This week s theme. Contact. The key data in review

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1 1 August 2015 Contact Alex Smith Economist FNB Alex.smith@fnb.co.za Mamello Matikinca Economist FNB Mamello.matikinca@fnb.co.za This week s theme The decision by the Chinese authorities to devalue the Yuan (which is pegged to the US Dollar) sent shock waves through the markets this week, as the Yuan has been adjusted gradually stronger in recent years. In fact the 1.9% devaluation on Tuesday was the biggest one day decline in over 20 years. The devaluation on Tuesday and Wednesday has led to speculation that government is becoming increasingly concerned about GDP growth and exports. As a result commodity exporting countries (that are reliant on Chinese demand) including many in Africa experienced significant currency weakness. A further concern is that if China continues to weaken its currency, Chinese imports into other countries will become more competitive (hurting domestic industries) and exports into china will be less competitive. It is uncertain how much further the Yuan devaluation will go, but if it continues it will be short term negative for countries like South Africa. The key data in review Date Country Economic Release/Event Actual Prior 11 Aug SA Manufacturing Production (Jun) Aug China Retail Sales (Jul) China Industrial Production (Jul) Eurozone Industrial Production (Jun) Aug SA Mining Production Postponed 2.7 US Retail Sales (Jul) 0.6% m/m 0.0% m/m Content 1 Data in review 2 SA 3 Rest of Africa Global 5 Week Ahead 6 Forecasts 1 Aug Eurozone GDP (2Q) Financial Market Indicators Close 1-week 1-month 1 Year All Share Index % -1.9% 3.3% USD/ZAR % -3.9% -21.1% EUR/ZAR % -5.2% -1.1% GBP/ZAR % -3.7% -13.3% Platinum US$/oz % -1.9% -32.6% Gold US$/oz % -2.6% -15.1% Brent US$/oz % -1.2% -52.5% SA 10 year bond yield bps 0.10bps -0.12bps Source: I-Net, FNB (data as at Thursday s close) 1

2 South African Economy SA s manufacturing production fell 0. in June, to record the fifth decline in the past six months. The index was brought down by weaker production in the petrochemicals and plastics (-.9% y/y), furniture (-5.3) and steel and machinery (- 3.) divisions. Meanwhile, a further strong performance from the transport equipment (+10.% y/y) and food and beverages (+2.) divisions helped to boost the sector. On a month-on-month basis manufacturing production edged up by 0.9% in June. However, this was not enough for the sector to avoid a second consecutive quarterly decline in 2Q The production drop of.9% annualised in 2Q 2015 means that the sector is now in recession. This is being driven by weak demand, rising input costs, a flailing mining sector and increased import penetration. Given its importance in terms of SA s GDP (accounting for about 12%) and the weak data that we have received from other sectors, it appears as if 2Q GDP growth will be very weak. of demand in 2Q. Tying in with the recent manufacturing production data, we saw a significant decline in capacity utilisation in the iron and steel (to 77.5%), glass (to 7.3%) and petrochemicals (to 0.2%) divisions. Meanwhile, the only two major divisions to report higher levels of utilisation were transport equipment (.2%) and food and beverages (2.7%). This data supports our view that manufacturing output is likely to remain under pressure in 2H However, there is a bright spot in the vehicles space where both production and export volumes are growing strongly. Please note that the mining production data for June that was scheduled for release this week has been postponed until 25 August. A separate report showed that capacity utilisation in the manufacturing sector declined slightly in 2Q 2015 to 0.2%, a two year low. The main reason cited for underutilisation of capacity remained a lack Figure 1: Manufacturing Production Figure 2: Manufacturing Capacity Utilisation Manufacturing production 6 per. Mov. Avg. (Manufacturing production) % Source: Econostat, FNB 2

