Date: 22/09/2010
Source: The South African Reserve Bank
Title: SARB: Mnyande: Remarks by the chief economist, at the release of the 2010 Annual Economic Report and September 2010 Quarterly Bulletin, Pretoria

Chairperson and Governor, Ms Marcus
Board of Directors of the South African Reserve Bank, members of the Press
and colleagues
1. My task is to introduce the 2010 Annual Economic Report and the September
2010 Quarterly Bulletin. Given time constraints, the intention is not to
give a comprehensive presentation covering all aspects contained in these
publications. Instead, only a few key points, and themes will be touched
upon, so as to whet your appetite for further reading.

2. The Annual Economic Report presents the broader economic context within
which the South African Reserve Bank has had to operate and formulate
monetary policy during the past year. My remarks today will mainly relate to
this publication, with its focus more on medium to longer term trends.

3. As far as the global picture is concerned, the past year has been a
period of recovery - fragile and uneven recovery across our major trading
partners - in economic and/or trade activity. The volume of global trade is
currently back to its early 2008 pre-crisis peak level. However, led by
countries such as China and India the emerging-market economies as a group,
have managed to raise exports more vigorously than the developed economies.
The developed economies' exports have not quite recovered to earlier peak
levels.

4. To support the fragile recovery, monetary policy in the major developed
economies has been expansionary. Interest rates have been very low, while
quantitative easing resulted in strong expansion of central bank balance
sheets. The abundance of central bank liquidity, however, did not result in
much expansion of the private banking sector's credit extension, as lenders
and borrowers alike remained very cautious.

5. Strong fiscal policy stimulus was also maintained. However, along with
structural economic weaknesses, the rapid escalation of government debt (and
in the case of Greece the discovery of a weaker fiscal position than
previously presented or known) resulted in serious sovereign debt concerns.
This was reflected in rising yields on bonds issued by the governments of
Greece and a number of other European countries, which only receded once a
large support package was announced in May this year by the European
authorities and the International Monetary Fund or IMF. Fiscal stimulation
was reduced and austerity measures introduced in a number of countries.
However, it was clear from the renewed increases in yields on such bonds in
the third quarter of this year that deep-seated concerns remained.

6. The improvement in global economic activity and in international
commodity prices along with domestic monetary and fiscal stimulus resulted
in a cyclical improvement in the South African economy.

7. Whereas the South African economy contracted for three consecutive
quarters, from the final quarter of 2008 to the second quarter of 2009,
positive growth was restored from the third quarter of 2009, accelerating to
4,6 per cent in the first quarter of this year before moderating to 3,2 per
cent in the second quarter. Manufacturing production recorded brisk
increases in both the first and second quarters of 2010. Output in the
services sector was supported by expenditure related to the 2010 FIFA World
Cup tournament.

8. Among the expenditure components, real final consumption expenditure by
the household sector contracted for five successive quarters before resuming
an upward trend from the final quarter of 2009. Expenditure on durable and
semi-durable goods in particular, registered brisk increases, albeit from a
low base.

9. One of the reasons for the recovery in household consumption expenditure
is the rising net wealth of the household sector, brought about by an
improvement in the prices of houses and shares. A note in this Quarterly
Bulletin provides further information on developments in household wealth,
and the ratio of household net wealth to disposable income will henceforth
be published in the Quarterly Bulletin, in addition to the ratio of
household debt to disposable income which has already been published for
many years.

10. The level of real fixed capital formation declined somewhat over the
past year, with increases in capital expenditure by the public corporations
which were more than offset by lower capital outlays by the private and
government sector. A marginal increase in overall real fixed capital
expenditure was registered in the second quarter of 2010. Real consumption
expenditure by government continued to rise firmly, reflecting improved
service delivery and the acquisition of military equipment.

11. Not unexpectedly and as determined by tardy recovery in demand,
private-sector employment contracted significantly in 2009 and continued to
do so in the first quarter of 2010 but at a slower pace than before. While
the private sector continued to shed jobs, employment numbers in the public
sector increased somewhat.

