How the end will come (II)

RW Johnson concludes his two part series on the dying of the old regime


The first article in this series can be read here.

What next?

So what should we expect to happen? At present the ANC only wants to enable pension funds to invest in SOEs and infrastructure if they want to. They may be able to bully the PIC into doing this but one may be certain that most pensioners will be extremely leery about putting their savings into the hands of the incompetent and corrupt people who run SOEs.

Many will cash their pensions rather than allow that. If this happens, expect the ANC to legislate to force such investment by prescription. In which case watch for a tidal wave of encashment. But where, then, will that money go?

If you look at the plentiful bumf which reaches you from investment managers and advisers you will notice that currently many of them are saying that the best thing for South African investors to do is to put their money into fixed interest bonds. The vast bulk of this asset class is of course made up of government and SOE bonds, which means that other bonds have to compete with them on at least equal terms. After all, with a ten-year government bond yielding around 9.5% and inflation down under 3%, what can be guaranteed to do better than that?

But what does it say about an economy if nobody wants to invest in the shares of companies that make and sell things but instead investors prefer to lend to the government so that it can subsidise the consumption of the public service and the grant recipients? Can any society possibly work like that?

This is, in fact, the larger version of the situation in which productive private sector managers and workers pay taxes which help pay the salaries of vastly better paid public servants whose productivity is often negligible. Such are the contradictions of a “state-guided economy”. One is reminded of the old saying from Hungary when it was a People’s Democracy: “The definition of Socialism: an incessant struggle against difficulties which would not exist in any other system”[1].

The thing to watch is the bond market. Already the downgrades by the ratings agencies are having an effect: the proportion of bonds owned by foreigners has shrunk from 42.8% to 30.6% as foreigners sell heavily. There has, in fact, been an avalanche of foreign sales of South Africa bonds and equities: such has been the power of the downgrade in the credit rating. This is important because the ratings agencies are poised to downgrade South Africa even further if the government doesn’t get a handle on the situation.

That would undoubtedly see a lot more selling of bonds and equities. Ramaphosa began his presidency by appealing for increased foreign investment but in fact his dithering and his mouthing of tired old ANC slogans has had exactly the reverse effect. The government has lost all credibility and trust in the markets, a dangerous result since it means that in a crisis there will be no benefit of the doubt.

There is a political problem here, for Ramaphosa’s domestic popularity rating remains high which is likely to convince him that dithering and the mouthing of platitudes during his TV appearances is just what is needed. Whoever advises him on such matters needs to tell him that his popularity stems in large part from the awfulness of the possible alternatives and that he had better pay more attention to what the markets are telling him. Failure to do that will produce a thunderous result.

Secondly, it is becoming harder to sell ten year bonds because it is so difficult to believe anything the government says about the longer term, so the government is selling more and more short-dated stock. For the moment enough buyers are still rolling up at bond auctions but their numbers have already thinned: a lot of those foreign sellers will not be coming back.

As the year advances and the state's enormous appetite for money just keeps getting bigger, one suspects things will get a great deal tighter. The pressure for the Reserve Bank to intervene in the market will grow. The Treasury will desperately resist all the demands for extra spending, not only because it knows that will mean yet more borrowing but because it knows that if it gives way on anything it could be engulfed by an avalanche of demands.

As this tightening happens Mboweni will have to warn the cabinet that if the state can't obtain enough local buyers for its bonds it will have to start offering bonds in stronger currencies in order to tap into foreign markets. This will really start the alarm bells ringing since South Africa's traditional strength has lain in its small dependence on foreign-denominated debt.

The SACP and Cosatu will demand the imposition of tougher capital controls to try to stop capital flight. This could well happen but we have been here before and seen the ingenuity and determination of South Africans in getting their money abroad. For many the very fact that the government is trying to stop you from acquiring hard currency is an extra incentive to ensure you get it. In the 1980s one would find friends of very slender means who would happily boast that they had a few hundred pounds in a British building society. Better-off friends tended to keep their mouths shut because they had considerably more stashed away in the Channel Islands or on Wall Street. Capital flight is like love: it always finds a way.

