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Cablegate: Second Quarter Review of the South African Economy with Key

VZCZCXRO7028
RR RUEHBZ RUEHDU RUEHJO RUEHMR RUEHRN
DE RUEHSA #2072/01 2631525
ZNR UUUUU ZZH
R 191525Z SEP 08
FM AMEMBASSY PRETORIA
TO RUEHC/SECSTATE WASHDC 5752
RUCPCIM/CIMS NTDB WASHDC
INFO RUCNSAD/SOUTHERN AF DEVELOPMENT COMMUNITY COLLECTIVE
RUCPDC/DEPT OF COMMERCE WASHDC
RUEATRS/DEPARTMENT OF TREASURY WASHDC

UNCLAS SECTION 01 OF 06 PRETORIA 002072

DEPT FOR AF/S; AF/EPS; EB/TPP
USDOC FOR 4510/ITA/IEP/ANESA/OA/JDIEMOND
TREASURY FOR TRINA RAND
DEPT PASS USTR FOR PCOLEMAN

SIPDIS

E.O. 12958: N/A
TAGS: ECON EFIN EINV EMIN ENRG ETRD BEXP KTDB SF
SUBJECT: SECOND QUARTER REVIEW OF THE SOUTH AFRICAN ECONOMY WITH KEY
ECONOMIC STATISTICS

1. (U) Summary. South Africa's real GDP rebounded in the second
quarter of 2008, reflecting a recovery in mining and manufacturing
production as electricity supply improved. Export volumes benefited
from the increased production, higher international prices of key
export commodities increased, and the depreciation of the rand.
Consequently, the current account deficit narrowed in the second
quarter and was easily financed by the inflow of portfolio and other
investment capital. This in turn improved South Africa's gross
reserve position and enabled the rand to recover some of its first
quarter-losses. Unemployment also dropped from 23.5 percent in the
first quarter to 23.1 percent in the second quarter. CPIX-inflation
accelerated to 13.0 percent in July 2008, driven mainly by
supply-side factors. Responding to the deteriorating inflation
outlook, the Monetary Policy Committee (MPC) raised the repurchase
rate (repo rate) at its April and June meetings. The repurchase
rate was left unchanged at 12 percent in August. End Summary.

Sources are from the South African Reserve Bank (SARB), Statistics
SA, and the Customs Department of the South African Revenue Service.
Some figures from previous months may have changed as the result of
statistical revisions.

------------------
I. MONTHLY FIGURES
------------------

2. EXCHANGE RATES
Rand/US Dollar Exchange Rate (monthly average):

2007 2008
May 7.02 Sep 7.13 Jan 6.99 May 7.62
Jun 7.17 Oct 6.77 Feb 7.64 Jun 7.92
Jul 6.97 Nov 6.70 Mar 7.98 Jul 7.64
Aug 7.23 Dec 6.83 Apr 7.79 Aug 7.67

Trade-Weighted Rand (monthly average; 2000 = 100):

2007 2008
May 79.53 Sep 76.68 Jan 75.78 May 67.41
Jun 78.20 Oct 79.51 Feb 69.03 Jun 65.03
Jul 79.16 Nov 78.67 Mar 63.95 Jul 66.87
Aug 76.49 Dec 77.99 Apr 65.31 Aug 66.32

Comment: The rand recovered some of its first quarter losses during
the second quarter. On balance, the rand depreciated by 11 percent
against the dollar and 15 percent against the weighted average
exchange rate of the rand in the first eight months of 2008. The
rand declined sharply in the first quarter as the risk premium
demanded by non-resident investors increased. This decline was also
influenced by factors such as electricity supply disruptions,
slowing growth and negative perceptions arising from attacks on
foreigners. The rand recovered some of its first quarter losses
during April and May following an aggressive reduction in interest
rates by the US Federal Reserve in conjunction with higher South
African interest rates, buoyant commodity prices, and significant
direct investment inflows arising from corporate deals. The value
of the rand declined in June in response to a lower-than-anticipated
interest rate increase and the announcement of a
larger-than-expected current account deficit for the first quarter.
The depreciation in June was further aggravated by the Fitch rating
agency's decision to change the outlook for South Africa's long-term
issuer default rating from positive to stable. The strengthening of
the rand in July and August was supported by the rebound in domestic
output during the second quarter. Analysts expect the future value
Qoutput during the second quarter. Analysts expect the future value
of the rand to be shaped by South Africa's ability to fund its
current account deficit. End Comment.

