Rebalancing act: As demand from traditional trading partners drops, efforts increase to boost trade with new regions

A widening trade imbalance caused South Africa’s current account deficit to broaden to 6.4% of GDP in 2012, up from 4.2% in 2011 and 2.8% in 2010, and the widest since the start of the global financial crisis in 2008, when it reached 7.3%. With the services balance traditionally in deficit, deepening trade imbalances have driven the current account deficit. “While the services account has registered a structural deficit of roughly 4% in recent years, the widening trade imbalance has driven the higher current account deficit and testifies to a lack of competitiveness of South African industry,” Richard Downing, a consultant at the South African Chamber of Commerce and Industry, told OBG.

Striking A Balance

Although the gap has been easily financed by sizeable portfolio inflows to the domestic bond market, in particular in 2012, this has exposed the country’s balance of payments to potentially large inequities should hot money flows reverse – or even if the rate diminishes. Although the trade deficit was driven by both a slowdown in key export markets and growing imports of capital goods linked to large infrastructure investments, structural measures to rebalance the economy are likely to be key to reducing pressures on the government’s balance of payments.

Import Structure

The recovery in domestic consumption since 2010 was not matched by an equal rebound in local production, causing the trade balance to switch from a surplus of 0.6% of GDP in 2011 to a deficit of 1.9% in 2012, according to IMF figures. After growing from some $74.05bn in 2009 to $96.92bn in 2011, imports reached a new high of $10.02bn in October 2012, roughly eight times the 50-year average of $1.3bn, according to research firm Trading Economics. In total the South African Revenue Service (SARS) reported that imports measured R835.6bn ($101.9bn) in 2012, 14.6% up on the R729bn ($88.86bn) in 2011.

One factor has been the surge in imports associated with large infrastructure projects. As government spending on infrastructure has gathered pace since the power shortages of 2008, state-owned enterprises in particular have driven imports of capital goods. Non-financial public enterprises’ spending on infrastructure remained high, with real expenditure fluctuating from R103.32bn ($12.6bn) in fiscal year 2008/09 to R85.99bn ($10.48bn) in 2010/11, higher than the R75.83bn ($9.24bn) invested by the three tiers of government.

With a medium-term capital expenditure plan of some R845bn ($103bn) in the next four years, and despite efforts to develop more local sourcing of inputs, public enterprises are likely to remain key importers in the coming years. The award of a $5.8bn contract in late 2012 for the purchase of 3600 train cars over 10 years from French company Alstom by the Passenger Rail Agency of South Africa gives an indication of the significant import requirements over the medium term.

Equipment and machinery purchases, primarily from China, Japan, India and the EU, accounted for some 24% of all imports in 2011, worth roughly R176.8bn ($21.55bn), according to Statistics South Africa.

But while such imports have pushed the bill higher, those linked to household consumption also played a role. Imports of refined fuel and crude oil account for 24% of the import bill, far outpacing motor vehicle imports at 10%, electronics at 3% and pharmaceuticals at 2%. “While imports of capital goods in the context of the large investment programme pursued by state-owned entities like Eskom and Transnet have played a part in widening the current account deficit, about 22% of our import bill is composed of crude oil and rising refined petroleum imports, due to expanding demand and ageing refining infrastructure,” Jorge Maia, head of research and information at the Industrial Development Corporation, told OBG.

Incentives

New schemes to promote development of domestic supply chains, such as the Automotive Production and Development Programme, with its associated import duties as well as incentives and allowances for local assembly and production, should help encourage import substitution in some capital goods. However, productive investments in public infrastructure will continue to weigh on the import bill. “Trade liberalisation discussions must be considered carefully as the arrival of cheap imports could hurt our balance of trade and ultimately our industrial base and the jobs that come with it,” said Leslie Sedibe, head of Proudly South African, a “buy local” marketing campaign. South Africa has become more active in raising trade grievances, voicing concerns over Brazil’s “dumping” (exporting at a price below value) of chicken on the market (South Africa runs a $1bn trade deficit with Brazil, according to data from the reserve bank) or the delivery of a list of complaints relating to market access during a trip to Beijing in October 2012.

