15 Jan 2021
South Africa: 4 themes to watch in 2021
What’s in store for 2021? An economist, political analyst and an expert on Eskom share their thoughts on potential gamechangers for the South African economy.
Dirk Kotzé, a professor in political science at UNISA, joins Investec Treasury economist, Tertia Jacobs and Investec Power & Infrastructure's Dieter Matzner, in their breakdown of what's on the cards for South Africa this year from a political, economic and energy perspective.
1. Political expectations – by Professor Dirk Kotzé
The political situation in South Africa will be influenced in the first instance by the way in which the Covid-19 pandemic develops during the year. It will influence public opinion about government in general, determine its impact on the economic dynamics and the impact on confidence in the short-term. Successes or failures in this respect will be translated into political optimism/pessimism and levels of economic confidence.
Specific developments commenced with the ANC’s anniversary statement on 8 January. This is a tradition that started in 1979, and since 1994 it has been the basis of the ANC government’s annual plan of action. The statement is the National Executive Committee’s (NEC) statement and not President Cyril Ramaphosa’s personal statement. It would therefore be a misinterpretation to read it as indicative of Ramaphosa’s own agenda.
The four focus points were: the Covid-19 pandemic and the government’s response to it; the ANC’s internal organisational renewal; the Economic Reconstruction and Recovery Plan (ERRP); and South Africa’s relationships with the rest of the world and with the African continent. There were no new announcements, but only confirmation of ANC policy matters such as the land issue, national health insurance and the minimum income grant. The ERRP has been confirmed as a national policy framework.
This statement will be discussed at the NEC and cabinet lekgotla in mid January, as the basis of the SONA speech and the national budget in February.
Another significant development in the first quarter will be the ANC’s National General Council conference. It has been postponed since mid-2020, because of the pandemic. It is a mid-term review conference and cannot adopt new policies. It also cannot remove or elect any leaders. It will serve as a useful barometer to gauge Ramaphosa’s progress and influence within the ANC.
The discussion documents to be used at the conference are already publicly available and criticism about the lack of progress with regard to implementation of the 2017 National Conference resolutions is likely.
It should be kept in mind that the next ANC National Conference is scheduled for December 2022. Campaigning for it is expected to start already later this year, but it will be tempered by the campaigning for the local government election in the second half of 2021.
This will be a critical period for ANC Secretary General, Ace Magashule and his followers, because his campaigning for re-election in 2022 will coincide with his court appearances during 2021.
The local government elections will be significant in many respects. It will indicate the future of the main metros and the momentum trajectories of the main parties. The DA and EFF, in particular, will have to address challenging trends in recent by-elections, while it will also be a test for smaller parties like GOOD (in the Western and Northern Cape) and Herman Mashaba’s ActionSA party in Gauteng. In the past, local elections have followed the trends set by national elections (in this case, in 2019) and were not new trend-setters.
The land issue will remain a key election issue. For the local government election, the EFF will ensure that it is prioritised as such. The constitutional amendment process in Parliament of Section 25 continues at a very slow pace. The new Expropriation Bill is also an important focus but it is unpredictable how its parliamentary process will be managed this year. The underlying policy is clear but its legislative implementation by government is likely to be approached much more cautiously.
During 2020 government changed its allocation of land to emerging farmers by using long-term renting as well as title deed transfers. More than one approach is followed, which makes monitoring of this sector much more complex.
More emphasis on commercial agriculture and food security, together with more importance attached to agribusinesses, represent a transition in government practices (but not policy) which has significant implications for the banking sector.
During the last decade, the commercial banking sector has become much more prominent in the agricultural sphere, at a time when the Land Bank has experienced a range of funding and operational problems. Expropriation and land reform in practice have become increasingly prominent and contentious in urban areas, because of the need for land for accommodation.
On the international level, 2021 is likely to be a volatile and in many ways a relatively less predictable policy year. The USA under President Joe Biden, the effect of Brexit on trade, and intense competition for vaccine resources (“vaccination nationalism”) are likely to have material impacts on international policy and market dynamics.
The US trade relations with China would not necessarily moderate under Biden. More multilateralism on the part of the Biden administration and better relations with the EU can be predicted. Domestic American politics is likely to remain volatile, though the latest Senate election results in the state of Georgia are a major booster for the Democrats and for the Biden administration’s relationship with and influence within the Senate.
2. Growth and Covid-19 – by Tertia Jacobs
The South African economy in 2021 will be shaped on the one hand by the Covid-19 pandemic and the timeline and efficacy of a vaccine rollout; and on the other by the ability of the government to enact structural reforms. These are critical if an economic growth recovery is to be sustained from 2022 onwards.
