How fares the SA economy? Unexpectedly better thanks to the vehicle market – but it remains hostage to interest rates
The strength of new vehicle sales in September has come as a welcome surprise given the prevailing and understandable pessimism about the state of the economy and particularly about the fragility of household income and spending intentions.
Unit vehicle sales to South African customers – including sales of light and heavy commercial vehicles – have recovered strongly enough over the past three months to reverse the suggestion of a downturn in the new vehicle cycle. If current trends are sustained, by no means a given, sales this time next year could be at an annual rate of 720 000 units and not far from the record sales achieved in 2006.
It is of interest to note just how the SA new vehicle market has expanded in recent years. There was effectively no growth in the vehicle market between 1980 and 2005. Thereafter the market exploded, achieving record sales by late 2006. The vehicle market was then hit by rising interest rates and then the recession that followed the global financial crisis of 2008 that caused severe rand weakness and still higher interest rates. Volumes were back to 1980 levels by 2009 but have since recovered very strongly almost to regain 2006 sales volumes, before faltering in early 2014. In the third quarter of 2014 a rebound in sales volumes occurred.
A similar pattern is shown in passenger and commercial vehicle sales volumes. Both heavy and light vehicles seem to respond to the same economic forces.
The strong September recovery in vehicle exports to 30 778 units shipped, equivalent to over 50% of domestic sales, would have cheered the industry further and improved the balance of foreign trade. Clearly the disruption of production by strike action earlier in 2014 held up exports as well as domestic sales, to a lesser degree, given the importance of fully built imports to the showroom mix.
Some buying ahead of the weaker rand may also have played a part in the recent surge in sales. However when long ago n I naively asked an industry veteran about the price of a new car, he responded with the question: how long is a piece of string? The price of a new car is a bundle of prices listed by the manufacturers, modified by trade-ins and residual values, expected or guaranteed. This, together with the dealer’s costs of finance, translates into a leasing charge or its equivalent up front. Perhaps the most important single influence on what it costs to lease or own a car is financing costs faced by dealers: the lower the level of interest rates, the better for vehicle sales. The TV ads for new cars that dominate the screens in the US are all about monthly payments – not price.
And so it must be in SA: hold down interest rates and more cars will be bought and more income and employment will follow in manufacturing and distributing them. Interest rates influence consumption spending generally, including the consumption of the services that vehicles provide. It is household consumption spending that encourages more investment in people and in plant and machines (including commercial vehicles).
This is surely a point to make to the Governor elect of the Reserve Bank, Lesetja Kganyago, who recently questioned the interest rate sensitivity of capital expenditure as part of a case for higher interest rates in SA. The starting point for any discussion of the impact of interest rates on the SA economy is its impact on household spending, from which capital expenditure derives its rationale. Capital expenditure is undertaken to meet the demands of households – whose demands are, to a degree, interest rate sensitive.
While the vehicle numbers in September provide some cause for consolation, the volume of extra cash circulated in September provides a much more sombre reflection of the state of the economy. Demand for extra cash – accommodated willingly by the Reserve Bank – via the conduit of the banks’ ATMs and counters reflect spending intentions. The cash cycle – measured in money of the day or CPI adjusted terms – continued to trend lower in September, as did retail sales volumes to August. These trends are consistent with an economy slowing down. The hope in these depressing trends is that the cash cycle, with nominal growth of about 5.6% per annum and equivalent to smoothed real growth of about 1.6% per annum, may be about to bottom out. The time series forecast indicates as such.
It may be noticed that this 1.5% real growth is well in line with estimates of household spending growth for 2014. This is no coincidence. The cash demanded is a good proxy for retail spending; cash is raised for spending purposes. In the figure below we compare the retail volume and cash cycles that have a very similar pattern.
This suggests that it is real spending that may well lead the demand for and supply of cash. The retail cycle, independently forecast, also appears to be bottoming out at a 2% per annum rate. This would be helpful if such improving trends materialise and a still moderate upward cycle is sustained.
