BofAML: Revising SA growth and talking cuts

IMF, Treasury, economy, GDP, unemployment, International Monetary FundBofAML has issued the following note:

By Rukayat Yusuf and Ferhan Salman.

We lower our South Africa growth projections to 0.9% and 1.3% for 2019 and 2020 (previous: 1.3% and 1.5% respectively). We estimate output likely contracted by 2.0% in Q1 as weakening global conditions coincided with domestic electricity shortages and mining sector disruptions. We estimate that a 1% shock to China and G7 (ex-China) growth could impact domestic output by -0.6% and -1.3% respectively within a year.

Markets await the cabinet reshuffle where positive reconfigurations could set the stage for some quick win reforms. That said, potential growth (which we estimate at 1.5%-1.8% by year-end) still faces long term structural constraints. We have pencilled in a 25bp cut from early 2020 when we expect more clarity on fiscal, ZAR and Moodys risks.

Cutting growth on domestic and global headwinds

We revise our South Africa growth projections to 0.9% and 1.3% for 2019 and 2020 (previous: 1.3% and 1.5% respectively). We estimate output likely contracted by 2.0% in Q1 as weakening global conditions coincided with rolling blackouts and mining sector disruptions. In our view, prolonged trade war uncertainties, slowing Eurozone data and Iran-oil risks imply the domestic outlook will likely stay poor for now.

We have cut real export growth to just 0.7% from 2.6% in 2018 while also trimming domestic consumption to 1.6% from 1.8%. We estimate that a 1% shock to China and G7 growth (ex-China) could impact domestic output by -0.6% and -1.3% respectively within a year. We still expect investment to improve from a low base but business confidence hinges as much on the global outlook as domestic efforts to restore policy stability and reform momentum. A positive cabinet reshuffle would set the stage for some quick wins but potential growth still faces long-term structural constraints. We have pencilled in a 25bp cut from early 2020 when we expect more clarity on fiscal, ZAR and Moodys risks.

We estimate contraction in Q1 economic activity

High frequency indicators deteriorated sharply in Q1 2019Retail sales fell 0.7% quarter on quarter from +0.8% in Q4, while manufacturing and mining fell -2.4% and -3.4%. We now estimate a 2.0% qoq annualised decline in output for the quarter. While we see scope for a gradual improvement in the coming months, we believe risks are still skewed significantly to the downside. Our measures of potential growth are tracking a range of just 1.5-1.8% by the end of the year.

Market awaits the cabinet reshuffle and reform plan

Market attention is focused on the cabinet reshuffle which was expected by 27 May but has been delayed. We would view a reconfiguration and trimming of the cabinet size as positive. News articles have suggested that Minister of Finance Tito Mboweni will likely remain while Malusi Gigaba, Nomvula Mokonyane and Bathabile Dlamini may no longer be on the minister list(*). Positive changes could set the stage for quick win reforms onanti-corruption efforts, visa regulation, reducing the cost of doing business and spectrum allocation, for example.

Addressing Eskoms unbundling and operational/financial challenges will likely be the most critical test for the new president, challenging internal ANC (African National Congress) coalitions and popular sentiment. The debate around land reform and SARB (South African Reserve Bank)nationalisation will however continue to detract from policy focus, in our view. Progress on reducing skills shortages, labour markets and business regulations will take more time.

Prolonged trade uncertainty would weigh on the domestic outlook

Our global team still sees a trade resolution unfolding in the second half of the year, but uncertainties are already affecting global growth. We have recently revised our Eurozone forecasts downwards for this and next year. Our China economists expect a modest hit to exports and negative spillovers to business confidence with growth weakness in Q3 before stimulus measures take effect. Ia full-blown trade war scenario, they expectChinas overall growth to fall to 5.8% from 6.1% currently. Using a structural VAR framework(*)we estimate that a 1% shock to China and G7 (ex-China) growth could impact domestic output by -0.6% and -1.3% respectively within a year.

We see scope for rate cuts from early 2020

We have pencilled in a 25bp cut from early 2020 when we expect more clarity on fiscal, ZAR and Moodys risks. As expected, the SARB left the policy rate unchanged at 6.75% on May 23rd but with a more dovish tone. The SARB now sees room for a rate cut by 2020 in the Quarterly Projection Model (QPM) versus one hike previously. We think the SARBs 2020 assumptions are still too optimisticimplying more cuts will likely be priced into the QPM down the line. Real rates of +2.5% and inflation expectations currently at 4.7% suggest policy space, in our view.

While the SARB cut 2019 macro projections, we think 2020 forecasts are still too bullish. Growth and inflation are now seen at 1.0% and 4.5% in 2019 from 1.3% and 4.8% previously. 2020 inflation is however at 5.1% with growth of 1.8% (BofAMLe: 4.7% and 1.3%). This implies more MT revisions are likely from the SARB, in our view. Higher oil price assumptions (up $3-5/bbl) are offset by lower food and services inflation with the negative output gap weighing on core.

The decision to hold was split 3:2 so we think the rate cut debate could gain traction in the coming months if growth and inflation underperform. Chris Loewald, the Head of the SARB Research Department, will join the monetary policy committee from June 1st and we expect him to be slightly hawkish and model-driven.



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