Africa-Press – South-Africa. The South African rand is likely to come under pressure in the near future as concerns about China’s slowing economic growth continue to rise.
Chinese economic growth is vital for South Africa and its currency due to it being the largest consumer of the country’s commodities.
This makes it a vital source of foreign exchange earnings and a key contributor to South Africa’s balance of payments, supporting the local currency.
Standard Bank chief economist Goolam Ballim explained this dynamic to Daily Investor, saying that lower demand for commodities can significantly impact the local economy and currency.
“Lower commodity prices from lower demand in China will result in a balance of payments shock to South Africa and other African economies,” Ballim said.
“A reduction in volumes and the price of commodities can result in weaker currencies due to this balance of payments shock. Weaker currencies can lead to higher inflation that can trigger high interest rates.”
He described this as a vicious cycle. However, it can also work in the inverse, with stronger demand for commodities from China boosting the local currency and economy.
The main issue here is that Chinese economic growth is slowing, with chief investment strategist at Symmetry, Izak Odendaal, calling it “a land of contrasts”.
Despite the country’s strong economic growth in comparison to its peers, consumer spending remains depressed, credit growth is flat, and exports to the United States have plunged.
“Despite maintaining economic growth rates South Africa can only dream of, there is consensus that a new growth model is needed,” Odendaal said.
Odendaal explained that the Chinese economic miracle of the past two decades is beginning to cause some problems in the world’s second-largest economy.
In many market segments, there are too many firms and too much production, resulting in excess capacity and cut-throat competition.
“The net result is razor-thin profit margins and price cuts to eke out sales growth. It means the wait for dividends and bonuses for shareholders and employees is very long,” Odendaal said.
The only way to solve this is through consolidation, but this will result in bankruptcies and lay-offs, hampering economic growth.
This overproduction has been coupled with slowing consumer spending, creating a unique problem of deflation.
“Deflation also implies weak growth in incomes, company profits, and tax revenues. This is particularly severe in an economy with high debt levels, as is the case in China,” Odendaal said.
As a result, the Chinese economy has unique challenges that are slowing its growth, with current remedies, such as government stimulus and interest rate cuts, doing little to boost demand.
This can have major consequences for South Africa, with slowing growth in China resulting in lower demand for South African exports, worsening the country’s balance of payments.
South Africa in a tough spot
South Africa’s balance of payments deficit has worsened in recent months, and while it is at acceptable levels, it is trending in the wrong direction.
The country’s deteriorating logistics infrastructure, pressure from tariffs on exports to the United States, and increased demand for imports have weakened its terms of trade.
“Overall, you would say that our trade balance is manageable, but it is moving in the wrong direction,” Stanlib chief economist Kevin Lings said.
A current account deficit has the potential to weaken a country’s currency by increasing its foreign currency demand, leading to a depreciation in the local currency.
This happens because the country is spending more on foreign goods and services than it earns, hence the deficit, which requires it to supply more of its own currency to pay for imports while increasing demand for foreign currency.
“It is not putting us under enormous pressure as yet, because you can see the rand is holding on. If it becomes a big problem, then you will see the rand normally weaken,” Lings said.
“We are managing, but it is something we need to pay attention to because it can get quite a bit worse.”
News coming out of China implies that it could get worse in the near future, with the communist state struggling to find a new growth model.
Odendaal explained that the Chinese state’s response has been targeted and gradual, avoiding previous “big bazooka” approaches which failed.
This includes measures such as interest rate cuts and limited fiscal stimulus to support consumer spending and the housing market.
The gradual approach is partially because debt levels are already high and policymakers want to transition away from the real estate-led growth of the past.
Its new proposed model focuses on the production of higher-value products, intense technological innovation, and “common prosperity”.
“This model essentially ress on productivity growth, leading to more profitable firms, rising incomes, and more tax revenue for the state over time,” Odendaal said.
“It is no longer a growth-at-all-costs mindset, but one that focuses on higher-quality growth. However, the emphasis on production and innovation rather than household consumption contradicts what many Western economists have urged China to do.”
If local consumption remains subdued, even with higher-value products, China is likely to struggle with overproduction. This will result in thin margins for companies and potentially the dumping of exports in other countries.
This may result in other countries, outside of the United States, intensifying trade restrictions on Chinese imports to limit the impact on their local industries.
As a result, it is likely that Chinese exports are unlikely to continue to rise as a share of global trade, slowing their growth and exacerbating their overproduction problem.
The sharp decline in China’s real estate development and consumer confidence can be seen in the graphs below, courtesy of Odendaal.
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