The second wave and vaccine rollout
The first half of the New Year started with a second wave and a new variant of Covid-19. Daily transmission rates accelerated to more than 20 000, exceeding July’s peak by almost 40%. With the new Covid-19 variant notably more infectious and the public health care system under pressure as hospitalisation rates rise, restrictions could be extended or even tightened after an adjusted Stage 3 level was implemented on 29 December 2020. The focus will be on government’s procurement of vaccine supply and rollout logistics, with an ambitious target of inoculating 67% of the population by end of the year. The key risk is an inefficient start and implementation of vaccinations.
A difficult first half with prospects of a more promising second half
The economy rebounded at a surprisingly strong pace in Q3 20 with the easing of restrictions. A strong rebound in global trade after a worldwide lockdown in Q2 20 bolstered auto and mining exports, and households spent more on goods.
The estimated contraction in real economic output has consequently been revised from -8.5% to -7.4%. But the anticipation of a firmer start to the New Year has been replaced with a renewed sense of uncertainty and caution. The evolution of Covid-19 comes at a time when economic support measures such as special grants, TERS benefits paid out by the UIF, tax deferrals and payment holidays on loans, are ending. However, government’s employment scheme that targets the youth and which has budgeted spending of R12.6bn for this quarter, has commenced.
We see the outlook for the second half of 2021 as being more promising. The global economic outlook is likely to be boosted by the rollout of vaccinations, which could see a normalisation in economic activity (which could raise demand for commodities and revive the tourism sector).
Interest rates in South Africa are expected to remain at current low levels, with contained inflation, which could provide support to interest rate-sensitive sectors. A vaccine rollout should drive a revival in depressed service industries such as hospitality.
Added to this are low inventory levels, which could provide a significant cyclical uplift if manufacturing production is ramped up. Base effects, together with a normalisation in economic activity, contingent on a credible vaccine strategy, could lead to the economy growing by 3.5% in 2021.
The long-standing challenge of policy implementations
2021 is also the year where the implementation of the structural reform agenda as set out in the growth plan (the Economic Reconstruction and Recovery Plan (ERRP) is becoming critical. Without this, South Africa’s potential GDP growth could remain mired at around 1.0%. Economic growth averaged only 1.0% from 2014 to 2019.
While the ERRP aims to provide greater clarity on policy matters, needed to raise business confidence, the challenge remains implementation. The effect of the Covid-19 lockdown and restrictions on corporate earnings growth, and a high level of uncertainty about the economic recovery and demand, could lead to fixed investment contracting for a second consecutive year, by 2% from an estimated -11% in 2020.
Many companies have delayed or cut back on fixed investment plans. The ERRP specifically targets the renewable energy and telecommunications (as high demand spectrum could be auctioned by March 2021) industries.
3. Fiscal policy and debt sustainability – by Tertia Jacobs
Navigating away from a debt trap
The commitment of government to holding the fiscal line amid various political challenges, will determine if a feared slide towards a debt trap can be staved off. Persistently low growth, rising budget deficits and growing debt servicing costs, demands a deliberate effort to break the negative cycle.
Without this, the debt to GDP ratio could rise to 100% over the next seven years compared to stabilising at 93% of GDP by F24 if the interventions announced in the October 2020 are successfully implemented. The ability to rein in spending with the focus on expense control and an increase in spending effectiveness, is critical.
The success of moving towards zero-based budgeting, government wage constraints and reducing public sector head counts could lower non interest spending by R300bn over the MTEF period relative to the February 2020 budget.
The November sovereign credit downgrade by Moody’s to BB- with a negative outlook was influenced by the view of government not being able reduce spending because of political and social resistance and other implementation challenges.
The decision to lower spending is supported by the fact that the multiplier effect from government spending on the economy has turned negative, alongside debt levels continuing to rise.
Key issues to monitor includes the government wage freeze (currently under challenge in the Appeal Court), funding of COVID-19 vaccines (estimated to cost R20.6bn), potential for increased/extended special social grants as poverty and unemployment have increased, and the continued financial challenges from smaller SOEs such as the Land Bank, Denel and the SABC.
It is yet to be seen what the new, smaller SAA will look like. The recovery of the institutional strength of SARS to raise more taxes, remains critical. Added to this is the increasing conditionality and external oversight due to recent loans from international lenders such as the IMF, World Bank, New Development Bank and African Development Bank.
4. Eskom Power Assessment – by Dieter Matzner
Hard decisions have to be made
The “neglected maintenance” of Eskom’s fleet of power stations was again evidenced during the December 2020 holiday period. Eskom was not able to supply a peak demand of 23 GW due to unplanned outages of 14-16 GW. Hard decisions/compromises to take more plant capacity out of service appear unavoidable to allow long-term maintenance and mid-life upgrades to be done on an aging coal/nuclear power system which is on the brink of collapse. To give context to this view, typical peak demand in summer is estimated at between 30 and 31 GW and during winter 31 to 34 GW.
