Every number in the national budget is now not worth the paper it is written on. State and Eskom revenues will plunge. There could be a ratings downgrade. What is to be done?
South Africa's economy, already reeling from its second recession in two years, has been hit by a perfect storm and a black swan since the start of the year. Due to brutal load shedding and an austerity budget, the economy was already set to decline for the third consecutive quarter during the first three months of 2020, according to forecasts. Now, the coronavirus (COVID-19) black swan, a term used in financial markets to describe a rare and unexpected event, will plunge the economy into its third recession in three years.
There are now dark clouds hovering over the world economy as the epicentre of the COVID-19 pandemic has shifted from China to Europe, where countries have implemented drastic public health measures to curb the outbreak that could push major economies into recessions. Economists say a pandemic-induced recession is unique because the social distancing measures that are implemented to curb an outbreak result in simultaneous shocks to the supply (or production) and demand (or spending) sides of an economy.
This means that there is a limit to the effectiveness of traditional monetary and fiscal policy tools used to revive economies. Adding fuel to the fire last week was an oil price war between Saudi Arabia and Russia that sent prices crashing to below $35 a barrel. Such factors have resulted in extreme panic on world stock markets, which have lost $13 trillion - $3 billion for each COVID-19 death - since 20 January 2020 according to an article in the Financial Times, which alluded to the possibility that the market reaction had been over the top. The Johannesburg Stock Exchange (JSE) has lost R4 trillion since the start of 2020.
In the rest of the world, many countries have announced comprehensive public health and macroeconomic policy measures to reverse the outbreak and counter the economic impact of COVID-19. However, on 15 March in an address to the nation, President Cyril Ramaphosa failed to announce any measures to revive the economy. He only said cabinet was in the process of finalising a package of interventions to mitigate the expected impact of COVID-19 on the economy: "This package, which will consist of various fiscal and other measures, will be concluded following consultation with business, labour and other relevant institutions."
In a cabinet briefing on 16 March, Minister of Finance Tito Mboweni said the government was ready to do two things to finance the proposed fiscal measures. First, it could release money from the National Disaster Fund. Although he did not provide a figure, sources said R5 billion could be made available. Second, the government could set aside further funding, but only if it reduced spending in other areas. In other words, there would be no fiscal stimulus. Government would shift spending within the current austerity envelope that already involves cuts of R261 billion over the next three years. Sources say the government is toying with the idea of reducing allocations of R161 billion to state-owned companies.
World financial markets have been jittery since the start of the year as the economic costs of COVID-19 mounted due to China's unprecedented lockdown of Wuhan in Hubei province, which spread to the rest of the country. Between 2013 and 2018, China, the world's factory, contributed an annual average of 28.1% of world GDP growth, according to Xinhuanet, the state-owned news agency. Therefore, when China sneezes, the world economy gets sick. It messes up world supply chains. A KwaZulu-Natal-based company, the largest lawnmower manufacturer in South Africa, imports tyres from China. It has stock until May.
"If we don't get new stock, 200 employees will have to stay at home until it arrives. We are a small company. Imagine what is happening in the rest of the economy," a shareholder said. If one multiplies this experience to the rest of the world and adds the fear of the unknown, it is possible to understand the panic on world stock markets, which have had two crashes over the past week. Sparked by continuing COVID-19 fears and the oil price war, on 9 March 2020 - Black Monday - markets suffered their biggest daily loss since the global financial crisis of 2008. The major stock markets in the US and the UK lost more than 7% of their value. The JSE lost 6.2%.
There was a recovery over the next two days. But the rout continued on 12 March after President Donald Trump banned travel between the United States and Europe. The New York Stock Exchange lost 10% of its value, the largest one-day loss since the original Black Monday in October 1987. The JSE lost 10%, its largest drop since 1997. Last week, the JSE lost 12.5% of its value. For the year, it has shed 22.9%.
