Shock Therapy on the cards: Tito Mboweni is heading for economic decline, not “kick-start of growth”

by Amandla Correspondent | Amandla! Issue No. 66 | October 2019

In August, the Treasury issued a discussion document Towards an economic strategy for South Africa, asking for public contributions.

The Treasury has not participated in the discussion, apart from complaining about the critique from trade unions. Instead, the Treasury is pushing a line.

If you are subject to pressure from global finance, there is only one truth. It must be repeated over and over again in Budget Reviews, policy documents and speeches, demonstrating to financial investors that nothing has changed. They can stay calm with their short-term investments in loans to the government and state owned enterprises (SOEs). They must not sell their shares on the Johannesburg Stock Exchange (JSE).

Back to Gear

That is why the August document reads: “South Africa’s industrial policy is on the right track, but some important adjustments could significantly improve its effectiveness”. The policy is always right. It just has to be deepened further, like in the old German Democratic Republic.

The document also includes the priceless sentence: “Exports have been identified as a key driver of economic growth”. Identified by whom? 23 years ago, 15 authors of a document called “Gear” also “identified” the “export-oriented strategy” as the road forward that would “lay the basis for an export-led revival of the economy”.

To that end they advocated “further step in the gradual relaxation of exchange controls”. This, and the lifting of protection for local industries like textile, led to the present state of the economy. They asserted that “the general direction of economic policy is towards greater openness and competitiveness”, bravely admitting that “the economy will thus become increasingly subject to global forces”.

Austerity the order of the day

In July, the Treasury sent out the following directive to the departments before the Mid Term Budget review:

“A compulsory budget baseline reduction scenario of 5 per cent in 2020/21; 6 per cent in 2021/22 and 7 per cent in 2022/23 must be shown by institutions indicating where baseline reductions could be implemented with the least implications for service delivery.”

“Budget baseline reduction scenario” means spending cuts.

The first 5% cut means a R76 billion cut next year. The following 6% means a R98 billion cut in the second year. The third year’s cut will be even larger, but the budget ceiling for the third year wasn’t disclosed in the 2019 Budget Review.

Public spending (excluding interest payments) will next year be cut by about 3.4% in real terms – after accounting for inflation – if this goes ahead.

This is nothing less than an extremist plan for provoking a fall in production of goods and services: a recession. Government spending comprises almost a third of Gross Domestic Product (GDP). If the budget ceiling (total public services and investment spending) is lowered like this next year, more than 1% will be cut from GDP. More workers will be added to the mass of unemployed.

How can this be a rational approach?

We might find the rationale for it in the 23 year old Gear document. It pointed out that “the balance of payments remains a structural barrier to accelerated growth”.

The balance of payments is about how much foreign currency a country has available in its banks to continue to trade with the rest of the world, as well as pay back loans taken from foreigners in dollars and other “hard currencies”.

Companies in South Africa must change their rand to foreign currency before they import anything. No one can buy oil or anything else from abroad if there are no dollars, euros and pounds in the banks of the country.  

To guard against such a payment crisis, the South African Reserve Bank (SARB) sets interest rates high so that foreign investors will prefer South African bonds to bonds of other countries. Their deposits of hard currency in the banks make it possible to continue imports and payments of foreign loans.

But when the SARB increases the interest rates, this cripples economic growth. This is “the structural barrier” the Gear authors talked about. They further wrote:

“The economy is dependent on imported capital and intermediate goods…the lack of sustained long term capital inflows has made the balance of payments and the economy too reliant on short term reversible flows and consequently high interest rates.”

The Treasury and the SA Reserve Bank find themselves in that situation today. But, everything is worse because of the wrong policy approach of Gear. Tools, machines and advanced equipment continue to be largely bought for hard currency because of deindustrialisation. There is not much inflow of capital for long term investments. But there are huge foreign currency outflows of dividends from profits and payments to foreign lenders, as well as billions in illicit hard currency outflows.

And the country is dependent on rapid inflows of foreign currency to pay for imports and pay back foreign loans.

On 9 October, the SARB announced that South Africa’s “international liquidity” – the ability to pay for imports – dropped by US$168 million.

“Import compression”?

An upswing in the economy leads to increased imports, and a downturn decreases them. Imports are bought with foreign currency. So a downturn saves foreign currency in the vaults of the banks and SARB. And this might be where the shoe is pinching.

During AIDC’s conference on illicit financial flows in October, Prof. Seeraj Mohamed asked whether the Treasury doesn’t mind another recession. It will cut imports even more than a simple business cycle downturn and save more dollars. This will avert a possible payment crisis. Such a policy is called “import compression”.

Indeed, the plan before the Mid Term Budget indicates that the Treasury doesn’t mind helping the recession to happen, or making it deeper, considering that a recession is around the corner anyhow, given the depressed economic outlook for global capitalism.

Make use of the inevitable credit downgrade

Will a cut in public spending stop the credit rating agency Moody’s from downgrading South Africa? In fact a downgrade is inevitable, for whatever reason, if not in November then early next year. This will indeed lead to a sudden financial outflow of international pension fund investments and a possible crisis of a shortage of foreign currency.

We have time and again suggested that the government must stop using the public service delivery budget and tax money to save Eskom and other SOEs. It must stop borrowing from international profit-maximising finance and turn to the local funds at hand. The PIC handles over R2 trillion in funds deposited there by the Government Employee Pension fund and the UIF. These funds should be used for regulated borrowing. It would pose no threat whatsoever to pension benefits. GEPF runs a surplus of R50 billion per year and UIF has accumulated R170 billion for no good reasons.

This delinking from global finance is obviously not enough. There need to be more delinking from the financial markets. To domestic solutions of the debt crisis must now be added a demand for so called “Capital Controls”. This is what Gear opposed 23 years ago, in a policy document that promised wonders, but led to social disaster.

Argentina going for capital controls

After huge outflows of foreign currency both Turkey and Argentina have now used “import compression” (state managed cut in imports) to stop the same kind of payment crisis that Mboweni’s Mid Term Budget cuts seem to deal with. One reason for their capital flight was President Trump’s tax cuts for the rich and corporations. Faced with lower taxes, rich Americans and corporations started to bring their dollars back to the US. Recessions and more unemployment have followed. Argentina has however just introduced capital controls in an overdue response.

In the case of South Africa, anything can provoke an outflow. That would mean game over for the balance of payments, followed by a financial crash. Faced with this threat, the Treasury is obviously going for draconian cuts in public spending, and, with this, in total economic demand. Tax revenue will fall as a result. And of course this will also lead to a credit downgrading, but not in November.

Don’t waste a good downgrade

But won’t capital controls also lead to a credit downgrade? Most certainly so! They will be regarded as a left turn and “bad for business”. But the Treasury has used the threat of a credit downgrade for too long. Now it is inevitable, and Tito Mboweni is no doubt planning for it. Instead of wasting the downgrade on a recession, it must be better to cash it in for a good purpose: a complete overhaul of economic policy.