3. INFLATION (year-on-year, not seasonally adjusted)
2008
Mar Apr May Jun Jul
CPI 10.6 11.1 11.7 12.2 13.4
CPIX 10.1 10.4 10.9 11.6 13.0
PPI 11.9 12.4 16.4 16.8 18.9

Comment: Many inflation-targeting economies overshot their
inflation targets during the last year due to rising food and fuel
prices, and South Africa was no exception. CPIX-inflation (CPI less
mortgage interest) breached the upper limit of the inflation target
range of 3 to 6 percent in April 2007 and accelerated to 13.0
percent in July 2008. The acceleration resulted primarily from
higher food prices, high international oil prices and mounting
broad-based price pressures or second-round effects. The SARB's
Monetary Policy Committee (MPC) expects inflation to peak at an
average rate of around 13 percent in the third quarter of 2008.

PRETORIA 00002072 002 OF 006


Thereafter, inflation is expected to decline in the first quarter of
2009, in part because of the introduction of new inflation basket
weights. Inflation is than expected to decline gradually, and to
fall below the upper end of the inflation target range in the second
quarter of 2010. PPI-inflation scaled new heights (well above those
of consumer prices) due to widespread increases in the prices of
both domestically produced and imported goods. End Comment.

4. MONEY AGGREGATES (percentage change over 12 months)
2008
Mar Apr May Jun Jul
M1 15.46 10.11 12.39 14.33 7.63
M2 19.94 20.07 19.43 18.07 13.93
M3 20.98 21.10 20.90 20.28 18.50

Comment: Growth in the broadly defined money supply (M3) continued
to decelerate during the first seven months of 2008, restrained by
the tighter credit and the general economic slowdown. Despite the
slowdown, growth in M3 remained high, supported by accelerating
inflation with its impact on nominal income and expenditure. Weak
share, bond, and real-estate prices also triggered a stronger
precautionary and speculative demand for money balances. End
Comment.

5. DOMESTIC CREDIT EXTENSION TO THE PRIVATE SECTOR (percentage
change over 12 months)
2008
Mar Apr May Jun Jul
22.62 19.63 19.74 20.39 19.81

Comment: The tightening of credit conditions contributed to a
moderation in the growth of credit to the private sector during the
second quarter of 2008. Tightening monetary policy increased the
debt-service costs for an already indebted private sector, while
lending standards for the household sector were raised in accordance
with the National Credit Act (NCA). Furthermore, consumers'
purchasing power was eroded by inflation, and household balance
sheets were undermined by stagnant house prices and increasingly
volatile financial markets. The deteriorating economic climate was
evident in weakening business and consumer confidence. Economists
believe this downward trend will continue in the second-half of
2008. End Comment.

6. KEY INTEREST RATES (at end of month)

2007 Apr May Jun Jul Aug

SARB Repo Rate 11.50 11.50 12.00 12.00 12.00

Prime Overdraft 15.00 15.00 15.50 15.50 15.50
Rate

Comment: The MPC has hiked interest rates ten times (for a
cumulative 500 basis-points) since June 2006, making the current
tightening cycle the longest since South Africa adopted an
inflation-targeting framework. This has reversed most of the
650-basis-point reduction between 2003 and 2005. The repurchase
rate (repo rate) was left unchanged at 12.0 percent in August 2008.
Most analysts believe that interest rates have peaked and that the
first interest rate cuts can be expected from the second quarter of
2009. End Comment.

