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I was looking for a shorthand way of summarising what I thought were the main political risks that are in the minds of investors in South African financial markets.
Note that the emphasis here (in what appears below) is what I think is an appropriate prism for investors in financial markets, and specifically those with an horizon of a maximum of 5-7 years.
If I was looking at broader security issues, particularly with regard to the stability of the state and ruling party, I would have had a significantly different emphasis – and have aspects that are both more negative and more positive than that which appears below. Hopefully, at some time in the future, I will post here a more general threat or risk analysis that would be of more specific relevance to South Africans who hope to live and work here.
Finally, before I get on with it, I do not explore the potential for an upside suprise here … but there does appear to me to be a slight accumulation of good news, albeit against a dark background.
SA Politics and financial markets – 3 risks
- Unpredictable and/or negative government economic policy interventions: Medium seriousness. Medium likelihood. Short- and medium-term duration (next few months to five years);
- Escalating social unrest – perhaps leading to “Arab Spring” type event: Very serious. Very unlikely. Medium- to-long duration (five to seven years);
- Ratings downgrades and tension between ambitious government plans and narrowing fiscal space: Serious risk. Medium likelihood. Short- and medium-term duration (one to three years).
Unpredictable and/or negative government economic policy interventions
Medium seriousness. Medium likelihood. Short- and medium-term duration (next few months to five years)
What it’s about: Most obvious are new interventions in the mineral and exploration sectors (including new taxes, price setting, beneficiation requirements, export restrictions, uncertainty about licence conditions and significantly increased ministerial discretion via the Mineral and Petroleum Resources Amendment Bill), but there are comparable interventions across the economy, as indicated in the ANC’s Mangaung Resolution and in a range of proposed regulatory and legislative changes, including those relating to telecommunications, liquid fuels, the labour market, employment equity and Black Economic Empowerment (to name just a few).
My view: Since 1994, it has generally been the case that markets consistently overestimate the risk that the ANC and its government will take significantly populist policy measures. The best example of this was in July 2002, when exaggerated targets for black equity participation in the mining sector where leaked and R52b left the JSE resources sector in 72 hours – a buying opportunity of note. However, the traction Julius Malema was able to achieve with disaffected youth post-2009 and the implicit defection from the ANC and its allies in the platinum strikes last year have catapulted the ANC into something of a policy scrabble. While nationalisation is off the agenda, it has been replaced by a policy push that hopes to deploy private companies, through regulation and other forms of pressure, to achieve government (and party) targets of employment, revenue generation, service delivery to local communities and infrastructure build. Increases in the tax take look likely – it’s purely a question of ‘how much the market can bear’.
Government intervention, per se, is less the issue here but rather the confused, generalised and uncertain nature and intent of the interventions. If the interventions do not have the desired results (growth, employment and equality), the risk is that government does not reassess the wisdom of the intervention, but instead uses a heavier hand.
Financial markets: Policy uncertainty puts downward pressure on investment, employment and output in all sectors. In South Africa, these negative impacts will be felt most keenly by companies most exposed to government licencing and regulatory power, or most exposed to government’s political prioritisation. Resources, telecommunications and agriculture all fall into one, or both, of these categories.
Escalating social unrest – perhaps leading to “Arab Spring” type event
Very serious. Very unlikely. Medium-to-long duration (five to seven years).
What it’s about: Significant and consistent (apparently linear) growth in service delivery protests, combined with growing levels of industrial unrest (in 2012, anyway) seem to imply that such unrest could continue to escalate until it reaches a point of ‘phase state change’ (as in thermodynamics, referring to changing states of matter – to/from solid, liquid and gas). Thus, the risk is of a sudden systemic shift from unstable to revolutionary/insurrectionary.
My view: Increasing protest and industrial unrest are normal – and fairly consistent – features of South African political life and have been since at least the mid-1970s. Even before 1994 there was no real expectation that unrest would lead naturally to insurrection. A rapid phase state change, like an Arab-spring type event, requires (perhaps indirectly) contesting political formations and ideologies as well as the widespread failure – or absence – of social institutions (parliaments, courts) that direct, mediate and give expression to grievances and/or conflicting group interests. South Africa is rich in such institutions and there is no evidence that large groups of dissenting voices have permanently failed to find expression in society’s normal processes and institutions – even when some of those processes include robust forms of public dispute. However, South Africa does have some comparable features to countries that have had ‘Tunisia-moments’ – including high and growing youth unemployment, high levels of visible inequality and serious government corruption – so we would keep an eye on the escalating ‘service delivery protest’ trends, as evidenced in graphs from Municipal IQ below.
