In South Africa the rate of growth in real gross domestic product in respect of 2005 was revised marginally upward from just below to just above the 5-per-cent mark. In 2006 the growth estimates in respect of the first half of the year were also revised upward and showed that the real growth rate accelerated from the first to the second quarter, but subsequently lost some of its momentum to register an annualised rate of 4.3⁄4 per cent in the third quarter. A number of factors were at work in moderating the rate of economic expansion, including the higher domestic price level, the brisk pace of tax collections, and some constraints limiting growth from the supply side of the economy.
Growth in the third quarter of 2006 decelerated on account of slower growth in both the secondary and tertiary sectors of the economy. In the secondary sector growth slackened in most manufacturing subsectors, including in food manufacturing where reduced intermediate supplies from agriculture inhibited production and higher product prices moderated consumer demand. Real value added by the sector producing electricity was also very subdued during the third quarter. Among the services sectors growth remained generally brisk despite higher levels of domestic prices and interest rates, but the finance subsector experienced a significantly slower pace of expansion during this period on account of a deceleration in the real value added by banks and stockbrokers.
Agricultural production remained under pressure throughout the first three quarters of 2006, partly reflecting the disappointing maize crop harvested during this period. Nevertheless, the pace of contraction in real value added in agriculture moderated considerably during the third quarter. Mining production expanded in both the second and third quarters, although its growth rate edged lower in the third quarter.
Growth in real gross domestic expenditure slowed considerably in the third quarter of 2006. Final consumption expenditure by households continued to rise strongly, but its vigorous momentum has moderated to some extent by the higher prices of goods and services. Household debt as a ratio of annualised disposable income rose to a record level of 73 per cent in the third quarter, while debt service cost also increased significantly. Final consumption expenditure by general government was bolstered in the second quarter by expenditure on military aircraft and then slackened in the third quarter as military purchases receded.
Fixed capital formation, which was already rising at a blistering pace in previous quarters, picked up further growth momentum in the third quarter of 2006. This lifted the ratio of gross domestic fixed capital formation to gross domestic product to almost 19 per cent in the third quarter – the highest it has been since 1990. Rising fixed investment spending was recorded by all the main institutional groupings – general government, public corporations and the private sector – but the strongest growth in the third quarter was registered by the public corporations, especially Transnet. In the private sector the agriculture, manufacturing, construction, commerce and transport subsectors recorded the most vigorous increases in capital expenditure in the third quarter. The high levels of capacity utilisation in most subsectors of the economy prompted strong capital formation, while in agriculture it was spurred by the considerably higher prices of grain and other agricultural products in 2006 to date.
Inventories continued to be accumulated in the third quarter of 2006, but at a slower pace than in the first half of the year. Inventories of petroleum products declined, having been built up in the second quarter in anticipation of the routine maintenance of refineries.
The marked deceleration in expenditure growth was reflected in a slower pace of increase in import volumes, as the physical quantity of crude oil imported dropped markedly in the third quarter owing to the maintenance-related scheduled shutdown of some refineries referred to above. At the same time export volumes rose strongly, supported by brisk global demand and the increase in competitiveness of exporters following the depreciation of the rand. This led to a significantly smaller trade deficit in the third quarter. However, this was partly offset by an increase in net services, income and current transfer payments to non-residents, as dividend and interest payments were boosted by solid profits and higher levels of foreign debt and non-resident ownership of South African shares. Nevertheless, the deficit on the current account of the balance of payments narrowed from 5,7 per cent in the second quarter of 2006 to 5,2 per cent in the third quarter. This shortfall was again more than fully financed by financial inflows from abroad, of which inward portfolio investment constituted the most significant element in the third quarter of the year.
The significant depreciation in the exchange value of the rand from May 2006 was reflected in higher prices of imported and import-competing goods and services. Measured from quarter to quarter and annualised, the production prices of imported goods increased at a rate of more than 20 per cent in the third quarter of 2006, whereas in the first quarter of 2006 these prices were still declining. The production prices of domestically produced goods also picked up strongly in the third quarter, with notable contributions from food and products of petroleum and coal.
Consumer price inflation displayed greater inertia than production price inflation. The quarter-to-quarter rate of increase in CPIX nevertheless rose to an annualised rate in excess of 8 per cent in the third quarter. The targeted twelve-month rate of CPIX inflation also accelerated, but stayed below the 6-per-cent upper boundary of the target range. The October 2006 CPIX inflation rate was the 38th successive monthly reading which fell inside the target range, reinforcing expectations that inflation would remain under control. Wage settlements in the first three quarters of 2006, while edging slightly higher, also remained aligned with the inflation target if allowance is made for a moderate increase in labour productivity over time.
While growth in the money supply remained at relatively high levels, it moderated somewhat from mid-2006 as real expenditure and production slowed alongside a mild slackening of turnover in the financial markets and slightly smaller wealth effects as some asset prices lost part of their earlier momentum. Nevertheless, the income velocity of circulation of M3 registered a new record low in the third quarter of 2006. Banks’ extension of loans and advances continued to rise vigorously in the third quarter, despite some securitisation transactions which reduced the level of advances on the banks’ balance sheet. Mortgage and general advances, in particular, registered strong increases. Traditionally, a tightening of monetary policy takes fairly long to work through to the credit aggregates, which are usually momentum-driven. In this instance the buoyancy of the property market, inter alia, supported the continued brisk pace of credit extension, as house prices continued to rise firmly throughout the first ten months of 2006, albeit at a slowing pace. The ongoing need of companies to finance their working capital and fixed investment programmes also fed into the expansion in general advances.
Money-market conditions remained steady as the South African Reserve Bank (the Bank or SARB) raised its repurchase rate by 50 basis points at a time in June, August and October 2006. In raising the repurchase rate the Bank’s Monetary Policy Committee, recognising the deterioration in prospects for inflation, acted pre-emptively to moderate the expected acceleration in inflation. Other money-market interest rates moved broadly in step with the repurchase rate.
Bond yields initially rose strongly from May 2006 on account of the interruption in international investors’ appetite for emerging-market exposure, the depreciation in the exchange value of the rand and a worsening of inflation expectations. While short-term money-market interest rates rose, largely aligned with increases in the Bank’s repurchase rate, longer-term interest rates declined as oil prices started to recede from early August, and as the exchange rate of the rand stabilised and market participants started to view the initial bond yield reaction in May and June as overdone. The announcement in the October 2006 Medium Term Budget Policy Statement of further tax revenue overruns reinforced the perceived scarcity of government bond supply in the market, and contributed to a further decline in bond yields. Accordingly, the current shape of the yield curve is slightly downward-sloping.
Tax collections by government in the period April to September 2006 continued to exceed the initial budget projections by a substantial margin. This led to a significant downward adjustment in the expected deficit for 2006/07 announced by the Minister of Finance in October 2006. In the Medium Term Budget Policy Statement it was furthermore announced that government expected the brisk revenue collections to continue, and now projected a main budget surplus for 2007/08.
Share prices receded significantly from May 2006. However, within six weeks this downward trend was reversed and share prices started to regain lost ground as commodity prices remained favourable and corporate profits continued to rise. From October 2006 share prices again achieved new record highs, discounting favourable economic prospects as the Accelerated and Shared Growth Initiative for South Africa (Asgisa) gains momentum.