The moderating trade deficit is a positive development against the stark backdrop of a 30-year record high shortfall on the current account. Down-playing fears about the current account deficit, the Reserve Bank is quick to note that unusually high oil import volumes widened the gap last year.
Yet, economists point out that planned investment and infrastructure development is likely to keep the current account in the red, arguing that this may be necessary to realise sustainable, high economic growth rates.
Whether the current account matters depends on how one characterises it, wrote University of Stellenbosch economist Ben Smit in a paper for a Reserve Bank forum late last year.
The current account can be understood as the difference between imports and exports of goods and services, or the difference between gross domestic savings and gross capital formation.
Some economists argue that current account deficits should not worry policy-makers if it is due to increases in private investment and not savings declines, Smit says.
“The empirical literature on country experiences with current account imbalances, reveals that large deficits are not uncommon and that they can be sustained for five years or longer,” he concludes. Yet, he adds that large-scale reversals of deficits have also been common.
South Africa ran a current account surplus from the mid-1980s to the mid-1990s. It later ran a deficit that was reversed slightly in the early 2000s, but since 2003, the current account has been in the red.
Stanlib economist Kevin Lings reports that the current account deficit is the largest that South Africa has recorded since 1971, at 7,8% of gross domestic product in the fourth quarter of 2006.
The Reserve Bank says in its Quarterly Bulletin that the deficit would be at least 2% lower if the unusually high oil imports are excluded. The volume of oil imports rose by 140%.
Lings said that the current account deficit remained substantial even if one took the anomalous oil imports into consideration.
He said that it should continue as the country’s import profile shifted from consumer imports to capital goods imports.
Consumer spending is expected to decline as the Reserve Bank’s cumulative 200-basis-point increase in the repo rate last year kicks in this year. Statistics South Africa revealed last week that inflation declined in February to 5,7% from 6% in January.
Inflation excluding mortgage prices dropped from 5,3% in January to 4,9% the following month.
There are concerns that high oil and food prices in addition to the weaker rand may contribute to inflationary pressure in the economy.
Yet, even as consumer imports slow, Lings said that the shift to capital imports might not be reflected in the trade account for 2007, because of the lumpy nature of infrastructure development projects.
Infrastructure projects typically begin with civil engineering, while importing “big ticket” items comes later, he explained.
For example, he said that the Gautrain project might spend the first few years digging holes and tunnels before the capital-intensive imports of locomotives arrived.
Lings said that South Africans tend to finance capital goods imports through offshore finance, which would further contribute to the service deficit.
The services account deficit widened from 3,3% of GDP in 2005 to 4% in 2006.
South Africa historically ran a trade account surplus, said Lings, because the government was isolated from international financial resources under apartheid.
The government therefore had to restrict imports, which was a problem for manufacturing because it meant under-investing in machinery and equipment, he explained.
Running a trade deficit was now necessary to achieve higher sustainable growth.
The most recent trade data shows that the trade deficit fell from R8,9-billion in January to R2,7-billion last month. Last year’s capital account deficit of 8% of GDP sufficiently covered the current account deficit and allowed the government to build its reserves, he said.
“We just don’t want to rock the boat from here on,” he added.
Unpacking the reasons for South Africa’s high current account deficit, Smit also notes that it is largely due to the trade balance decline.
Looking at the deficit through a savings and investment lens, shows that 4% of the 6% deficit in 2006 is due to increased investment and 2% to decreased savings. He adds that another possible explanation for the deficit is the sharp increase in foreign capital flows over the past two-and-a-half years.
Smit argues that the government’s plan to boost investment to a GDP ratio of over 6% may put unsustainable pressure on the current account deficit.
But, he adds that a high current account deficit is likely if real economic growth is sustained at an annual rate of over 4%.
Increased foreign capital flows and an improvement in South Africa’s export performance may be prerequisites for this growth scenario, he says.