Dominoes falling, casting around

As in the 1980s the aim of such measures is to try to prevent the present turning into a future which you don't like. Generally this doesn’t work. In the 1980s the future which the government was trying to prevent was black majority rule, which happened anyway a few years later. The trouble again now is that South Africa is moving rapidly into a very different future, whether the government likes it or not. Wherever one looks one can see the old order collapsing.

An obvious example is local government. A clear majority of all municipalities in the country are now dysfunctional, many of them bankrupt or hopelessly in debt. Whatever SAMWU does it can't obtain higher wages for municipal workers in such a situation. The collapse of these municipalities naturally produces a flight to the metropoles by the youth, professionals and business people, further weakening the ratepayer base of smaller centres. These hollowed-out communities rapidly become ghost towns.

Until recently it seemed likely that we were moving towards the usual African model where local government only functioned in a handful of the largest cities. But even that is looking optimistic now. Bloemfontein and Pietermaritzburg are under administration, Durban is nearly bankrupt, Pretoria is a mess and Port Elizabeth is close to collapse. To drive through Johannesburg at night is uncomfortably like driving through Kinshasa: traffic lights don't work and nor do many streetlights. Constant vigilance is necessary as dark shadows flit across the road in front of you. Manhole covers are sometimes missing and there are potholes everywhere. There are many areas where it's not safe to drive. Everyone who can avoids the old centre of the city completely. This may be Africa's greatest city but it is a city on its uppers.

This decay at local level has major implications for the ANC, for local government has been a key part of its patronage network. Large numbers of councillors and council staff members have drawn salaries and allowances and a whole class of black entrepreneurs has feasted on municipal contracts and tenders. Much of this is now threatened: major cuts are coming in state subsidies to local government.

Meanwhile, some three million jobs have been lost in the lockdown, a fact which is producing desperation both in the workforce and in the unions. On June 29 the unions at SAA put out an angry statement: “Minister Gordhan must be stopped in his plans to retrench 3700 workers as these totally unacceptable actions cannot be carried out by a democratically elected government. In fact, in difficult economically depressed conditions such as what we are facing, government must be the employer of the last resort.”

Note the logic: we are the masses. The ANC represents the masses. So it is definitionally impossible for a government representing the masses to allow any of the masses to lose their jobs. In the last analysis the government must simply invent jobs to give to people. There is no room for economics or functionality in this argument but in fact it has been largely followed for some time – hence the hugely swollen number of employees in SOEs and in the public service. Such is the welfare function of the ANC – and of course that is coterminous with its powers as a patron. Recipients of jobs or welfare grant are expected to be loyal clients.

Amazingly, this notion of government as the employer of last resort has now made it into the ANC's economic policy document, doubtless as a result of Cosatu lobbying. There is, of course, no prospect of the state really employing all those who want jobs but what is notable is that jobs are here viewed not as something necessary to a productive enterprise but as a revenue stream, as welfare. This is, indeed, the ANC's central attitude: for workers, jobs are welfare; for the ANC they're patronage.

Infrastructure spending is good not because it might produce better roads or ports but because it creates jobs. It is indeed a good thing to create more jobs but any large investment has to be judged first and foremost on its return as a public good. Yet the government's list of infrastructure projects contains many non-economic projects. The argument is that even if it's a white elephant (more stadiums anyone?) it means jobs. But as public expenditure gets slashed much of this part of the ANC's patronage network is threatened too.

Similarly, SAA workers carried placards which read “We demand job security”. Here again, a job is welfare. The fact that SAA is losing money partly because it's overstaffed is irrelevant. It wouldn't matter if the job was digging holes and then filling them in again: job security would still be the demand. SADTU clearly has the same view of teaching jobs: the key thing is that they represent a revenue stream, not that the teachers actually go into the classroom.

Unsurprisingly, SADTU want their members to refrain from teaching – though on full pay – more or less indefinitely (“until after the pandemic has peaked”). The fact that the Western Cape schools have been back in action for weeks now is not an example to be followed: it is a provocation requiring a hostile investigation by the Human Rights Commission. Huge pressure is being exerted to close the Cape schools again, largely because of the embarrassment they are causing SADTU.