The global economic policy response started in Asia. In February, Malaysia and Singapore announced fiscal stimulus packages of $6.6 billion and $4.6 billion respectively to counter the economic impact of COVID-19. Malaysia has also cut interest rates twice this year. Indonesia, Hong Kong, Thailand and the Philippines have also reduced interest rates. The United States Federal Reserve ("the Fed") announced two emergency cuts in interest rates ahead of a meeting on 17 and 18 March. It slashed interest rates by 150 basis points (1.5 percentage points) to a range of 0% to 0.25%. The Fed also announced a resumption of the quantitative easing policy that was used in the aftermath of the global financial crisis of 2007-2009.
It will pump $700 billion of newly created money into the economy and buy financial assets, including government debt of $500 billion, with the objective of influencing long-term interest rates and keeping them very low. After the first emergency rate cut, Fed chair Jerome Powell said: "We do recognise that a rate cut will not reduce the rate of infection. It won't fix a broken supply chain. But we do believe that our action will provide a meaningful boost to the economy. Monetary policy can be an effective tool to support overall economic activity."
The European Central Bank (ECB), which already has negative interest rates, said it would buy government bonds worth $134 billion by the end of the year and provide ultra-cheap finance for banks to lend to small businesses, particularly those that are affected by the COVID-19 economic downturn. The UK announced a coordinated package of monetary and fiscal policy measures. The Bank of England had an emergency cut in interest rates of 50 basis points and introduced a $127 billion funding scheme for small and medium enterprises.
The UK Treasury ended a decade of austerity, a term that refers to tax increases and budget cuts to reduce debt, and announced a $38 billion fiscal stimulus. It was the country's largest increase in borrowing for three decades. "Whatever it takes, whatever it costs, we will stand behind our National Health Service," Rishi Sunak, the UK chancellor of the exchequer said. Italy announced a $28 billion fiscal stimulus. Canada, Australia and New Zealand also cut interest rates. Australia announced a $17.6 billion fiscal stimulus. South Korea and Thailand announced stimulus packages that were worth $13.7 billion and $12.7 billion respectively.
Chinese President Xi Xinping visited Wuhan on Tuesday last week and said the spread of the disease "had been basically curbed", according to the British Broadcasting Corporation. By 14 March, daily deaths had plunged to 10 from a high of 150 on 23 February. There were 20 new cases compared with a high of 14 108 on 12 February. China has closed 14 temporary hospitals and people are returning to work. According to JP Morgan, the global investment bank, China's GDP will decline by 3.9% during the first quarter of 2020.
But the bank expects a dramatic rebound in the country's GDP growth during the second quarter of 2020 to 15%. For the rest of the year, China will make up for most of the lost growth and expand its economy by 5.2% during 2020. As the Chinese economy rebounds strongly during the second quarter, the next drag on global GDP growth could move to the struggling Eurozone, the monetary union of 19 European countries, and the United States.
*By 14 March, there were more than 142 534 infected people in more than 150 countries. According to the World Health Organisation (WHO) situation report for 14 March, Europe accounted for 60% of confirmed cases outside China. However, the Eurozone has been a drag on global GDP growth for many years partly owing to German aversion to debt and inflexible budget rules that restrain the ability of members to implement expansionary fiscal policies.
JP Morgan says world GDP growth will decline during the first quarter of 2020. But the lesson from previous epidemics and the current one is that containment measures can confine the outbreak and the economic impact to a few months, whereas recessions generally last for a few quarters. In other words, in each affected country, there will be a short, sharp hit to the economy that will be followed by a strong rebound. Also, expansionary monetary and fiscal policies will reduce the negative economic impact of COVID-19. The conclusion is world financial markets will continue to be volatile until United States and European daily inflection rates peak and demonstrate a downward trend towards single digits.
A fine balance
A Nedbank report, COVID-19: The Economic Consequences, compares global GDP growth forecasts for 2020 by six international organisations before and after the start of the pandemic. The average of the forecasts show that Chinese growth will decline to 5.2% from previous forecasts of 5.7%. United States GDP growth will decline to 1.9% from 1.8%. World GDP growth will be 2.3% as opposed to a previous forecast of 2.6%. This expected marginal decline in expected world GDP growth is at odds with the panic on world stock exchanges.
