In contrast to talk of a “capital strike” or “investment freeze”, the private sector actually continues to invest hundreds of billions of rands into the South African economy each year despite the low growth or recession conditions and policy uncertainty.
In fact, the average level of investment activity over the past year is more than 100% larger than the average achieved in the eight years from 1994 to 2002, after adjusting for the impact of inflation.
However, private investment activity has been declining.
Fixed investment spending in South Africa, by government and the private sector, amounted to 19.5% of GDP in the first quarter of 2017. While this is relatively unchanged compared with the preceding seven to eight years, since the global financial market crisis, it is far too low given the country’s high and sustained level of unemployment.
Ideally, South Africa should be spending a minimum of 25% to 30% of GDP each year on fixed investment activity, and then maintaining that level of development for at least a decade. These are the targets outlined by both the Growth, Employment and Redistribution (GEAR) document in 1996 and the National Development Plan in 2011. That would suggest that South Africa is experiencing an annual fixed investment shortfall of somewhere between R250 billion and R450 billion a year. This is equivalent to building between four and eight very large shopping centres the size of the Mall of Africa every single month for the next ten years.
A breakdown of South Africa’s current level of fixed investment activity reveals that the public sector (government and public corporations) accounts for 40% of the total, while the private sector represents the remaining 60%.
The current ratio of 60% for private sector fixed investment is the lowest since 1994. At its peak in 2006 the private sector was responsible for almost 75% of all fixed investment activity in the country, averaging 73% from 2004 to 2007. Unsurprisingly, during this same four year period, South Africa achieved an average annual GDP growth rate of 5.2%, creating around 1.5 million jobs.
It is encouraging to see that the government has been able to improve its level of investment spending over the past three quarters, especially at a time when most public corporations are reducing their investment spending given the recent deterioration in their financial position. The increase in government investment, supported by various road maintenance and road rehabilitation projects, has more than offset the most recent slowdown in investment activity by public corporations, resulting in a net increase in public sector fixed investment in recent quarters.
Clearly, both private and public sector fixed investment activity are vital if the country wants to achieve sustainably higher economic growth that leads to widespread job creation and economic transformation. Without a systematic increase in fixed investment activity it is difficult to envisage that any country would be able to meaningfully increase employment. South Africa’s labour force expands by roughly 600 000 people each year. This means that the economy needs to create an average of around 50 000 new jobs each month just to stop unemployment rising. Unfortunately, over the past year to end March 2017, formal sector employment declined by 58 000 jobs according to the Quarterly Employment Statistics recently released by Statistics South Africa.
There is a long-established relationship between private sector fixed investment spending and business confidence, both locally and internationally. This relationship argues that a sustained decline in business confidence leads to a sustained drop-off in business investment. And vice versa.
South African business confidence, as measured by the Bureau for Economic Research in Stellenbosch, has been below its neutral level of 50 index points for most of the time since the global financial market crisis in 2008/2009.
More recently it has trended noticeably weaker reaching a near-term low of 29 index points in the second quarter of 2017.
Unsurprisingly, private sector fixed investment spending is effectively in recession, having declined in seven out of the last nine quarters. For 2016 as a whole private sector investment fell by -5.8%, after declining by -4.1% in 2015. From its peak in the final quarter of 2014, private sector investment is down a total of 9.5%.
More positively, there was a small increase in private investment activity in the first quarter of 2017 of 1.2% quarter-on-quarter, but this appears unlikely to be sustained given the recent further deterioration in business confidence following the cabinet reshuffle and credit rating downgrades.
A breakdown of private sector fixed investment by sector suggests that over the last two years, the fall-off in investment spending has been reasonably broad-based, with the largest decline in manufacturing. Other key sectors of the economy have also recorded noticeable declines including agriculture, wholesale and retail trade as well as mining. There has also been some weakening in fixed investment within the broad business services sector.
In terms of types of assets, there has been a very noticeable pull back in private sector investment in machinery and equipment, which has fallen by a massive 13.7% over the past two years and has declined by 26% since its all-time record high in 2008. This together with a contraction in investment in transport equipment (-5.2%), argues that the productive sectors of the South African economy are being neglected.
There has also been a 25% drop-off in private sector investment in software as well as 8.9% decline in investment in information, computers and telecommunication equipment since end 2014. Worryingly, this curtailment of investment in technology is occurring at a time of rising global competitiveness and extensive cyber-attacks on all types businesses.
Fortunately, this curtailment of private sector business investment has been partially offset by reasonable increase in private sector residential property investment since the global financial market crisis.
Overall, it is clear that key sectors of the South African economy have been especially hard-hit by the deterioration in household and business confidence in recent years and the ensuing recession. It is also clear that the business sector has either abandoned or curtailed some its expansion plans in recent years, especially longer-term projects.
However, in this context two important positives are worth noting.
Firstly the private business sector, more specifically larger corporates mostly remain in reasonably good financial shape with relatively low gearing.
Secondly, while the private sector has reduced its level of fixed investment spending relative to the peak achieved a few years ago, the average level of investment activity over the past year remains more than 100% larger than the average achieved in the eight years from 1994 to 2002, after adjusting for the impact of inflation.
In other words, the private sector continues to invest hundreds of billions of rands into the South African economy each year despite the low-growth or recession conditions and policy uncertainty. While many corporates have the financial strength to boost their current level of fixed investment spending, they need to consider the risks associated with any new investment project and how those risks might impact customers, staff and shareholders.
Under these circumstances, it is highly likely that the introduction of consistent and supportive economic, political and social policies would be accompanied by a substantial uplift in private sector investment including the desire to partner with government, through the use of private public partnerships, in order to help develop vital infrastructure.
Kevin Lings is chief economist at STANLIB.