Speech

David Lipton, First Deputy Managing Director
South African Institute of International Affairs, Pretoria
May 8, 2013

As prepared for delivery

I would like to thank the Institute for its invitation. I am honored to speak today before an organization so involved in South Africa’s emergence onto the world stage. South Africa has taken pride of place in the international community in recent years as a voice of reason and an example of the possibilities of peaceful change. I have worked closely with your economic leaders in the G-20 and the IMF. South Africa is an important member of the international community.

Today I would like to discuss the economic challenges facing South Africa as the world seeks to return to growth after nearly half a decade of crisis. I propose to examine the role of the emerging market and developing countries at a time of stress for many advanced economies. I’d also like to talk about the risks that countries like South Africa face because of the unconventional monetary policies employed to combat the crisis. Finally, I am going to address South Africa’s domestic economic challenges.

My message will be straightforward: if governments are to navigate this dangerous period, they must respond concretely to all of these challenges—despite the political obstacles. This is all the more important for countries like South Africa that are struggling to achieve the levels of growth needed to meet the aspirations of all their people.

A Slow Global Recovery

The IMF’s most recent forecast shows that the world economy is slowly strengthening. But we still are not seeing growth anywhere near the levels before the 2008 crisis. While financial markets have recovered, the real economy continues to lag in many countries—and that means there is not enough growth to generate jobs for the millions who have lost their jobs over the past five years. Our most recent forecasts see global growth of 3.3 percent this year, and 4 percent in 2014.

We are seeing a three-speed global recovery, but we need a full-speed recovery, which means strong, sustained, and balanced growth. Emerging markets and developing countries generally have been doing well, and some advanced economies are showing signs of recovery while others still have a ways to go.

We don’t see Europe returning to growth before 2014, and then at a modest 1 percent rate. For now, the countries of southern Europe remain mired in deep recession, and growth is weak among the core economies. The banking system is unable to provide much-needed credit in many countries, and business investment is falling. Unemployment continues to rise to unacceptable levels.

Europe’s problems require both national and collective actions. Fiscal policy is crucial. Countries that can afford to support their economies need to do so—and in ways that encourage the private sector to invest and boost demand. Others will need a sustained commitment to adjustment to ensure sustainable public finances. On monetary policy, the European Central Bank has protected monetary union with the LTRO bank funding scheme and the conditional OMT monetary transmission preservation scheme. But more needs to be done to get credit channels functioning again. Additional unconventional monetary measures may be required.

European Banking Union

There also needs to be action on the banking union, including bank recapitalization through the European Stability Mechanism; a comprehensive banking union that adds a single resolution authority to the recently established supervisory authority; and a deposit insurance fund.

All of these actions are essential if Europe is to avoid slipping into stagnation. That would have implications for the global economy—not least for countries like South Africa, for whom the European market is so important. I will return to this point.

For the U.S., the recent rebound—nearly 2 percent this year and strengthening to 3 percent 2014—comes despite the impact of sharp fiscal consolidation this year. One key to the recovery has been the unconventional monetary policy that the Federal Reserve put in place after the 2008 crisis and subsequently has reinforced. These policies have been mirrored most recently in Japan, where the Bank of Japan has moved aggressively to loosen monetary policy to overcome deflation.

To this point, unconventional monetary policy has been good for the global economy. But there are concerns about the impact going forward, particularly in the emerging markets. There has been a lot of discussion about the impact of the flow of money from the advanced economies on asset prices and exchange rate valuations. So far, we don't see exchange rates being pushed out of alignment, and we don't see signs of asset bubbles. But caution is justified, and it is also important to study exit strategies—even if the off ramp is some years away.

Staying with the emerging market and low-income economies, there are estimates that they have provided roughly three-quarters of world growth since the 2008 crisis. The strength of the emerging Asian economies has been vitally important, particularly here in Africa. Asia’s demand for commodities and the flow of investment dollars and low-cost manufactured goods from that region has provided a crucial dynamic that is driving global demand. However, for countries like Brazil and South Africa, growth has been slower, suggesting that our three-speed construct may be too broad-brushed. Now we are starting to hear worries that Asia could be slowing—India’s growth is around 6 percent a year, down from 8 percent a few years ago, and China is not likely to see sustained double-digit growth again.

The Challenges for a Rising Africa

In a decidedly mixed global picture, Sub-Saharan Africa stands out as a success story. In the nearly five years since the 2008 crisis, this region has grown faster than in the years before the crisis. Regional output grew 5.1 percent last year, and should accelerate to 5.4 percent this year and 5.7 percent in 2014. But growth has been stronger in the oil-exporting and low-income countries. Middle-income countries like South Africa and its neighbors have grown more slowly—in some cases because of weaker European demand and in others because of domestic problems. I’ll address the domestic issues when I address South Africa in greater depth.

As many of you know, African growth has been supported by strong investment and favorable commodity prices. But I’d like to point to a very important home-grown factor: the prudent macroeconomic management that many countries now practice. This is one of Africa’s most impressive achievements, because it demonstrates improved institutional capacity and a new standard of governance. Over time, more competent institutions and better governance can translate into better results in the fight against poverty—although the gains so far have been uneven.

Where are the risks to Africa’s outlook? Of course, a renewed global downturn would be a primary worry—especially if it involves a sharp drop in demand from emerging markets, with all that implies for commodities prices. More immediately, while inflation is falling in most countries, there are a few where rising prices remain a challenge. In a few other countries, reversing or containing fiscal expansion is also important.