WHO director-general Tedros Ghebreyesus says: "This is a controllable pandemic. All countries must strike a fine balance between protecting health, preventing economic and social disruption, and respecting human rights. We urge all countries to take a comprehensive approach tailored to their circumstances with containment as the central pillar." According to a report of the WHO-China Joint Mission on COVID-19, China rolled out "Perhaps the most ambitious, agile and aggressive disease containment effort in history. On the first day of the advance team's work, there were 2 478 newly confirmed cases. Two weeks later on the final day of this mission, China reported 409 newly confirmed cases."
Based on such experiences and others in Asia, there are a number of recommended phases required to reverse the pandemic. During the preparation phase, countries prepare people and health facilities. For example, the Joint Mission report says China deployed more than 40 000 health workers from other areas of the country to support the response in Wuhan. Containment, which is used at the start of an outbreak, refers to measures to find, isolate, test and treat every case and to quarantine close contacts to break the chains of transmission.
In Wuhan there were more than 1 800 teams of epidemiologists, with a minimum of five people per team, tracing tens of thousands of contacts a day using advanced technologies such as big data and artificial intelligence. During this phase, countries have provided extensive public information, encouraged personal protective measures such as masking and hand washing, and implemented mass testing and universal temperature monitoring in public facilities. They introduced international travel restrictions and port health measures.
At some stage, there is community (or local) transmission, which refers to people who get infected without being linked to known cases of people who have travelled outside the country or been in contact with them. There is a threshold, a tipping point, where it becomes necessary to introduce social distancing measures such as banning public gatherings and closing schools to mitigate the spread of the pandemic. The final phase is a lockdown.
In his address, Ramaphosa said there was now local transmission, hence the need to move to the next phase of mitigation measures. An analysis of international COVID-19 economic policy responses shows the importance of targeted measures to support vulnerable groups, including small business, informal enterprises and temporary employees, who will be affected by social distancing measures and sectors such as tourism that will be affected by the economic downturn. Such groups cannot afford to self-isolate.
At the level of macroeconomic policy, we could see the end of a three-decade era of central bank independence. With many central banks in advanced countries at or near the so-called zero lower bound (or zero interest rates), there is limited scope to further cuts in interest rates. Within weeks, the Fed or one of the other major central banks will start to print money to finance a helicopter drop - or fiscal stimulus - of money into the economy.
Options for South Africa
In South Africa, the COVID-19 outbreak changes everything when it comes to the economy. Already, it has become clear that the government cannot implement the proposed cuts in the public sector wage bill for the current financial year. As a result, the budget deficit was set to increase to 7.5% of GDP. After the looming pandemic-induced recession, every number in the budget will change. State revenues will plunge. Eskom's revenues will also decline.
The budget deficit could soar to well over 10% of the GDP. There could be a ratings downgrade on 27 March and an Eskom default during the year. The government has no option but to implement unorthodox economic policies to avert the looming economic collapse. The Reserve Bank must announce an emergency cut in interest rates of at least 200 basis points and signal that it is ready to make further cuts if the economic situation continues to decline.
Helicopter money and a one-off restructuring of the national balance sheet, which includes assets of R2 trillion at the Public Investment Corporation and foreign exchange reserves of more than R800 billion, are options that the government should consider. On 16 March at the National Development and Labour Council, the institution established to facilitate social dialogue, there was also talk of using the R160 billion surplus at the Unemployment Insurance Fund to kickstart the economy or finance income replacement for vulnerable groups who cannot afford to take COVID-19 sick leave.
Let us hope that they come up with more ideas to revive the economy. The alternative is too ghastly to contemplate.
*The WHO situation report for 16 March recorded that globally 167 511 had been confirmed.
Correction, 17 March 2020: This article previously said the oil price war was between Saudi Arabia and China.