget if circumstances warrant. - Ministers’ Committee on the Budget assigned to oversee expenditure reviews in the coming year and analyze patterns of public spending, including personnel spending. - Reviews to identify opportunities to improve value for money, such as enhanced procurement controls and phasing out ineffective projects. - Tax policy work: - Committee set up to inquire into the role of the tax system in promoting inclusive economic growth, employment creation, development and fiscal sustainability. - Mandate includes examining overall tax base and burden, corporate tax system and the mining tax regime, including tax mix between personal income tax, corporate income tax and value added tax. - Wage bill and public enterprises: - Authorities disagree with assertion that growth of the wage bill has crowded out government capital expenditure which is increasingly undertaken by public enterprises (Page 10, first bullet, SM/13/226). - View that public enterprises remain responsible for economic infrastructure and were not required to take on new roles due to budgetary spending pressures. - Main obstacle to government’s social infrastructure spend in short to medium term viewed as lack of capacity resulting in under spending, particularly in municipalities. ### Financial stability - Financial soundness indicators remain strong, but rapid expansion of unsecured lending to households has increased credit risk. - Drivers of unsecured consumer lending growth: - Introduction of the National Credit Act in 2007 - Decline in interest rates to a near 40-year low - Strong nominal wage increases - Authorities recognize increased credit risk but note improved access to finance is more inclusive. - Recent moderation in unsecured credit growth (based on six significant banks in the unsecured retail credit market): - Year-on-year (y-o-y) growth in unsecured retail other (largely unsecured personal term loans) tapered from a peak of 33.6 per cent in August 2012 to 19.0 per cent in May 2013. - Y-o-y growth in retail other category of loans greater than R30 000 decreased from a peak of 71.2 per cent in November 2012 to 40.3 per cent in May 2013. - Unsecured loans in the retail other category consisting of loans equal to or less than R30 000 has been contracting since March 2013. - Authorities do not expect a 'hard landing' for the sector given moderate inflation, low interest rates, and heightened regulatory scrutiny. - Unsecured credit levels remain small relative to overall banking assets and are not viewed as a threat to overall banking system stability. ### Structural reforms - Authorities aware of imperatives of structural reforms; 2013/14 Budget aligned with the National Development Plan (NDP). - 2013/14 Budget mapped an integrated strategy for: - accelerating inclusive growth - eliminating poverty - reducing inequality - Department of Performance Monitoring and Evaluation developing a medium-term strategic framework to guide NDP implementation over the next five years. - Progress noted in infrastructure, public service delivery, and accountability. - Authorities committed to improving capacity to plan, procure, manage and monitor projects and to work more closely with the private sector during project development. - Product market reforms: - Competition Commission’s powers strengthened - Authorities committed to enhancing competition across sectors to encourage free entry and exit - Regulators to emphasize stimulating market competition and promoting affordable access to quality services, subject to capacity building in regulatory institutions - Labor market reforms: - Recognized as long-term project due to complexities and legacies of apartheid - Authorities committed to developing social consensus to manage trade-offs between reform options *Source: _cr13303 - 3. South Africa’s economy continues to grow, but at a slower rate than anticipated at* --- _Source: https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2013/_cr13303.pdf_