Coffee table economics with Anchor

Anchor’s coffee table economics note by Casey Delport will be distributed intermittently and is a collection of Casey’s opinions on key economic factors and events shaping markets globally and in South Africa (SA). It is essentially Casey’s thoughts and perspectives on the multiple dynamics at play in the global and local economy.

Executive summary

In this week’s edition, we highlight the following:

  • Russia says “nyet” to the Black Sea Grain Initiative (again!): In yet another unfortunate socio-economic turn of events this past week, Russia pulled out of the Black Sea Grain Initiative, presenting an upside risk to global food prices.
  • Dragon’s roar stifled? China’s economic data continues to disappoint: The bottom line is simple enough for China – with external demand weakening, the Chinese economy can no longer rely on an export-driven model to stimulate economic growth. Unfortunately, the muted outlook for the Chinese economy will also weigh on South Africa’s (SA) economic growth prospects.
  • A hawkish hold on interest rates for the SARB as inflation continues to moderate: SA’s headline inflation cooled to 5.4% YoY in June from 6.3% YoY in May. Against this more positive inflationary backdrop (despite the relatively hawkish rhetoric overall), the SA Reserve Bank’s (SARB) Monetary Policy Committee (MPC) voted to keep interest rates at current levels at its 20 July meeting. However, it is not time to pop the party balloons just yet. Whether this is the last rate hike in the current cycle remains uncertain – much will depend on the direction of the rand and the overall inflation environment over the next few months.

 

Russia says “nyet” to the Black Sea Grain initiative (again!):

In yet another unfortunate socio-economic turn of events, Russia pulled out of the Black Sea Grain deal this past week, effectively saying ‘’nyet’’ to the safe movement of a key global food commodity. The Black Sea Grain Initiative was negotiated in July 2022 between Turkey, the United Nations (UN) and Russia as a way of ensuring that grain from Ukraine, one of the breadbaskets of the world, could safely leave that country’s southern ports to the world market amid concerns around global food security. The grain could not be exported in the quantities required using the alternative methods of road or rail through Poland or by canal and river through Romania. The grain deal marked one of the few diplomatic achievements since Russia’s war on Ukraine started.

Alongside the central memorandum ensuring the safe movement of the grain, a separate deal was signed, minimising the impact of sanctions on the export of Russian food and fertiliser. Both memoranda were subject to review every (initially) four months and then every two months. Despite a significant lack of trust between the parties involved with the facilitation of the deal, it was fairly successful – 33mn tonnes of grain left Ukraine’s ports in the year to 1 July. According to UK authorities, 61% of that has gone to low- and middle-income countries and 65% of wheat alone. The World Food Programme (WFP) bought about 750,000 tonnes of Ukrainian grain that was shipped immediately to places such as Afghanistan, Ethiopia, Somalia and Sudan. Partly because of this, the grain price stabilised at US$800/tonne, down from a high of US$1,360/tonne when Russia initially invaded Ukraine. Whilst Russia claims the proportion of the grain that went to the very poorest countries was less than 4%, this ignores the fact that even if wealthier countries were buying the wheat, the extra supply was, in turn, depressing the general global price all countries were paying.

Whilst Russia’s reasons for rescinding the deal are still not 100% clear, in essence, Russia believed the second part of the deal, allowing for greater Russian agricultural exports, was not being honoured by the West. Russia wants to increase the exports of ammonia and other fertiliser material to the world market, and this required the EU to reconnect the Russian Agricultural Bank to the global electronic payment network, SWIFT. Russia demanded that this be done for them to renew the Black Sea Grain Initiative, which naturally has not happened. Other demands from Russia include the resumption of supplies of agricultural machinery and parts, the resumption of the Togliatti-Odessa ammonia pipeline and the unblocking of assets and the accounts of Russian companies involved in food and fertiliser exports. Furthermore, Ukraine’s attack on the Kerch Bridge connecting the Crimea Peninsula to the Russian mainland has clearly angered Russia.

The bottom line

Regardless of Russia’s exact reasons for rescinding the Black Sea Grain Initiative, Russia’s refusal to renew it presents an upside risk to global grain prices, which may undermine the gains that economies across the globe were enjoying from slowing grain prices, specifically in the major importing regions. While most of the grain from Ukraine was primarily exported to Europe, the Middle East, and North Africa, the availability of grain and the decline in prices indirectly benefited the global community via declines in food inflation. Moving closer to home, SA is not directly at risk as we currently hold large domestic grain supplies. SA’s 2022/2023 maize harvest came in at 16.35mn tonnes – 6% higher than the 2021/2022 season and the second-largest harvest on record. This means SA will have over 3.0mn tonnes of maize for export in the 2023/2024 marketing year.

That said, SA is still exposed to global shocks in its wheat value chain, one of the commodities primarily facilitated for exports through the Black Sea Grain Initiative. However, SA imports roughly half of our annual wheat usage; fortunately, most of the required volume for the 2022/2023 season is already held on domestic shores. Regardless, Ukraine can still ship grain through the EU via road and rail, so commodity traders do not believe there will necessarily be a global grain shortage. Still, these routes are more expensive (and thus will likely drive up global grain prices), and the nations that rely on Ukraine’s grain might instead turn to Russia, the world’s top wheat exporter, as means of a substitute.

 

Dragon’s roar stifled? China’s economic data continues to disappoint :

A broad-based loss in economic momentum appears to be persisting in China’s economy. The government’s abrupt abandonment of its zero-COVID policy controls at the end of last year spurred hope that China’s economy would snap back. Unfortunately, this has not come to fruition if the country’s latest data releases are anything to go by. China’s GDP expanded by 0.8% QoQ in 2Q23, which, although more or less in line with consensus expectations, is a sharp slowdown from the 2.2% QoQ growth recorded in 1Q23. The weaker quarterly GDP prints come amid a struggling global demand environment which has hit China’s export growth, coupled with domestic property woes and a generally cautious Chinese consumer that prefers to hold back their pandemic savings rather than spend it as hoped.