Industrial relations unrest is slightly different from – and more negative than – the question of social unrest as a whole. Trade unions are strong and growing in South Africa, and contestation between them is vigorous, even violent – as we saw in the platinum sector in 2012. Trade unions are businesses with an enticing annuity income flow – and this will drive their contestation. The collective bargaining system in South Africa is functioning sub-optimally for a number of reasons – including inappropriately high levels at which automatic recognition kicks in – and the disarray in the system also drives unrest. This conjunction of subjective and objective conditions means I am less sanguine about industrial relations stability (than about stability per se) and expect this to remain a negative investment feature for the next several years. I am specifically negative on public sector industrial relations stability for 2013.
Thus, I do not think unrest and social discord will lead to any radical policy or political discontinuities, but will remain a constant drain on confidence. I also think this phenomenon will tempt government into keeping spending (on the public sector wage bill and on social grants) at above-inflation levels – helping to feed uncertainty and unpredictability in state finances, inflation, the currency and the bond markets.
Additionally, I think labour unrest will remain a seriously destabilising factor of production – including via disruption of services in public sector strikes.
Resources, agriculture and construction are most exposed through their reliance on large, aggregated and often low-skilled/low-pay labour forces. The financial services and retail are less exposed to (but not immune to) the negative effects of industrial action.
Ratings downgrades and tension between ambitious government plans and narrowing fiscal space
Serious risk. Medium-likelihood. Short- and medium-term duration (one to three years).
What it’s about: The ruling party is facing something of its own ‘fiscal cliff’. The ANC feels itself in danger of losing some support because of failure to deliver employment growth or adequate reductions in poverty and inequality. Foreign investors agree this is a risk, but will not necessarily agree to fund the gap. This tension is among the reasons that all three major rating agencies (Moody’s, Fitch and S&P) downgraded SA’s sovereign rating in 2012 (Fitch in January this year) and both Moody’s and S&P put SA on watch list for future downgrades. The ANC secures political support, at least in part, through spending on the public sector wage bill and on social grants – which together now make up more than half of annual non-interest government spending. Additionally, the ANC has occasionally shown itself hostage to the views of its alliance partners or popular opinion in its spending and revenue plans (Gauteng toll-roads, youth wage subsidy). The ratings agencies don’t like the tension and I expect the bond markets won’t either.
My view: South Africa maintains respectable debt-to-GDP ratios, although these grew to 39% of GDP by end-2012, substantially higher than the 34% for emerging and developing economies as a whole. When Fitch downgraded SA earlier this year, it specifically mentioned concerns about SA’s rising debt-to-GDP ratio, given that the ratio is higher (and rising at a faster pace) than the country’s peers.
South Africa is uniquely (eg in relation to its BRICS peers) exposed to foreign investor sentiment through the deficit on the current account combined with liquid and deep fixed interest markets. SA’s widening deficit on the current account is a specific factor that concerns the rating agencies and is one of the metrics the agencies will use to assess SA’s sovereign risk in the near future. Further downgrades are the risk – potentially driven by foreign investor sentiment about political risks. Non-investment grade (junk bond status) is not an inconceivable future rating.
Financial markets: A significant sell-off in the rand, coupled with persistent currency volatility and reduced foreign capital inflows. Traditionally this scenario would mean investors look for rand hedges and attempt to get exposure to export-orientated sectors, including manufacturing – and to stay out of the bond market. Offshore borrowing costs will be raised for domestic companies – as well as for the country as a whole. This risk has an internal feedback loop (downgrades make debt more difficult to pay, leading to further downgrades) and naturally feeds other political risks, including in relation to taxation, clumsy government intervention, social stability and property rights.
Sunday’s newspapers were more interesting from a political risk and investment point of views than normal.
This is what I thought mattered, as far as financial markets were concerned, in last week’s Mail & Guardian, the Sunday Times, Sunday Independent and City Press:
Construction industry – possible prosecution and fines for fraud and racketeering
Government and the national prosecuting authority are reported to be facing a dilemma: managers in at least 20 major constructions firms might be guilty of serious criminal practices relating to may years of in-industry collusion, but a successful prosecution of the guilty parties would rip the whole management level out of up to 20 top companies and thereby sink government’s infrastructure plans – Mail and Guardian.
The stories are covered in the Mail & Guardian and the City Press – both drawing their details from a series of leaked 2011 affidavits apparently produced by individual managers at Sefanutti Stocks when they (Stafanutti) realised that despite co-operating with a Competition Commission investigation, individual managers were likely to be liable for criminal prosecution (by the Hawks and the NPA) and that the punishment could include imprisonment.