12. Wage settlements continued to moderate in the first half of 2010 though
they remain above the upper limit of the inflation target range. Unit labour
cost is also expected to fall in the third quarter. In the third quarter a
salary dispute in the public service resulted in strike action.

13. The targeted consumer price measure of inflation decelerated to below
the 6 per cent mark from February and remained within the inflation target
band in the six months to July 2010. By July, inflation had receded to below
the midpoint of the target range, notwithstanding high administered price
inflation.

14. The appreciation of the exchange value of the rand and low food price
inflation managed to offset high administered price inflation. In recent
months the real effective exchange rate approached levels previously
observed in the early part of 2006.

15. On the external front it is also worth noting that in the past year
China has risen to the number one position as destination for South African
exports, a position that was previously a preserve of the US.

16. Overall export volumes remained lusterless in the second quarter of 2010
partly due to temporary setbacks to mining output. During the past year the
favourable prices of South African export commodities nevertheless helped to
contain the deficit on the current account of the balance of payments. It
fluctuated higher from around 3 per cent of gross domestic product in the
second half of 2009 to 4,6 per cent in the first quarter of 2010 as domestic
demand picked up. However, it then narrowed to 2,5 per cent in the second
quarter of 2010 as expenditure by visiting football supporters soared during
the FIFA World Cup tournament, and inflows of capital continued to assure
the financing of the deficit.

17. The repurchase rate has been reduced from 12 per cent to 6 per cent
since December 2008, initially quite rapidly but at a slower rate since late
2009. The rate was reduced by 50 basis points on each occasion in March and
in September 2010, reflecting a more favourable likely future trajectory for
inflation foreseen by the Monetary Policy Committee (MPC). With the
repurchase rate at 6 per cent from 10 September 2010, the banks' prime
overdraft rate came to 9,5 per cent - the lowest in three decades.

18. Despite the substantial reduction in interest rates over the past 21
months, credit growth remained weak during this period. Although banks'
credit extension returned to positive growth in 2010, rates of increase
remained moderate as lenders and borrowers remained cautious, affected by
high debt levels, elevated impaired advances, weak employment prospects and
uncertainty caused by the fragile global economic recovery.
.
19. During the past year the Bank continued to accumulate foreign currency.
The money-market effects of this action had to be offset by
liquidity-draining mechanisms in order to maintain orderly liquidity
conditions in the money market. Over the past year, raising the level of
government deposits with the Bank was an important avenue towards such
sterilisation. Apart from the instruments routinely used so far, the Bank to
this end also started using longer-term foreign currency swaps from August
2010. The spread of the Bank's standing facility rates above and below the
repurchase rate was increased from 50 to 100 basis points with effect from
the end of August.

20. After a notable recovery from March 2009 to April 2010, share prices
receded somewhat and subsequently fluctuated broadly sideways.

21. House price inflation gained some momentum in the first half of 2010,
but subsequently started to decelerate.

22. Fiscal policy remained expansionary during the past year, continuing to
play a strongly counter-cyclical role. Government expenditure levels
remained high while tax receipts were subdued on account of the wide output
gap. In recent months the economic recovery has had a favourable impact on
government revenue, with the result that tax collections have moderately
exceeded earlier projections and the deficit, while large, has started to
narrow. This is consistent with government's aim to gradually reduce the
deficit, broaden the tax base and improve tax compliance.

23. Finally, let me highlight further observations regarding the football
tournament, as contained in a box and a note in the Quarterly Bulletin. In
the second quarter of 2010, travel receipts from non-residents associated
with the sport event amounted to roughly R3,5 billion (almost R15 billion
when annualised). This raised travel receipts by almost 26 per cent from the
first to the second quarter of the year. It may also be pointed out that the
tournament had a quite limited impact on the demand for notes and coin - an
experience shared with other countries hosting major sport events in recent
years. However, card transactions by non-residents did rise significantly on
account of the football tournament.

24. In summary, the past year has brought some recovery in activity,
although not in the country's key critical factor, i.e. employment, as well
as lower inflation and improved inflation prospects, which has made it
possible for the Bank to further reduce policy interest rates. Fiscal policy
has remained expansionary. The past year has also been characterised by
appreciation of the external value of the rand.