As may be seen, we are now dealing with the results stemming from mistaken policies which built upon earlier mistakes and so on all the way back to 1994. This has created a rickety structure which is quite unable to deal with an economic or a health crisis. The result now is that almost everything is going wrong at once. The effect can be quite giddying and, of course, the government is way out of its depth, casting around in a fitful and spasmodic fashion which can’t disguise the fact that that things are out of control. And while the ANC elite may see this as an opportunity the mundane truth is that we now have not ten but thirteen million unemployed and that 47% of the population reports that it has gone hungry, a truly shocking figure.

We have reached a point where the ANC hardly dare remember that it promised “a better life for all”. Its central welfare function has failed and the ANC's all-important patronage structure is being undermined.

All roads lead to a debt crisis

Under these circumstances the progression towards a sovereign debt crisis seems all but certain. Mboweni has put across the idea that our national debt may climb steadily towards 100% of GDP in, say, four years’ time, and then a debt crisis will occur. Anyone familiar with Third World debt crises knows that this is not how it works. As the debt creeps up, the government casts around with increasing desperation for any lumps of capital that it can get its hands on. (In Zimbabwe the government has several times raided people's private bank accounts.) As tension increases even the smallest savers make heroic efforts to smuggle bits and pieces of money offshore. Trust and confidence in the government evaporates. No one invests.

The situation in the bond market becomes increasingly frantic. From abroad only junk bond dealers show much interest and even some of them are short sellers. Domestic investors too become exceedingly wary. The pressure on the Reserve Bank to intervene to prop up the market becomes insistent. Then a chance event – perhaps another loony ANC economic statement, perhaps the bankruptcy of some notable local company, or just some random international event – causes a panic.

The result is a blizzard of bond sales as investors bolt for the door. Insufficient buyers appear at the bond auction so the Reserve Bank has to intervene but that too creates further ripples of unease. The government, realising that it can't sell any more bonds for the moment (for it is borrowing now just to pay interest on its debt), is forced to declare a moratorium on debt interest payments. This creates even more panic.

All of this can happen very quickly indeed. By this time the full-blown debt crisis has arrived. The moment that the government is unable to meet interest payments on its debt, creditors everywhere back away: who on earth lends to a government which isn't meeting its payment obligations? This creates an immediate crisis on three fronts. First, all international trade depends on credit, but if payment is uncertain who is going to export anything to South Africa? So key imports – medical supplies, machine spares, oil - freeze. Secondly, bond auctions become impossible. In the absence of buyers the Reserve Bank is the only possible bidder but even if it takes that route, printing extra money with which to buy bonds, word spreads immediately of this desperate measure, creating further panic. Thirdly, of course, the Rand plummets.

If the panic starts on Monday by Thursday, at the latest, the Finance Minister is telling the cabinet that as things stand there will be no money with which to pay public service salaries or social grants. This produces total consternation: the day that payments to public servants or grant recipients simply stop is the day that the ANC collapses. The only solution is to obtain a large chunk of credit right away and come up with a plan with which to steady the markets: the only possibility is an IMF bailout. Faced with this pressure and these horrid choices some very unlikely ministers will end up voting for the bailout. And a very unlikely president will do the same.

There are, of course, variants to this scenario: there are a number of different routes into the crisis but in the end all roads lead to Rome. We have seen it many times in various countries. A point of some importance, though, is how the denouement is dealt with. The way NOT to do it is the way the ANC has simply run enterprises into the ground – Denel, SAA, SA Express etc – so they can no longer operate, cannot pay their debts or pay wages but just lie gasping like a landed fish.

The French call this a banqueroute sauvage (literally, a wild or uncontrolled bankruptcy). It is the worst option for it makes it all but impossible to save the enterprise or line up another buyer for it. Far better is to see trouble coming, act in good time, avoid the bad publicity of panic and collapse. Then, with luck, the enterprise can be saved. The analogy for saving a country is much the same.

R.W. Johnson

[1]     Cited by Anne Applebaum, Iron Curtain: the Crushing of Eastern Europe (2012), p.238.