Paul Ramaloko, Hawks spokesperson said “This case is bigger than people think. We are going to take our time and do a thorough investigation” (Mail & Guardian), but in City Press he says the investigation was in its “early stages” and that he would only comment once it had “matured”.
So What? Sounds like a political dilemma. The NPA and the Hawks are not (entirely) governed by the political priorities of government (despite apparently decisive co-ordination between the Hawks, SARS and the Public Protector in the Julius Malema fraud, money laundering and tax evasion investigation). However, government is likely to do what it can to make sure the companies survive intact – albeit compliantly chastened and grateful for leniency. Of course, the NPA and the Hawks might, alternatively, feel these managers would make good examples of how ‘old-order’ and ‘untransformed’ individuals and companies are as important sources of corruption as the ANC, its leaders, supports and structures.
Either way, the reputation and coherency of the companies concerned could be seriously impacted. However it is not clear from the news reports that there is any differentiation between, “winners and losers” … no-one appears more or less guilty than anyone else – which rather suggests the sector as a whole is risky, with no safe havens.
Key Jacob Zuma allies Atul and Rajesh Gupta (using family vehicle Oakbay Investments) are reported to be on the verge of adding a 24-hour continent-wide news channel to their media portfolio (which includes New Age newspaper) in partnership with Essel Media and an unnamed black empowerment firm. Multichoice will likely be providing the platform but purely on a commercial basis and is not expected to be partner in the venture (Mail & Guardian).
Well, one of the Guptas’ current empowerment partners is President Zuma’s son Duduzane and the Guptas themselves have become key ANC funders and power players in South African politics. The Mail & Guardian has a picture of Atul and Rajesh Gupta (who came to the country from India in the early 90’s) ensconced at the ANC’s elective conference in Mangaung in December. Obviously, the more the merrier on the news diversity front – and who says government and the ANC shouldn’t spend more money in the space? South Africa has a free and open media culture – to the point of government and ANC leadership spending a considerable amount of their time denying allegations and defending government policy against feisty attacks. It is unlikely to be harmful if government and the ANC strengthen their ability to put their point of view. Influence trading is always a feature of politics and is no worse or better in South Africa than it is in many countries across the world.
Telecommunications – new political upheavals on the cards
All the weeklies report that Communications Minister Dina Pule is about to be removed from her post in a cabinet reshuffle. At least part of the reason is because she is accused of “routing large sums of money to her alleged lover” – Sunday Independent. So many individuals are touted as possible replacements, but the one person who comes up time and against is Lindiwe Zulu. This is what the Mail and Guardian has to say about this close Zuma confidant: “Zulu has just been appointed head of the ANC’s communications and her star has been rising under Zuma. A government source said Zuma trusted her opinions. She is his adviser on international relations. ‘He likes her bravery. The way she’s handling the Zimbabwe issue in a fearless manner has impressed him.’ She is one of Zuma’s three envoys on that country.”
So what? Pule will be the third minister to exit this portfolio in four years and instability in the department has raised fears that SA will continue to wander in the policy wilderness as far as migration to digital TV, Telkom’s business plan chaos, spectrum allocation and unbundling of the local loop (to name but a few pressing policy mattings) are concerned.
Mining Indaba – policy confusion as rife as ever
The Business Times has a depressing few pages about the Mining Indaba that implied that if anything the industry is more concerned than ever about policy uncertainty. On the proposed Mineral and Petroleum Resources Development Amendment Bill: “The move has again flooded the country’s struggling mining sector with uncertainty” – Loni Prinsloo.
“On the exploration side” said Magnus Ericsson, Chairman of Raw Material Group, in the lead story, “I think it’s a general hesitation … if you find something in South Africa, what will be the BEE requirements? What are the other requirements? For some foreign investors they are seen as difficult”.
The same series of articles argues that the pressure to “quarantine” SA assets is becoming fierce. “A valuation by AngloGold Ashanti’s biggest shareholder, Paulson & Co, indicated that South Africa’s biggest gold miner could boost its share price by as much as 68% if it split out it local assets.” Elsewhere on the front page of the Business Times, the paper argues: “The true investor sentiment will be measured tomorrow (now yesterday– ed) when Sibanye (Gold Fields’ local assets – ed) lists separately.”
So what? To my mind regulatory uncertainty, especially in the minerals sector, remains the key politically driven investment risk in South Africa. The risk is being driven by pressures (felt by the ANC and government) to improve delivery and redistribution. These pressures will increase going forward and the increased regulatory burdens government is placing on private mining companies is unlikely to achieve any of government’s objectives … in fact, the reverse is more likely to be true. This is an unhappy environment for those searching for policy certainty.