7. MERCHANDISE TRADE ACCOUNT (R millions)
------------------------------------------


2008 EXPORTS IMPORTS TRADE BALANCE
Jan 39,356.8 49,573.2 -10,216.4
Feb 46,946.3 52,766.1 -5,819.8
Mar 51,150.9 56,181.0 -5,030.1
Apr 56,174.3 66,169.0 -9,994.7
May 56,240.5 57,900.0 -1,659.5
Jun 60,159.9 60,343.8 -183.9
QJun 60,159.9 60,343.8 -183.9
Jul 61,268.2 75,599.6 -14,331.4
TOTAL (1) 367,761.0 418,431.1 -50,670.1

JAN - JUL 2007
TOTAL (1) 275,760.0 316,683.8 -40,923.8

(1) Total After Adjustments (year-to-date)

Comment: Strong international prices and demand for South African
mining products, alongside the depreciation of the rand, caused
merchandise exports to increase by 32 percent in the first seven

PRETORIA 00002072 003 OF 006


months of 2008. There was a rise in the volume of manufactured
exports such as chemical products, machinery and electrical
equipment, and vehicles and transport equipment. Imports were
boosted by an even greater amount by the government's capital
expansion program as well as strong fixed investment spending by the
private sector, high international oil prices and the weaker rand.
End Comment.

8. FOREIGN RESERVES ($ billions)
--------------------------------
2008
Mar Apr May Jun Jul
SARB Gross Gold and
Foreign Reserves 34.39 34.28 34.41 34.85 35.00
SARB Net Open Forward
Position 33.13 32.97 33.23 33.76 34.17

Comment: South Africa's gross reserve position improved from $25.6
billion at the end of 2006 to almost $33.0 billion at the end of
2007, and by a further $2 billion to $35.0 billion by the end of
July 2008. Analysts believe the SARB has adopted a more cautious
approach to reserve accumulation to avoid unnecessary downward
pressure on the rand. South Africa's reserves remain low as a
percentage of exports, when compared to other emerging market
economies. Furthermore, import coverage decreased from
five-and-a-half to four weeks of imports as imports surged in July.
This is regarded as a source of weakness by the major international
credit rating agencies. End Comment.

---------------------
II. QUARTERLY FIGURES
---------------------

9. REAL GROSS DOMESTIC PRODUCT (percent change, seasonally adjusted
and annualized)
--------------------------------------------- ------
2007 2008
Q2 Q3 Q4 Q1 Q2
--------------------------------------------- ------
Primary Sector -4.5 1.9 -1.1 -13.9 16.9
Agriculture 8.3 4.4 11.2 17.2 19.6
Mining -9.1 0.9 -5.8 -25.1 15.6

Secondary Sector 2.0 0.6 8.1 1.0 12.3
Manufacturing -0.1 -2.5 8.2 -1.0 14.5
Electricity 2.8 3.0 -1.8 -6.2 -1.3
Construction 11.8 14.7 14.2 14.9 10.6

Tertiary Sector 5.9 6.8 5.1 4.2 1.4
Trade & catering 4.7 4.5 2.1 3.6 -2.2
Transport & Comm. 6.1 4.4 3.6 3.5 4.1
Finance 10.2 12.3 8.5 4.9 2.3
Government 1.2 3.3 4.4 4.6 1.1
--------------------------------------------- ------
TOTAL 4.0 4.6 5.1 2.1 4.9
--------------------------------------------- ------

Comment: South Africa's real GDP rebounded in the second quarter of
2008 and expanded at an annualized rate of 4.9 percent, following a
sluggish growth rate of only 2.1 percent in the first quarter. The
improvement in growth in the second quarter reflected increased
output in the primary and secondary sectors, which offset a further
moderation in output growth of the tertiary sector.

Primary sector: Growth in the agricultural sector edged higher in
the second quarter of 2008, primarily due to favorable weather
conditions for field crop production, combined with a marked
increase in the acreage planted. The mining sector recovered some
of its first quarter losses. Production of gold, diamonds, coal and
platinum increased in the second quarter of 2008, even though mines
Qplatinum increased in the second quarter of 2008, even though mines
had to operate at power levels of between 90 and 95 percent of their
earlier electricity requirements. The more stable supply of
electricity and favorable commodity prices more than offset the loss
of production due to continuing, but fewer, safety-related shutdowns
over the period.

