Economic policy was a key issue in the US elections. There was heated disagreement on whether President Barack Obama’s policies were an appropriate response to severe economic weakness and high unemployment. Critics claimed they extended the downturn which began in 2007 and made recovery unusually slow. People are worried about the huge rise in government debt caused by large budget deficits intended to promote economic recovery but which had not done so.
Financial Times columnist Martin Wolf has rejected these criticisms. He cites a 2009 analysis of historical economic downturns by Carmen Reinhart and Kenneth Rogoff which shows that slowdowns caused by systemic financial crises are always much harsher and longer lasting. Current global economic weakness, Wolf argues, was clearly the result of a major financial crisis that started in the US and spread globally. It is therefore not surprising the slowdown was severe and recovery slow. Wolf argues that while this downturn in the US was very painful, it was in fact less severe than during previous systemic financial crises. This, he suggests, shows that economic policy worked.
Unlike many other developing countries, the global crisis did not affect South Africa’s financial system. Sound bank management and strict regulation prevented this. But the damage to our economy was significant. Gross domestic product (GDP) contracted by 1.5% in 2009. Recovery has been slow. GDP growth since 2010 averaged just 3% a year, less than half that of developing countries as a whole. Moreover, growth in South Africa is now slowing and is unlikely to achieve official forecasts of 2.5% this year. South Africa has become a growth laggard.
Why is this so, given that South Africa avoided a banking crisis? One explanation is that because South Africa’s financial system remained sound throughout, our policy response lacked the sense of urgency experienced elsewhere. High global commodity prices increased this sense of security while strong foreign capital inflows protected us from the global fallout.
How did we respond? Interest rates were cut and are now the lowest in three decades. Fiscal policy was expansionary, with the budget deficit rising to 5.5% of GDP in 2009. But, with hindsight, a more aggressive response was needed. Interest rates should have been cut further and faster, and fiscal policy adjusted to restore weakening investment and domestic demand. Instead, there was no targeted stimulus package. The increased budget deficit was an automatic response to falling tax revenue. The government highlighted infrastructure investment plans, but this programme continues to underdeliver, with funds unspent at the end of each year.
The policy response proved inadequate because we are affected by many features of the financial crisis which afflicted the US, even though our banks remain sound. Like the US in the run-up to the crisis, house prices here had soared prior to 2007, and household debt had risen to record levels. House prices then weakened and this, with the remaining high indebtedness, limits the recovery of consumer spending. Local firms, shocked by the global financial fallout, prefer to sit on cash rather than invest. And South African banks, though their balance sheets are sound, are reluctant to lend.
South Africa’s economic weakness is partly self-inflicted. Sharp increases in administered prices, especially electricity, are compounding consumer spending weakness. Mining production was lower than in 2005 even before the recent disruptions. Because of inadequate infrastructure, a lack of electricity and cumbersome regulations, South Africa has been unable to increase production of the commodities the fast-growing economies want to buy from us. We stand in sad contrast to commodity countries like Australia, whose exports boomed at this time of high prices.
Now mining production has plummeted because of illegal strikes. Unlike factories, where lost production can be caught up later through working overtime, lost mining production and export earnings are permanent. GDP growth forecasts are being revised downwards to reflect this reality.
The downturn was also compounded by an unnecessary loss of jobs. The International Monetary Fund (IMF) has noted that job losses in South Africa were unusually severe. Because real wages continued to rise rapidly even as the economy weakened, firms responded by cutting employment. Sluggish growth since 2008 has for the same reason been accompanied by little job creation. The problems in the mining sector will bring further job losses as loss-making mining companies cut back on investment and reduce production.
The world economy is unlikely to come to our rescue. Indeed, the latest IMF World Economic Outlook warns that the risks of a serious global slowdown are "alarmingly high". There is nothing to kick start us out of stagnation onto a path of stronger growth.
The government, business and labour must wake up to the fact that we face a prolonged period of tepid growth. We may have limited our ability to make things better through ill-considered choices. We must do all we can not to make things even worse.
• Professor Gavin Keeton is with the economics department at Rhodes University.