Bits and pieces
- The brutal rape, torture and murder of Anene Booysen in Bredasdorp filled many column inches in all four weeklies – hoping to stimulate the kind of outrage against rape that swept India recently. Many of the stories point out that South Africa has the highest incidence of rape in the world.
- Ramphele – will she or wont she? The press is full of speculation about whether Mamphela Ramphele (former anti-apartheid activists and close friend of Steve Biko, a doctor, academic, successful businesswoman, a former director at the World Bank and former Vice-Chancellor at the University of Cape Town) will set up a political party and that that party will capture a significant percentage of urban black support. I think she might, but I doubt whether the party will make a dent on South Africa’s politics. The most likely scenario, to my mind, is Ramphele ends up in the Democratic Alliance.
- There was much speculation about what President Zuma might say in his State of the Nation address this Thursday – with a generally excited consensus emerging that Zuma is less beholden to special interest groups (post his decisive victory at Mangaung) than he was previously. I am not convinced this will lead to bold new steps. I am watching for tension between this speech and the National Budget on the 27th of February. I expect the political plans in Zuma’s State of the Nation to be at odds with Pravin Gordhan’s plans to balance the books … but I expect that tension to be hidden.
- The Mail & Guardian gave a list of who it thought is in Zuma’s inner circle: (Lakela Kaunda, Lindiwe Zulu, Mac Maharaj, Collins Shabane, Gwede Mantashe, Nathi Mthethwa and Batandwa Siswana), but then spoiled any special insight that might have given us by adding :
“Those privy to Zuma’s kitchen Cabinets say the president also has a high regard for Economic Development Minister Ebrahim Patel, National Planning Commission Minister Trevor Manuel and Justice and Constitutional Development Minister Jeff Radebe. Other key confidants include Rural Development Minister Gugile Nkwinti, Intelligence Minister Siyabonga Cwele, Cosatu president S’dumo Dlamini, Public Enterprises Minister Malusi Gigaba, KwaZulu-Natal Premier Zweli Mkhize, Finance Minister Pravin Gordhan and, to some extent, Higher Education Minister Blade Nzimande. People outside government who are in the president’s good books include businessperson Sandile Zungu, film producer Duma ka Ndlovu and businessperson Deebo Mzobe, widely considered the man behind the building of “Zumaville”, the town surrounding the president’s homestead.”
… hmmm, must have a pretty big kitchen.
I think the e-tolling saga is important precisely because my headline bastardising the denouement of John Donne’s famous poem is, in truth, wrong.
Gauteng’s road upgrade does not come for free.
The R20bn was borrowed by Sanral and lent by people and institutions (which) who assessed the risk attached to repayment on the basis that e-tolling was part of the deal.
This is a précis of what I told my clients about some of the political implications:
The North Gauteng High Court granted an urgent interdict on Saturday that will postpone the implementation of e-tolling until as late next year – and perhaps contribute to stopping it completely.
At this stage the court has ordered a full review of the process that will probably take at least two months to complete. If the court rules that e-tolling can go ahead the appeals process, all the way to the Constitutional Court, can take up to two years.
There are a number of significant risks associated with this decision .
The National Treasury itself, during the course of legal arguments, predicted dire consequences for South Africa’s sovereign risk rating and for public finances more generally.
I think they exaggerated but one could hardly blame them. The Treasury is the custodian of the public purse and its officials and political head carry the responsibility if R20bn that will no longer be raised from tolling has to be dug out from somewhere.
But the ruling is important for a deeper reason. South Africa, according to President Zuma’s State of the Nation address (and confirmed by a number of government and ANC statements in the last few months) is engaged in an infrastructure programme that is expected to cost just short of R1 trillion over the next 8 years.
This is the biggest bet for anyone hoping to invest in the country for the next ten years. Will it happen or will it – again – fizzle?
At least part of the funding model for this infrastructure programme is the ’user pays’ system established in the planning of the Gauteng highway upgrade project. In general, I think a user pays system is a more efficient – and fairer – system of allocating capital than unwieldy central plans that draw on the central tax pile.
Further, private sector lenders funded the project on the basis of the collection of user fees – this is how they did their calculations and assessed their risk. The ruling effects government’s credibility as a borrower.
Chris Hart (economist at Investment Solutions) is reported to have dismissed this saying the delay is no big deal – less than 0.2% of planned government expenditure this year. Goolam Ballim (chief economist at Standard Bank) said if there was a contractual infringement impacting on Sanral’s ability to pay, it did not imply sovereign default risk and “will not compromise South Africa’s international credit standing in any way”.