Rebalancing Exports

More worrying than the influx of imports has been the sustained slowdown in the economy’s export position. While the appreciation of the rand until April 2012 reduced the competitiveness of exports, domestic factors, including the higher cost of electricity, transport and labour also played a role. While the currency declined from April onwards, however, the impact on exports was muted by flat demand from Europe, the key export market, as well as disturbances in commodity output, particularly mining, due to labour unrest in the latter half of 2012. “While imports of capital goods linked to public sector investment programmes by key government-related entities has played a role in widening the current account deficit, we are more concerned about the export slowdown,” Konrad Reuss, managing director for South Africa and sub-Saharan Africa at Standard & Poor’s, told OBG. “Exports to new trading partners like the BRIC and African countries are not sufficient to offset drops in traditional export markets.” The Treasury estimates that while imports surged 7.2% year-on-year (y-o-y) in 2012, exports grew by just 1.1%, creating a gap of $23bn in 2012, a trade deficit of 1.9% of GDP. While the value of merchandise imports continued to grow by 4.4% in late 2012, the value of merchandise exports dropped by 6.4%, according to South Africa Reserve Bank (SARB), contributing to a widening trade imbalance. Exports to the EU fell by 4% in the first three quarters 2012, with Germany seeing a 14% drop, while those to the US remained flat and exports to Japan contracted by 21%. Lower demand from traditionally key export markets coupled with lower commodity prices and the impact of locked-in capacity in mines all dampened export performance in 2012. Supply disruptions have particularly hit commodity exports, which account for roughly two-thirds of the total value. Exports of platinum, which account for 80% of global supply, but have been hindered by labour unrest, fell 22% y-o-y in the first three quarters of 2012, according to SARB figures. “Extractive industries, due to their labour intensiveness and challenging and contained working environments, will naturally be under more labour pressure than other industries,” Andy Baker, the regional president for Africa at G4S, told OBG. South Africa is the only African country with significant exports of manufactured goods to the US market under the African Growth and Opportunity Act, which provides tariff-free access to the US market. It is also the third-largest African exporter to the US market, accounting for 13% of total African imports worth $79bn in 2011, according to US trade data, following Nigeria and Angola. Yet lacklustre growth in the US in 2012 caused South African exports to grow just 0.5% y-o-y in the first three quarters, down from 15.8% growth in 2011.

Regional Trade

The contraction in exports to Europe has been somewhat counterbalanced by a rise in trade with Africa – exports to Africa rose from 25% to 38% between 2007 and 2012, with the Southern African Development Community (SADC) accounting for the second-largest share of South African exports in 2012, after China. SADC’s share of total exports rose from 2% in 2000 to 12.2% in 2012, according to the SARB, including a full 22% of manufactured exports. Within Africa, exports to SADC equalled 87% of the total in 2011, according to data from the Department of Trade and Industry, far outpacing the 6% of exports to West Africa and the 5% to East Africa. “SADC, as a bloc, stands to benefit from further cohesion. There is a lot of political will to exploit complementarities, but execution is lacking,” said Miller Motola, CEO of Brand South Africa.

Trade with new partners like the BRIC countries has grown significantly in the last decade, with 32% growth in bilateral trade with China in 2011, 25% with India and 20% with Brazil. Indeed, 48% of South African exports went to emerging economies in 2012, and its share of trade with BRIC countries grew from 5% in 2002 to 19% in 2012, according to Standard Bank. South African exports to its BRICS partners grew by 17% in 2012. Exports to China, roughly 80% of which are commodity-linked products, continued to rise at 9% y-o-y through most of 2012, albeit at a much slower pace than in the same period in 2011 when they grew 46% y-o-y. India also represents a growing market for South African goods, with exports up 19% in the same period. While trade with Russia recovered from its 44% contraction in 2010, it remains marginal, with South African exports of $390bn in the year to November 2012, according to SARS. Yet the stimulus of higher exports to emerging markets was not sufficient to offset the drop-off in more established developed markets.

While the broadening current account deficit has been a concern, more worrying has been the fact that the deficit has been funded through portfolio inflows, a more fickle financing stream than direct investment. While net portfolio investment reached 2.2% of GDP in the first three quarters of 2012, up from -0.6% in 2011, the value of net new foreign direct investment was just 0.9% of GDP by September 2012. “With a savings rate of around 14% of GDP and investment levels of some 20% of GDP, South Africa has had to finance the 6% gap through portfolio inflows into the bond market, which can prove volatile,” Downing told OBG.

The roughly $20bn annual gap in foreign trade must for the time being be financed through portfolio inflows, This leads to the risk, according to a Jyske Bank report from March 2013, “that the capital inflows will dry up, catapulting the rand sharply weaker”. The National Development Plan and other action plans seek to address these challenges, although this will take time.