Certainly, every country should be on guard against the shocks of another global slowdown; that is the essence of prudent management. For this reason, the IMF has urged several African countries to rebuild their fiscal buffers. These countries came through the 2009 recession relatively unscathed in part by using their fiscal reserves. Now is the time to save for the next rainy day. The challenge is to avoid reducing productive public investment and effective pro-poor spending. Some alternatives include widening tax bases, reforming badly run programs, and replacing costly energy subsidies with targeted measures aimed at protecting the poor. This issue of reforming energy subsidies is included in the IMF’s African Regional Economic Outlook, which will be released on Friday.

From a longer-term perspective, two pressing challenges involve infrastructure bottlenecks and job creation. The two are closely related, because the growth needed to reduce unemployment requires real progress in the area of infrastructure, particularly electricity generation—and that goes back to the problem of energy subsidies that create disincentives for investment.

The commodities boom also highlights the need to better manage the revenue coming from natural resources in countries now tapping new resource deposits. It is a crucial issue if countries are to avoid the resource curse. This is an area where the IMF is focusing its technical assistance to help countries truly benefit from their natural bounty.

South Africa’s Prospects

Clearly, South Africa has benefited from sub-Saharan Africa’s success. The Number Two market for this country’s goods, after Europe, is the countries to the north, accounting for 15 percent of exports. They account for roughly the same export share as China. Indeed, the natural resources boom has lifted shipments of mining equipment. The Southern African Development Community could soon become South Africa’s biggest market for manufactured goods. On top of that, the country is expanding its role as a regional transport hub.

Investments in the region by South African companies are also rising sharply. The stock of South African direct investment in the rest of Africa equals approximately 5 percent of the country’s GDP, up from 1 percent before the global financial crisis. A broad cross-section of the corporate community is involved, and South African banks appear well positioned to take advantage of expanding financial services throughout Africa.

But African growth will not offset continued weak global demand and the domestic factors that restrain this country’s growth. South Africa’s outlook is subdued—and likely to remain so. In 2010-11, real GDP growth averaged 3.3 percent, falling to 2.5 percent in 2012. Meanwhile, unemployment is at 25 percent. The IMF expects a modest recovery this year to 2.8 percent, and possibly 3.3 percent in 2014. This will come from increased export demand from the region and China. The recent exchange rate depreciation should also help, as will public infrastructure investment.

But here is just so much that external demand can be expected to do. Any renewed downturn in Europe and the emerging markets would be cause for concern. Similarly, weaker commodities prices would be a drag on the economy. Against this backdrop, South Africa needs to rely more on sustainable domestic sources of growth without exacerbating its vulnerabilities, a point I’ll return to in a moment.

Capital flows also enter the picture. South Africa has benefited from the flow of capital to the emerging markets in recent years. This is a tribute to the country’s financial openness; the sum of external assets and liabilities equals about 170 percent of GDP. But South Africa’s very openness—and its high need for external financing—expose the country to the risk of capital outflows. A sudden outbreak of global risk aversion or market turbulence could trigger an unwelcome turn of events. That would make the financing of the country’s twin deficits—budget and current account—much more difficult.

Home-Grown Issues

That’s where the home-grown issues facing the economy come into play. Employment is too low, especially in the private sector. One in two young South Africans is unemployed. At the same time, real wage growth has outstripped productivity growth. South Africa’s competitiveness problem is manifesting itself in a growing trade deficit, even against a backdrop of weak growth. Power and transportation bottlenecks are a drag on the economy. And despite strong corporate performance, depressed business confidence has held back private investment.

Rigidities in labor and product markets underlie many of these problems. The collective bargaining system needs to serve the interests of the entire population—and not just insiders. Product markets also need to see greater competition, which in turn would allow new businesses, including small and medium-sized enterprises. These reforms would also bring lower prices and provide greater incentives to innovation and increased productivity. Reforms in these areas will not be easy, but a Grand National social bargain could help overcome the impasse.

South Africa is fortunate to have capable economic managers. They need to maintain the prudent macroeconomic policies that can create an economic climate conducive to growth and job creation. At the same time, a medium-term strategy, as outlined in the 2013 budget, is essential to rebuild fiscal buffers and reduce external vulnerabilities. These policies can provide the space to implement the reforms needed to increase growth and employment. The government’s National Development Plan contains a thoughtful and broad blueprint for addressing several of the constraints I’ve described, notably in infrastructure, education, healthcare, and public service delivery.

Now is the time for concrete action. As the NDP says, “South Africa needs to fix the future, starting today.” Failure to address the structural problems would weaken growth prospects and hamper efforts to reduce unemployment and inequality. It could also trigger a decline of confidence and a pullback of capital flows. In the long run, failure to deliver inclusive growth poses a risk to social stability. Structural reforms are the key to unlock South Africa’s potential.

The IMF is deeply committed to working with South Africa to provide the advice and analysis that can help address these problems and unleash the economy’s full capabilities. As a member of the G-20 and the largest economy in sub-Saharan Africa, this country has a role to play in ensuring global economic stability—and contributing to sustained and balanced growth—by addressing its own problems.

South Africa has made great strides in economic and social development since the end of apartheid. It has raised income levels and reduced poverty. The imperative now is to generate the growth necessary to create the millions of jobs needed to reduce unemployment and absorb new entrants into the labor force. The reform process will require political courage, but it is the way to bring the most benefits to the entire population and continue building an inclusive country that can be a proud example to the international community.