Secondary sector: Growth in the secondary sector expanded in the
second quarter primarily due to the improved performance of
manufacturing. The strong manufacturing performance was partly
attributable to base effects as the availability of electricity
supply improved considerably in the second quarter. The increase in
manufacturing production was especially pronounced in food and
beverages, and petroleum-related products. Electricity output
contracted only marginally in the second quarter of 2008 as the

PRETORIA 00002072 004 OF 006


availability of electricity improved considerably and the export of
electricity to neighboring countries declined. The construction
sector remained buoyant in the second quarter of 2008, although the
increase in output was lower than in the first quarter. This
moderation in growth reflected deteriorating conditions in the
residential and non-residential building sectors, as developers
increasingly felt the strain of higher interest rates and mounting
inflationary pressures.

Tertiary sector: The slower pace of growth in the tertiary sector
reflected a slowdown in the trade sector. The contraction in the
trade sector was the first since the third quarter of 2001 and was
primarily due to slower output growth in the retail and motor trade
subsectors. Tighter credit conditions and inflationary pressures
negatively affected consumer spending and consumer confidence levels
in the second quarter of 2008. Likewise, growth in the finance
sector also tapered off. End Comment.

10. BALANCE ON CURRENT ACCOUNT (R millions)
--------------------------------------------- -------
2007 2008
Q3 Q4 Q1 Q2
--------------------------------------------- -------
Merchandise Exp. 124,858 132,032 138,702 172,558

Net Gold Exports 10,239 11,268 11,516 11,877

Merchandise Imp. 150,425 152,374 161,339 188,055

Income Payments 29,752 31,868 31,607 28,862
--------------------------------------------- -------
Current Account -45,314 -38,072 -41,089 -39,133
--------------------------------------------- -------
Current Account
Deficit/GDP -8.1 -7.5 -8.9 -7.3
(percentage)

Comment: The second quarter output recovery after power supply
disruptions in the first quarter, coupled with high international
commodity prices and a more competitive rand, resulted in
significant increaQs in both the volume and average price of South
African exports in the second quarter. This improved export
performance coincided with more subdued domestic demand and a
marginal increase in imports, and resulted in the narrowing of the
current deficit in the second quarter of 2008. End Comment.

11. BALANCE ON FINANCIAL ACCOUNT (R millions)
--------------------------------------------- --------
2007 2008
Q3 Q4 Q1 Q2
--------------------------------------------- --------
Direct Investment 10,880 5,528 35,169 981

Portfolio Investment 29,215 -6,055 -20,572 22,547

Other Investment 16,015 34,863 29,688 19,150

--------------------------------------------- --------
Financial Account 56,110 34,336 44,285 42,678
--------------------------------------------- --------

Comment: South Africa continued to attract capital inflows to
finance the current account deficit in the second quarter of 2008.
Unlike the first quarter of 2008, when portfolio investments turned
negative, capital inflows in the second quarter were primarily
portfolio and other investment capital. Foreign investor confidence
in the country was positively affected by the recovery in output and
high commodity prices, coupled with the government's commitment to
address structural shortages. However, the South Africa economy
Qaddress structural shortages. However, the South Africa economy
would have to generate similar capital inflows in the second-half of
2008 to prevent the rand from depreciating further. End Comment.

12. KEY LABOR MARKET VARIABLES (thousand)
-------------------------------------------
2007 2008
Mar Sep Q1 Q2
--------------------------------------------- --------
Employed 12,648 13,234 13,623 13,729
Unemployed 4,336 3,945 4,191 4,114
Total Labor Force 16,984 17,178 17,814 17,844
Not Econ. Active 13,211 13,235 12,794 12,861
Population 15-64 30,195 30,413 30,608 30,705
--------------------------------------------- --------
Unemployment rate 25.5 23.0 23.5 23.1

PRETORIA 00002072 005 OF 006


(percentage)

Absorption rate 41.9 43.5 44.5 44.7
(Employed/population ratio)

Comment: Unemployment in South Africa dropped from 23.5 percent in
the first quarter of 2008 to 23.1 percent in the second quarter.
The number of jobless persons decreased by 77,000 to 4.1 million
people, while the number of employed persons increased by 106,000 to
13.7 million. The prospect of slower economic growth for the next
year or two could slow down or even halt this progress on
employment. End Comment.

