THE BUDGET

February 22, 2016

 

Amidst a lot of local chaos we have a massive week ahead of us. The Budget speech will be given by Pravin Gordhan later this week. The attention of every rating agency under the sun will be focused on every word that he delivers. For the most part I would normally suggest that it’s only the agencies that should actually listen to the budget in the first place but this year things seem to be very different indeed.


We find ourselves (South Africa), as one could call, at a tipping point. We have endured a torrid time of late in the eyes of international investors and agencies. We have ourselves to blame for the most part. It’s actually a bit of a tragedy that the Rainbow Nation has managed to become so much less competitive economically with all the blessings and opportunities it has had. To add to the melting pot we find that labour and for the first time in a while the student population, beginning to rise up in discontent for much that they have had to endure.

 

We serve two masters here. We serve the voting populous and the international ratings agencies. They do not share the same short term agenda and you can bet that decisions made to appease the one will lead to discontent with the other. Mr Gordhan therefore finds himself walking a tight rope being shaken from both sides. If you bow to the ratings agencies, you hurt the South African economy in the short run with austerity measures, decreased spending, wage freezes, increased taxes and even privatization of state owned enterprises. This puts an already fragile economy into a tailspin and I must admit that austerity has shown all over the developed world that it has limited effectiveness. Without being an economic expert, my guess is unemployment will rise which will cause labour to be incredibly unhappy and potentially violent, GDP growth will grind to a faster halt that we can muster ourselves and our tax collections will diminish in the medium term with a smaller tax base. You can imagine how tough this is for our country. Don’t forget that many of these things that one suspects the agencies would approve of ,will damage the economic growth potential of the economy, the very same thing that is one of the primary objectives of government. Some pretty tough calls going into a municipal election let alone only a few years away from a presidential election at a time (currently) where the ANC feels like it is under pressure on the ground.


If however Mr Gordhan does not jump through the necessary hoops, at least in his speech, we are doomed to a ratings downgrade which would soon move our international debt into the dreaded “junk” or non-investment grade status which in its own way would be fairly dire. South Africa up until this point has been able to raise most of its debts locally but the removal from the worlds investment grade debt pools will have a knock on effect to international investors and will likely cause the Rand to depreciate quickly and sharply which would lead to cost push inflation which would lead to further interest rate hikes and lower economic growth.
It is bit of a tough call. However, I think we all agree that the latter is preferable and certainly more sustainable in the long run. We have to make structural changes to economic policy that will foster economic growth. This change will not happen overnight just like we did not get here overnight, but the winds of change are blowing.


I think you can see why I think our budget is “slightly” more important than normal. It will directly and indirectly impact every single South African either in the short term or long term. Either way I think the short to medium term will be slower economic growth and some pain. The pain we choose however is critical.


Mr Gordhan has been painted into a fairly immovable position after last years antics. Which may mean he has the ability to act without any meddling. Either way he will need the force and effort of the South African government and people to get behind him to ensure the budget is in fact effective.

 

Local Market

The ALSI as a whole posted a 0.72% gain for the week while the TOP40 advanced 0.82%. Leading the way for the year and the week, the RESI posted a 3.31% gain. Financials are still on route to regaining the losses suffered after Nenegate, posting a 2.73% gain. Industrials were in the red for the week with a 0.58% loss as the Rand continued to strengthen after SONA.


The markets are anticipating Finance Minister Pravin Gordhan's budget speech and the type of policy stances he will be taking in regards to avoiding a potential credit rate downgrade.. This as mentioned in the editorial are of extreme importance. We have seen a flurry or results over the past two weeks with none being notably impressive. It would appear that the indicators are that economically we are in for a tough year.

 

 

 Global Market

The UK FTSE ended the week 4.25% higher as the weakening pound helped U.K. equities Even with Britain’s potential exit (BREXIT) from the European Union looming, retail sales rose higher than market expectations. Germany's DAX posted a positive 4.69%, while EUROSTOXX followed suit posting a 4.17% gain. All in all a good week for European equities as the risk-on trade saw equities rally post a very poor January. YTD most of these markets however are still notably negative with extreme volatility.


The S&P 500, Dow Jones and NASDAQ all posted gains of 2.84%, 2.75% and 3.85% respectively. Unlike in SA, the CPI remained flat in the US as opposed to the expected 0.1% drop. Minutes from the Fed's January meeting show that recent global developments were increasing downside risks for the outlook for domestic economic activity. This means that the Fed hiking trajectory becomes increasingly dovish with very few market participants expecting a March 2016 interest rate hike.


The Nikkei posted a 6.79% gain, while the Hang Seng added 5.27% leading most global markets higher. Asian markets saw Japans industry activity dropping more than expected with Chinese credit growth surging last week.

 

 

Economic News

Gold dropped 0.96% last week, however still above the $1200 level. Oil surged last week with oil producing countries agreeing on freezing production at current levels, it gained 1.12%.  The Rand appreciated against the Dollar, Euro and Pound last week, gaining an average of above 3% across the board as we enter budget week this can be seen as a very positive sign. SA retail sales declined in December buy had a good quarter to close off 2015 3.3% higher. With inflation coming in at a higher-than-expected 6.2%, 2016 will change that stat dramatically.

 

 

 

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