Last year was a year of politics, with countries representing about half the global population holding elections. This year needs to be the year of economics. It is time for the proverbial campaign dust to settle, for policies to be set in motion and for the economic impact to follow.
Policy setting can take a long time as various views are consolidated and unintended consequences considered. Furthermore, the lag between policy implementation and economic activity can be a couple of quarters, depending on the policies in question.
However, most of the players in the major economies we interact with have been there before, including our own government, and the new ones have promised swift change, the reality of which will be seen in the course of time. Much like our personal New Year’s resolutions, policymakers may struggle to stick to theirs.
The US Federal Reserve and European Central Bank both cut rates by a total of 100 basis points each in 2024, while the Bank of England and SA Reserve Bank only cut by 50 points.
Though the US Fed has revised downward its expectations of rate cuts from a further 100 points to about 50 points, interest rates are still expected to be lower than at present. An argument can be made that the Reserve Bank still has plenty of room to cut rates based on the real rate differentials with our major trading partner economies. However, the desire for a lower inflation target by the Bank governor detracts from this a bit.
History has shown that although the direction of interest rates can be predicted with a high degree of certainty, the extent and size of moves is a lot harder to forecast. This uncertainty may be worsened by the rise of inflationary fiscal and trade policies.
A big issue across the globe is incoming US president Donald Trump’s proposed tariffs on all imports, but particularly against China. It is worth noting that the US and China are major SA trading partner economies.
By their very nature tariffs are inflationary, and while globalisation led to a trend of lower inflation, deglobalisation will lead to a stickier inflationary environment. Various analyses indicate that while implementing a 60% tariff against Chinese imports may increase US revenue, retaliation by China will result in increasing unemployment in the US across 45 of its 50 states.
When you factor in a 20% US tariff on imports from the rest of the world, with similar retaliation, only Wyoming and North Dakota are expected to be spared job losses.
There is also no clear path to fiscal consolidation for the US, as the proposed domestic tax cuts would leave a fiscal deficit, with rising debt despite the tariff increases and proposed spending cuts.
In the meantime, stimulus packages in China have struggled to grow the economy by the 5% annual target. In particular, a struggling property sector has dragged economic output down. This may now be compounded by the looming trade war with the US. China being the largest single consumer of commodities, and SA being a net exporter of commodities, makes China’s recovery significant for us.
China is no longer the US’s largest trading partner economy, having been overtaken by Canada and Mexico over the past couple of years. Despite this, the largest US trade deficit continues to be with China. China will therefore be a target of US tariffs for the foreseeable future. However, even if the US is able to close this deficit it will face similar challenges with Mexico and Canada.
Locally, in addition to a complex geopolitical landscape, domestic challenges remain. Fiscal consolidation and debt containment will remain priorities. Though the primary budget, excluding debt servicing costs, is now in surplus, the consolidated budget, including these costs, is still in deficit. Debt servicing costs continue to be the fastest growing expenditure item in government’s budget.
Infrastructure, particularly in transportation and logistics, continues to be a problem, with water management also emerging as a concern. On the positive side, we have experienced stable and reliable electricity supply over the past few months, and this will begin compounding positive economic output provided it is sustained. The attraction and efficient allocation of capital will remain key to our economic recovery.
Global markets are a bit stretched from a valuation perspective, particularly the US. These markets are expected to drive global return on equity, hence they are expensive for a reason. The path to these returns will remain volatile. We expect a high level of sensitivity to earnings releases, which will be the litmus test for whether these valuations can be supported.
Local markets are a lot more attractively valued. The pathway to unlocking this value will be closely linked to solving our infrastructure problems, policy direction and labour absorption, as well as global trade conditions.
• Smith is chief investment officer at Absa Investments.
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