------------------
III. ANNUAL FIGURES
------------------

13. GROSS DOMESTIC PRODUCT
(R millions, at market prices)
--------------------------------------------- ----
2005 2006 2007
--------------------------------------------- -----
Nominal GDP 1,541,067 1,741,060 1,993,894

--------------------------------------------- -----
GDP Growth Rate 5.0 5.4 5.1
(constant 2000 prices, y-o-y growth percentage)

Comment: The strong growth in 2007 was due to high commodity
prices, strong domestic consumer demand, and increased fixed capital
investment. Economists expect economic growth to slow to between 3
percent and 4 percent in 2008. This slowdown is due to the
sustained monetary policy tightening since mid-2006, energy supply
constraints, and slower global growth. End Comment.

14. FINANCING OF GROSS CAPITAL FORMATION (R millions)
--------------------------------------------- --------
2005 2006 2007
--------------------------------------------- -------

Savings by Households 1,264 -5,164 -6,885

Corporate Savings 35,598 21,140 14,118

Savings of Government -10,836 9,032 19,636

Consumption of fixed 190,148 218,070 255,033
capital
--------------------------------------------- -------
Gross savings 216,174 243,078 281,648

Foreign Investment 62,179 112,346 145,016
--------------------------------------------- -------
Gross capital formation 278,353 355,424 426,664
--------------------------------------------- -------

Gross
Savings/GDP 14.0 14.0 14.1
(percentage)

Dependence on Foreign 22.3 31.6 34.0
Investment

Foreign Investment/GDP 4.0 6.5 7.3
(percentage)

Gross Capital
Formation/GDP 18.1 20.4 21.4
(percentage)

Comment: The savings rates for households and corporations
continued to decline, while the government increased its savings
rate in 2007. The government's higher savings rate was mainly due
to an increase in tax revenue collected which more than offset
growth in expenditure. Notwithstanding the minor improvement in the
national savings/GDP ratio, South Africa's dependence on foreign
capital to finance gross capital investment increased to its highest
rate ever in 2007. Investment programs by private business
enterprises, public corporations, and the general government boosted
growth in capital investment. The ratio of gross fixed investment
to GDP increased to its highest level since 1985 and is approaching
the SAG's target of 25 percent. End Comment

15. NATIONAL BUDGET (R billions)

PRETORIA 00002072 006 OF 006


---------------------------------

Fiscal Year Ending 31 March:
2005 2006 2007 2008
--------------------------------------------- -------
Total Revenue 347.4 411.2 481.2 560.1
Total Expenditure 368.6 416.8 470.2 541.6
Budget Balance -20.7 -5.0 11.0 18.5
--------------------------------------------- -------

Budget Balance/GDP -1.4 -0.3 0.6 0.9

Comment: The fiscal surplus in 2008, only the second since 1960,
was the result of a large increase in tax revenue (owing to strong
economic activity and stepped up revenue enforcement) that was only
partly absorbed by additional expenditure. End Comment.

16. GOVERNMENT DEBT (R billions)
---------------------------------

Fiscal Year Ending 31 March:
2005 2006 2007 2008
--------------------------------------------- --------
Total Debt 501.7 528.5 551.9 571.7
of Which:
-- Domestic 431.8 461.2 469.0 475.2
-- Foreign 69.4 66.8 82.6 96.2
-- Other debt 0.5 0.4 0.3 0.2

State Debt Cost 48.9 50.9 52.2 52.8
--------------------------------------------- --------
Government Debt/GDP 36.8 33.2 28.9 25.4
(percentage)
State Debt Cost/GDP 3.4 3.2 2.9 2.6
(percentage)

Comment: The decline in government debt as a percentage of GDP can
be attributed to the rapid growth of the economy and the creation of
a fiscal surplus. Debt service costs have shown a steadily
declining trend since peaking at 5.6 percent of GDP in the 1999
fiscal year. The decline in debt service costs has created the
necessary "fiscal space" to finance social priorities. End Comment.


--------------------------------------------- --------

For additional information please consult the following websites:

South African Reserve Bank
South African Revenue Service
Statistics South Africa
National Treasury

BOST

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