Now those two economists are no slouches – and know more about our public finances and the basis that the rating agencies changes the investment grades of our government bonds than I ever will – but surely it is obvious that there is a degree of damage to government (and Sanral’s) credibility as a borrower? Perhaps not as much as the Treasury argued during the urgent application. But we are coming up for strike season, the Treasury has promised to hold the line on public sector wage increases, the budget is under immense pressure and R20bn is not a meaninglessly small amount.
The whole of the South African government looks weak – with the Treasury and the Department of Transport being the most obviously and immediately affected. Both are “studying the ruling” before making public statements. These issues might not swing Standard & Poor, Fitch or Moody’s against SA bonds, but there is no question that this ruling will be part of their assessment.
The risks are clearer when we look at the political back-story. There is a changed political configuration in the Ruling Alliance. The rise of Jacob Zuma was characterised by an already growing influence of Cosatu on policy making. A Thabo Mbeki led ANC would have taken a much stronger line against Cosatu’s campaign against e-tolling and would have stood much more firmly behind the Treasury’s arguments in favour. I am not necessarily cheering for that side, but I do think the Zuma administration is beholden to Cosatu in a manner that limits its options in public finance – and that limitation is being set by a very narrow interest group.
Cosatu has – as is its wont at the moment – been tactically brilliant in this campaign. It has built a classic broad front, multi-class alliance against the e-tolls and has strengthened the group made up of Zwelinzima Vavi, Irvin Jim and Numsa on the one hand and weakened the group made up of Sdumo Dlamini (Cosatu President) Frans Baleni and Num on the other. See here for more discussion on the relevant factional splits within Cosatu.
The gravitational centre of the Alliance is only weakly occupied by Zuma and “the left” in Cosatu has been able to shift the whole edifice towards itself. This is a trend that we will have to keep a close eye on during the lead-up to Mangaung, when the Zuma administration is likely to be at its most docile and weak.
And it is in this environment that Cosatu has taken on e-tolling as ‘privatisation by stealth’ and an infrastructure funding method that taps its constituency too directly. Cosatu is a sectional interest group … and is completely entitled to pursue the sectional interests of its employed worker members (employed, by definition, in ‘union jobs - and all strength and luck to them for that advantage’.)
The most important signifier issue will be how government deals with public sector wage demands over the next few months. It’s strike season, and I mentioned elsewhere, Gordhan’s budget only balanced because of the hard line he took against public sector wage increases.
To give you a sense of why that is important, this is what I said about the budget and public sector wages on February the 23rd:
Public sector wages: This is the area, to our (I wrote this with economist Sandra Gordon) mind, of least credibility with the most consequence:
Total Compensation % of total budget % yoy 2009/10 248558.0 31.8 17.7 2010/11 281619.2 33.6 13.3 2011/12 314907.2 33.9 11.8 2012/13 336959.4 33.5 7.0 2013/14 357168.2 32.7 6.0 2014/15 378148.7 32.1 5.9
Adjusted for inflation those figures in bold are heading towards zero – and remember we are talking about over 30% of the total. The public sector wage bill was R8,1bn more than budgeted for in 2011/12 and it is not an exaggeration to suggest that the whole edifice of the budget could crumble on this point.
So what? … Public sector unions set the tone for industrial bargaining throughout the economy. Our main scenario, in which 2012/13 becomes an industrial relations blood-bath, is looking ever more likely – although we await, with interest, Cosatu’s formal response to Budget 2012. This proposed spending shift – if Zuma’s ANC can hold the line – is also supportive of our construction and investment relative to consumer equity theme – with the consumer sector keeping a “look-in” by social grants increases from R105bn in 2012/2013 to R122bn 2014/15 and the promise to reassess if inflation rises further.
So the e-tolling is an ongoing threat to public finances and it is an indicator issue of how beholden … and therefore weak … Zuma’s leadership is.
But there is an upside to this story. The ANC and Cosatu did agree to postpone e-tolling after their meeting last week – and announced that they had instructed government to do this (revealingly issuing a hastily retracted statement saying they would, in fact “request government to postpone”).
But the real upside is that it wasn’t, ultimately, political weakness or fiscal slippage that led to the cancelling of e-tolling. It was judicial sensitivity to popular opposition and an assertion of the principle of the rule of law.
You will be able to tell by reading between the lines that I think e-tolling was actually the right approach, but it is clear that an unaccountable system, that never bothered to consult the public properly and that, in addition, has badly damaged its own credibility in as far as corruption and maladministration is concerned, was defeated by a judge determined to uphold legal accountability and respect for popular discontent.
It might make the Treasury’s job more difficult and it might create uncertainties about funding infrastructure development, but it has got to be positive for the South African democracy as a whole.