Despite witnessing improvements since November 2022, Chinese households’ sentiment towards current economic conditions, future income, and employment remains at alarming lows. China’s Consumer Confidence Index, which dropped from 113.2 in March to a dismal 86.0 in May, has remained below the 100 level, a print not seen since records began in 1990. Despite a reasonable rebound in the services sector after the pandemic, the consumption of durable and semi-durable goods has seen a far more muted recovery, as households remain reluctant to spend. With anxiety surrounding employment and incomes still pervasive, the recovery in retail sales has hit a major roadblock.

Likewise, depressed sentiment within business is filtering through private investment – contracting YTD by a record 7.3% YoY. Notably, manufacturing investment (the largest component of investment) expanded in June at its slowest rate in over two years, consistent with three consecutive months of contraction in Purchasing Managers Index (PMI) data. Furthermore, domestic demand continues to dwindle – imports have contracted steeply since April- falling from -4.8% YoY in May to -6.8% YoY in June. Chinese exports have performed even worse, contracting by 12.4% YoY -the steepest drop since February 2020. Overall, key Chinese economic data appear to have peaked in April, declining from thereon out. A general lack of economic momentum has failed to offset less supportive base effects, with annual comparisons beginning to turn unfavourably. As such, market participants across the board are beginning to wonder if China’s policymakers will be able to achieve their set 2023 growth target rate of 5% YoY.

The bottom line

For China, the bottom line is simple enough – with external demand weakening, China’s economy can no longer rely on an export-driven model to stimulate economic growth. However, the problem currently facing Chinese policymakers is that the muted domestic economic environment is struggling to make up the difference. As such, the People’s Bank of China (PBoC) has marginally cut rates in an attempt to stimulate domestic growth. There has been much talk across markets of a possible stimulus package from Chinese authorities, but details thus far have been scant.

A Politburo (the decision-making body of the Central Committee of the Chinese Communist Party) meeting this week stated that it would step up support for the economy via the implementation of “macro adjustments in a precise and forceful manner”. However, details on actual policies were notably absent – leaving many economic worries unaddressed. Overall, investors will continue to eagerly await any details in that regard. Any notable stimulus from Chinese authorities will be a key determinant of China’s overall economic outlook this year. A muted outlook for the Chinese economy will, in turn, weigh on SA’s economic growth prospects. The two countries engage in extensive bilateral trade, with China being SA’s largest trading partner since 2009. China’s demand for SA raw materials (such as minerals, metals, and agricultural products) significantly impacts our export revenue and economic growth.

 

A hawkish hold on interest rates for the SARB as inflation continues to moderate

Looking at the big number everyone’s been keeping an eye on, SA headline inflation, as measured by the consumer price index (CPI), cooled to 5.4% YoY in June from 6.3% YoY in May – sinking below the upper limit of the SARB’s MPC target range of 3%-6%. The last time inflation was below 6% was in April 2022. The rate in June is the lowest reading in 20 months (since October 2021), in the good ‘ol days when the inflation rate was 5.0%. Declines in food and fuel inflation largely drove this cooling in inflation. Annual inflation for food and non-alcoholic beverages (NAB) slowed for the third successive month, cooling to 11.0% from a high of 14.0% in March, primarily due to the continued decline in global food prices and partly reflecting some base effects.

Whilst we believe that food inflation will continue to moderate, there are considerable risk events to be cognisant of within the medium term – it is not quite time to relax just yet. These risks include a shift from the current La Niña weather cycle to an El Niño cycle, Russia saying “nyet” to the Black Sea Grain Initiative and the possibility of a ban on rice exports in India. Interestingly, core inflation (without the crazy food and energy costs) surprised to the downside in June, at 5% YoY from 5.2% YoY in May, indicating that the broadening in price pressures has been relatively limited over recent months.

Against this rather more positive inflationary backdrop, the SARB’s MPC voted to keep interest rates at current levels at its meeting on 20 July, despite the rather hawkish rhetoric overall. Thus, the repurchase (repo) rate stays at 8.25% and the prime lending rate at 11.75% – which will help offer some temporary relief to strained local consumers’ wallets. The SARB deems monetary policy restrictive at the current repo rate, consistent with elevated inflation expectations and the inflation outlook. A restrictive repo rate refers to a relatively high interest rate set by a central bank to curb excessive borrowing and spending in the economy. When the central bank wants to rein in inflationary pressures, slow economic growth, or address concerns about asset price bubbles, it raises the repo rate. The current policy aims to keep inflation expectations in check and boost confidence in reaching that sustainable inflation target.

The bottom line

However, it is not time to pop the party balloons just yet. Whether this is the last rate hike in the current cycle remains uncertain – much will depend on the direction of the rand and the overall inflation environment over the next few months. The SARB also remains concerned about surveyed inflation expectations and the inflationary impact of loadshedding and logistical constraints within the economy on the inflation outlook. Surveyed inflation expectations have, overall, increased further (albeit marginally) since the previous MPC meeting in May. The rand remains as volatile as ever, depreciating by about 5% YTD against the US dollar and showing high volatility in response to risk-on and risk-off episodes across local and global markets.

Nonetheless, off the back of this latest pause in interest rate hikes, SA consumers across the board will breathe a sigh of relief. With a generally heightened inflation environment (particularly food prices) eroding households’ real wages over the last few months, the previous big interest rate increases, lowering disposable income, extreme loadshedding, an increasingly tricky socio-political environment, and a generally uncertain future have weighed heavily on consumers this year. Cheers to better days ahead.

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