We combine these up to date hard numbers, vehicle sales and cash, equally weighted, to create our Hard Number Index (HNI) of the immediate state of the economy, at end September. Vehicle sales have pushed the HNI higher and the cash cycle has dragged it lower. HNI values above 100 indicate the economy is expanding. The direction of the HNI, while well above 100, was trending lower until this month. So while the economy has continued to grow, it has been doing so a declining speed. The latest statistics, especially the pickup in vehicle sales, have helped to stabilise the forward speed of the economy according to the HNI. If the trends are maintained, they predict a pickup in the speed to come.
We also compare the HNI to the Reserve Bank Business Cycle Indicator that is only updated to June 2014. The turning point for the economy in 2009 was well represented by the HNI – though its greater exposure to strong vehicle sales has given the HNI a sharper upward trajectory than the Reserve Bank Economic Activity Indicator. This indicator combines a wider set of high frequency data – some based on sample surveys including those of the state of the labour market – hence the delay in publication and its limited usefulness as an indicator of the current state of the economy.
The HNI-based forecast of an SA economic cycle turning up, rather than down, might appear too sanguine. As always, time will tell if this welcome cyclical turnabout does happen. Realised vehicle sales and the associated demands for and supply of credit to fund these sales, as well as the demands for cash, will provide the decisive evidence. Hopefully higher interest rates will not stand in the way of any incipient cyclical recovery.
I believe, as stated in the first paragraph, that the economy is starting to rise again. The South-African markets are opening up for certain FDIs and business oppurtunities for the foreign markets. Unfortunately, there are still a few obstacles in achieving the optimal economic growth. a factor like the current exchange rate is unfortuantely not a good thing for our economy. Because the Rand is weak compared to larger currencies like the Dollar and Pound, we do not have a competitive advantage in global markets and that stops the South-African industries to compete in foreign markets, which will prevent further growth. Another unfortunate problem in South-Africa at the moment are things like strikes. The constant striking and the government’s attitude towards this problem, is causing investment from large foreign firms to be second-guessed and many firms which have invested decide to take their money out of the country, which then causes an over-supply of Rands and the the currency weakens again.
I feel that the only way to solve this problem is to be media safe and not to say any things that might be viewed negative, aswell as opening up information on foreign markets to the younger generation, so they can enter into a global business world, and not just a domestic one.
I agree with everything you said, but do you mind explaining why you think the weaker rand is hurting the international competitiveness of local industries?
You’ve raised the issue of a younger generation being aware of the foreign markets which I agree on. But the point of having the negative aspect of the domestic market omitted seems to be rather questionable. Isn’t transparency one of the factors we aim for in the economy? I believe that the weakening of the rand against other currencies actually serves as a motivation for South Africa to improve in all areas, in order for foreign direct investment to also slowly increase….
I totally agree with the fact that if south africa can decreases interest rates more cars will be bought since decrease in interest rates increases investments.
Lower interest rates would increase the Nominal wage, and this would push the economy forward. This is something that the Governor elect of the Reserve Bank, Lesetja Kganyago
should know. Interest rate have an effect on consumption spending and consumption spending affects the real domestic output of South Africa, or any country for that matter, so I strongly agree with the points stated in this post. However, I do not understand what the writer attributes to the growth in motor vehicle sales. Are you saying that the increase in car sales is as a result of the reserve bank making available more money in circulation? Because if that is the case then we are far from economic relief!
It would be advisable for the SA government to reduce interest rates through the SARB, this will infact move the SA economy in the right direction as households will have more income at their disposal therefore increasing spending patterns and moving the economy in the right direction.
There are obvious and clear benefits that come with the lowering of the interest rate. Not only can the commercial banks borrow more from the SARB but there are direct benefits for the households and businesses. This means increased spending and investment in the economy which increases the country’s real domestic output. But what I would like to know is the opportunity cost that must be forgone if the interest rate, were to be lowered. Is there anyone who can elaborate more on that?
I think if the SARB should decrease the interest rate, it would give South Africa the first step towards a better and stronger economy. Becauce as the interest rates lower, thecmore people can take part in economical activities. Therefore there will be more people involved, hence more products being sold to them.
By lowering the interest rate will make it make it much more cheaper for South Africans to borrow money, this will in turn encourage more spending and investment which will lead to a growing economy, something South Africa is in desperate need of.