3 Sub-Saharan Africa The Bank of Zambia (BoZ) opted to leave the benchmark interest rate unchanged at 12.5% this week. The BoZ has aggressively tightened policy this year by hiking the cash reserve requirement ratio for banks from 1% to 1%. However, it has not lifted the benchmark interest rate since November 201. During 201 the interest rate was hiked aggressively by 275 basis points. The BoZ noted that the kwacha has been under further pressure in 2015 and as a result inflation is likely to end this year slightly above its 7% target. The unchanged policy rate was therefore justified on the basis that policy is already tight and GDP growth is deteriorating (due largely to power rationing). The BoZ has clearly begun to prioritise economic growth and may be concerned that the effectiveness of further monetary tightening will be limited. This is because actual borrowing rates in the economy are already well above the policy rate as a result of the significant borrowing requirements of government. What is desperately required to alleviate the tight liquidity conditions is consolidation from government. However, this is unlikely in the short term as there is an election in about a year. GDP Growth in Tanzania slowed to 6.5%y/y in 1Q15 from.6 in 1Q1. While the slowdown was broad-based the mining sector, a key contributor of foreign exchange, certainly stood out. Compared to a growth rate of 19.7% in 1Q1, growth in the sector slowed to 0.6%y/y, led by a notable decline in tanzanite and diamond production. Gold production also warned in the quarter. While weak crop, forestry and fishing activity weighed on activity in the agricultural sector, government subsidies seem to have helped limit the decline in activity. Growth in the secondary and tertiary sector also weakened during the quarter as most subsectors recorded slower growth. We expect the slide in commodity prices to continue to weigh on activity in the mining sector, however, gas and oil exploration should be supportive of growth in the long-term. Inflation data released over the week indicated that price pressures remain elevated in the different parts of the continent. While the decline in the oil price may offer reprieve to some countries, currency weakness and higher food prices continue to pose upside risk to the inflation outlook. Figure 3: Zambia Policy Rate Figure : Tanzania GDP % p.a % Source: Bloomberg, Reuters, IMF, FNB 3

4 Sub-Saharan Africa In Tanzania, inflation rose for the sixth consecutive month, to 6. from 6.1% led by higher food prices specifically rice and maize. Over the month, inflation rose by 0.%, with most sub-groups registering higher prices. We expect the inflation rate to remain elevated as a result of continued shilling weakness. Headline inflation in Nigeria stabilised at 9.2 in July. Food inflation remained flat over the month (10%) due to expectations of increased supply as favourable weather conditions suggest that the harvest season might be a good one. Core inflation ticked higher over the month, indicating that inflationary pressures are broadening on the back of the persistent weakness of the naira. The spread between the parallel and the market rate reached a high of 5 naira. We expect currency weakness to continue to exert upward pressure on the inflation rate. As such, we are cautious not to interpret this reading as a turning point of the inflation rate, and we therefore, maintain our view of a deterioration of the inflation outlook as the naira remains weak and recent restrictions on imports boost inflationary pressures. Inflation in Ghana pushed higher in July, reaching 17.9 from 17.1% in June. Higher food and utility prices remained a pressure point. Food inflation rose by 0.2 percentage points to 7.6% over the month. Non-food inflation rose to 2.6% led by higher housing and utility costs (27.1%) as well as transports costs (25.7%). We expect a gradual deceleration in the inflation rate from current levels as weak domestic demand weighs on price pressures in the months ahead. However, the weak cedi continues to pose upside risk to the inflation outlook. Figure 3: Nigeria inflation 20 Figure : Ghana headline Inflation Headline All Items less Farm Produce Food Source: Bloomberg, Reuters, IMF, FNB