Considering the fact that Eskom has no choice any more in trying to extend the life of its very old coal-fired power stations built in 1950s and 60s, we estimate 5 to 6 GW will need to be de-commissioned over the next two to three years because they are just so unreliable and not worth fixing.
In addition, the new Medupi and Kusile coal fired plants are unable to currently deliver the intended design capacity of 9600 MW due to serious design flaws. We assume they are likely to be only able to supply about 6 000 MW.
This dire picture leaves Eskom with an installed capacity of dispatchable power plants (excluding all wind and solar PV plants of around 4 GW but including all diesel-fired peaking stations and hydro pumped storage systems) with an approximate capacity of about 42 to 45 GW in the most optimistic case of “dependable” power supply options. This assumes that the plants are operational and available by the time the last Kusile units are commissioned.
Against this backdrop, with unplanned outages currently at 14 to 16 GW, peak demand will not be met, even if no planned maintenance is accounted for, which is also unrealistic. Eskom typically targets about 9 to 11 GW during summer months and about 5 GW during winter months of planned maintenance.
From the above picture it seems clear that electricity demand in South Africa cannot be met anymore, unless there is a material reduction in unplanned outages and the serious design flaws of the Medupi and Kusile power plants are corrected over the next two to three years. At any one time, it is likely that there will be a 5 to 10 GW of power supply shortage vs peak demand until a reserve margin in power supply capacity of about 15% is restored.
The only viable way forward to rectify the current situation is to allow power station units to be taken out of service for extended periods of time (typically six to 12 months), in order to allow “deep” maintenance and mid-life upgrades to be done. Besides the normally reported boiler and conveyor belt issues, the Koeberg power plant also needs to replace its steam generators and go through a 20-year life extension upgrade programme over the next two to three years. It is for this very reason that Eskom has requested government for an additional “short to medium” term supply option of about 5000 MW.
The challenge to provide 5000 MW of dependable power supply on a short to medium-term basis within months or even a year is highly unlikely to be met under current regulatory constraints. The question then remains: what are the available options to provide the country with the required power supply requirements?
The following possible power supply/reduction options should be pursued:
- NERSA to immediately approve/issue generation licences of at least 5 to 10 GW for small scale (<10MW projects) embedded generation solutions so that the private sector/homes/municipalities/etc. can meet their immediate power demands. Such a capacity allocation is likely to initiate 1,000 to 5,000 projects which could probably be operational within six to 18 months, since a lot of upfront planning has already been done.
- As part of the NERSA generation licence approval programme for small embedded power projects, as mentioned above, immediate approval should be provided by NERSA, Eskom and municipalities to allow the “wheeling” of power from these projects onto their distribution systems and across distribution boundaries. Municipalities and Eskom would still earn revenues to maintain distribution infrastructure.
- There might be currently 500 MW (this figure needs to be confirmed) of existing moth-balled power plants in South Africa, which were previously contracted by Eskom under the short to medium power supply programme to supply power to Eskom. These agreements were terminated about five years ago. These would be power plants which could be re-commissioned within three to six months.
- “Mobile” existing power plants can be deployed on a relatively short term basis (within 90 to 180 days) with an initial capacity of 1,000 MW to 2,000 MW. These would include floating power barges/ships in the RSA’s existing six harbours. Preliminary studies were already conducted in 2016 and have shown that a total capacity of about 4,000 MW could be deployed and connected to existing Eskom grid connections in the vicinity of the harbours.
- There is very little additional power supply capacity which can be imported from neighbouring countries at this point in time, other than the existing contracts Eskom already has in place with Mozambique’s Cahora Bassa hydro power plant i.e. about 500 MW.
- Some of the currently connected REIPPP power projects might have additional capacity due to having been over-spec’ed in the first few bidding rounds. If complemented with energy storage solutions, energy clipping would not be necessary and peak periods could be better served. It could be feasible to allow these projects to increase current installed capacity and fully utilise their current grid connection capacities to supply additional power/energy into the grid. These activities would however also require at least 12 to 18 months’ implementation time to become operational but could probably yield an additional 400 to 600 MW.
- In order to try and flatten the daily power demand cycle between early morning/evening and off-peak times, a change in the Eskom tariff structure would encourage certain large-scale energy users to rather use their energy during the day when solar and wind power is available.
- Eskom cannot meet South Africa’s peak demands going forward – the unplanned outages support this view.
- The Eskom generation system risks collapse unless urgent long-term maintenance and mid-life upgrades are made to existing coal-fired and nuclear power plants.
- There are no quick-fix or simple-to-implement solutions available anymore. Hard decisions and trade-offs need to be taken urgently to stabilise the current situation, otherwise the entire power system will further deteriorate and faces real risk of collapse.
- The above power supply/reduction options could mitigate the current crisis, but need urgent government decision making and implementation, which cannot be solved by Eskom alone. DOE, DPE, EIUG, Treasury and NERSA will have to all pull in the same direction.
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