Well articulated indeed. Important point taken is that the demands of households are to some degree interest rate sensitive and that makes it tempting for the to be reserve bank governor to lower the interest rates so that many households would consume more and grow the economy- good thing. But on the other hand it is not that simple because when things are now cheap people will have excess demand which will trigger inflation and hinder the economy- bad thing.
There are a number of benefits that come along with the lowering of interest rates, consumers have more money at their disposal, therefore increasing the economy’s aggregate demand and therefore shifting the economy forward, lowered interest rates also encourage investment spending by both the private and public sector which also leads to better economic conditions for the given country.
When interest rates are lowered, consumers are more likely to borrow money from banks and other financial institutions. They use this money to buy things that they wouldn’t normally have. This leads to an increase in spending and leads to a growing economy.
The issue that does arise with the lowering of the interest rate is the possibility of demand pull inflation, seeing that households spending will be increased and aggregate demand will also increase and surpass aggregate supply… Could this not be an issue that the economy would face?
The South African markets are now opening for certain FDIs
and business opportunities in the foreign markets hence why the economy is
rising again. One of the obstacles that need to be overcome to obtain optimal
economic growth is the weak rand. Due to a weak rand, South Africa is not in a
good position to have competitive advantage over foreign countries therefore goods
are more expensive and consumers do not have the disposable income to purchase luxury
goods such as cars. I totally agree with the issue that higher interest rates
affect the number of cars bought. When cars are advertised the total price is
not advertised but the monthly installments are, and this is affected by
interest rates.
The significant increase in vehicle sales contributed greatly to the to the avoidence of negative growth, nevertheless if the increase in demand for vehicles is not controlled through policies it might result in an increase in vehicle prices and thus inflation.
Demand-pull inflation will occur if people continue to buy so many vehicles and because of higher inflation it will stop and that will hurt our economy because the motor industry is carrying us at the moment.
Demand-pull inflation has not been an issue as of yet due to the availability of cars in the market. As long as the number of cars produced keeps up with the demand for cars, no inflation should arise directly from the rise in vehicle purchases.
Thank you for a well written web blog. I agree on the fact that in will be beneficial for the economy of South Africa, as well as for the people of South Africa. This will have a positive effect on the economy in the long term.
Even though the motor sales has been increasing, showing a positive growth in the economy, the Internation Monetary Fund (IMF) forecasts an economic growth of 2.3%. According to the latest World Economic Outlook Report SA’s economic growth for 2015 was lowered from 2.7% to 2.3%, will the car sales be enough to carry the economy?
was this statistics of the growing vechile market taken into consideration when the revision was made on SA’s economic growth, or did the IMF only took the begatives into consinderation? How will the economy grow sufficiently when there are still barriers such as the infrastructure gaps, the continuous electricity constraints and the high interest rates? Will the interest rates drop soon? How soon will the recovering vechile market create jobs for the unemployed?
With the new governor of the reserve bank are we likely to see any positive economic outcomes? I do understand that the reserve bank don’t make the economy but has a big influence on it. I imagine controlling the fiscal policies must be a hectic job its self. Also are we likely to see the interest rate more than the inflation rate anytime soon? Because it’s kind of a mission to try to invest some rands ..
I think the South African economy is not very strong at this point in time and that the vehicle market alone will not be able to outstretch all of the other contributing factors to the economy.
Well, the vehicle market is not the only key economic driving force in our economy and so looking at all angles is quite crucial if the governor is to make sound and meaningful changes to the current situation.
Surely the only change acceptable for this market should be positive as it does carry the a large percentage of SA’s economy through exports and employment? Would an increase in inflation have a realistic effect on the economy as there will still be a demand for cars around the world
With the current state of things in South Africa the economy will not recover in the next 10 years, yes there will be up’s and downs but until there is more stability in the mining sector things will not change. There is unrest in every sector of the economy and with oversea investors taking their business to other mining countries things are going to get much more difficult in the future.
Thank you for this blog, it is very insightful. Regarding this post, I think the success of the motor vehicle industry over the past few months is not enough to steer our country’s economy in the right direction. There are other market failures that will need to be considered and addressed if we are to see any significant change in our economy