5 Global Snapshot China s industrial production, retail sales and fixed asset investment all slowed in July, disappointing relative to consensus forecasts. Industrial production growth slowed to 6, down from 6. in June. Retail sales growth slowed slightly to 10.5, from 10.6% in June. Both of these indicators are close to decade lows. Meanwhile, fixed asset investment also slowed slightly to 11.2 for the January-July period. The recent underwhelming spate of data goes some way to explaining the authorities decision to devalue the currency (which is pegged to the US Dollar). By weakening the Yuan authorities are hoping to boost exports and overall economic growth. They may also be hoping to lift inflation, which has been tracking well below the annual target for this year. US non-farm payrolls increased by in July, which is slightly less than the in June and the average gain over the past 12 months, but is still a robust print. As a result the unemployment rate remained at a seven year low of 5.3%. Strong job gains were seen in retail ( ), food services ( ) and healthcare (+2 000). The only industry reporting job losses was mining ( ). It has seen employment drop by a cumulative since December 201 due largely to the falling oil price. Average hourly earnings continued to grow at a moderate pace of 2.1. Figure 5: China Retail Sales and Industrial Output Retail sales Industrial Production All told this data supports the view that the Fed will hike interest rates before year end. US retail sales grew at a better than expected rate of 0.6% month-on-month in July. Importantly there were significant upward revisions to the May and June data, which suggests that 2Q GDP growth is likely to be revised higher as well. On a year-on-year basis retail sales rose 2.%, up from 1. in June. This was driven by strong demand at: restaurants (+9% y/y), vehicle dealers (+ 6.9), and furniture stores (+6.1). Retail sales are being kept down by a low oil prices as they are reported in nominal terms (gasoline sales are down by 15.2). Once the lower oil price moves into the base in Q 2015, we expect to see sales increase further. Eurozone GDP grew by 1.2 in 2Q 2015, up from 1% in 1Q This was driven by strong performances from Spain (+3.1), Slovakia (+3.1), the Netherlands (+2) and Germany (+1.6). Remarkably, Greece managed a faster growth rate of 1. in 2Q. On a quarter-on-quarter (q/q) basis Euro area GDP increased by 0.3%, which was slightly slower than in 1Q 2015 and was marginally weaker than expected. Nevertheless, the fact that the region is enjoying such broad based growth (only one country saw negative q/q growth in 2Q) is a very positive signal. We expect the moderate GDP growth to continue in 2H Figure 6: Eurozone GDP Growth Source: Bloomberg, FNB 5

6 The Week Ahead SA Inflation set to move back above 5% Next week we will be looking out for retail sales and the consumer price index (CPI). SA s retail sales growth slowed to a four month low of 2. in May as furniture sales fell sharply. In June, we expect a rebound to a rate of about 3.5% y/y. This is due to a very weak base that was established in June last year as a result of the mining sector strike and resultant loss of wages. The relatively strong year-on-year growth rate that we expect is not a reflection of an improving consumer backdrop. On the contrary, we expect that sales growth contracted compared to May 2015 as inflation moved up and vehicle sales volumes deteriorated. SA s CPI increased slightly to a six month high of.7 in June. For July we expect a significant bounce to 5.2. This forecast is based on a substantial rise in food, electricity, water and transport inflation. Water and transport inflation will rise due to higher tariffs implemented by municipalities in July. Meanwhile, food is set to rise on increased cereals and meat costs. Data to watch out for next week... Date Country Release/event Survey Prior 17 Aug Japan GDP (2Q) -0.5% q/q 1.0% q/q 1 Aug UK CPI (Jul) Aug SA CPI (Jul) 5.7 SA Retail Sales (Jun).2 2.% US CPI (Jul) Aug UK Retail Sales (Jul) -.0 US Existing Home Sales (Jul) 5.1 m 5.9 m Source: Bloomberg ( Survey is the consensus forecast) 6

7 FNB SA Economic Forecasts Economic Indicator f 2016f Household consumption expenditure %yy Government consumption expenditure %yy Gross fixed capital formation %yy Total exports %yy Total imports %yy Real GDP %yy Current account (% of GDP) CPI (average) %yy f CPI (year end ) %yy Repo rate (year end) %p.a Prime (year end) %p.a USD/ZAR (average) Source: FNB 7

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