MESSAGE FROM CAPE TOWN

SOUTH AFRICA IS AN ENEMY OF ITSELF

VAN VERRE: MESSAGE FROM CAPE TOWN - GARY DE VOGEL

The alumnus who runs an 'empire' of sports shoes and leisurewear in South Africa provides an interim update on inflation and interest rates from his base in Cape Town. Compared to Europe and the US, the recent inflation figures are not so bad. But interest rates are frighteningly high, especially compared to the paradise of mortgage rates that Europeans have known. However, the biggest danger lies in the devaluation of the South African Rand and the lack of economic governance by the government. It is incredible that half the population is officially out of work.

BY GARY DE VOGEL (20107252)

Te he Reserve Bank of South Africa recently raised its forecast of overall inflation for the year to 5.9% due to higher fuel and food prices. The Governor of the Reserve Bank warned that risks to the inflation outlook have been revised upwards. The expected inflation is therefore lower than in the Eurozone with an average of 7.9% since March.

The difference is caused by the fact that electricity in South Africa is still widely generated with coal.

Despite an expected inflation rate of 5.9%, South Africans are feeling it hard in their pockets. In a year-on-year comparison, fuel is at the top with a 32.5% price increase, electricity 14.5%, and meat and bread 9.5% and 8.5% respectively.

Since the 2008 financial crisis, South Africa has never fully recovered. An annual cut in expected economic growth has become the norm. Before the corona pandemic, the 'prime' interest rate was at 10%. Prime is an indicator of the rate a bank uses for a mortgage loan. If you have a good credit score then you might get a percent discount. If you have a bad credit score then the mortgage rate can go up by as much as four percent.

Within three months of the start of the corona pandemic, the central bank had cut interest rates by three percent, at which commercial banks can borrow, which has a direct impact on prime interest rates. From a reduced interest rate to 7%, the central bank's rate has already been raised to 8.25% at the time of writing. The rate is expected to be adjusted quarterly to return to pre-pandemic levels of 10% by the end of 2023. Mortgages here are variable, unlike in many western countries. So when the central bank adjusts the rate, the next month the mortgage payment is immediately higher. Although this immediately decreases the purchasing power, it has the advantage that the housing market is immediately adjusted. So, in my opinion, a

property crash is not in the pipeline for South Africa, because banks discount a potential interest rate increase in the maximum mortgage.

Since South Africans spend a lot and use credit cards and normally buy their cars on credit, this is a hard adjustment for the country's purchasing power. Companies are already adjusting their sales forecasts for the coming year. To expect a negative sales development for such companies now is quite pithy since all products in terms of sales value have shot up, so theoretically you need to sell fewer numbers for the same turnover. In two and a half years the devaluation of the South African Rand against the US dollar was no less than 17%. Since most imports are paid in dollars, this also has a direct impact on the 'landed cost prices.' Not only the import product itself becomes more expensive, but import duties go up as well.

With the price increase of crude oil, South Africa as an economy had a surplus on its import/export for the first time. This temporarily strengthened the currency. But the reforms are slow and actually come too late. South Africa is its own worst enemy in this story. The energy crisis has been going on here for years and only recently has

the government given permission to commercial companies to strengthen the

national energy grid. However, the megawatt generation that has been approved is a fraction of what is needed nationally. Shortages run up to 22% of total electricity demand versus supply in peak hours. This results in regular blocks of 2.5 hours where no electricity is available three times a day and on some days 4.5 hours three times a day. With a total of 1104 hours so far in 2022, that is 46 days of non-stop electricity outages and we are just halfway through the year. In 2021 it cost South Africa in gross domestic product about $27 billion, and in terms of hours of electricity interruption, South Africa is already at the same level as 2021. So the projected impact for 2022 is 8% of GDP. If South Africa is able to come out of this energy crisis it will already be a big step forward to countering a global recession.

SOUTH AFRICA IS AN ENEMY OF ITSELF

With global interest rates picking up, safe haven currencies have become more attractive than a few years ago. Because economic reforms are too slow in South Africa, the country has experienced several credit rating downgrades by Moody's, S&P and Fitch. As a result, more South African investments in government bonds and equities are flowing out of the country. Local pension funds are also diversifying their portfolios more towards equities in Western countries, as they see two benefits: increase in share value and appreciation due to the weakening of the Rand. The interest rate hikes in South Africa are not only intended to combat inflation, they are also a means of keeping enough percentages above America and Europe to keep foreign investment attractive. Should the war between Russia and Ukraine end, risk appetite will increase in South Africa's favour.

The South African government faces a major challenge. Previous actions to create more employment have hardly had any effect.

Employment is badly needed as officially no less than 46.9% of the population

has no work, of which 34.9% is actively looking for a job. This is a low point. If the government is successful in tackling this problem, for example by creating more jobs in the agricultural sector, it can bring two benefits. On the one hand, employment resulting in growth of the economy and reduction of government subsidies, on the other hand reduction of dependence on imported sunflower oil and grain from Russia and Ukraine, which in itself will result in price reductions. A first step for the government would be to introduce a tax cut on healthy food and on fuel, where the amount of tax collected remains the same but where a relief of financial pain among consumers will occur. For business, there are many options to counteract price increases. After all, managers can turn several knobs at once in their arsenal of firearms. The question is, "How far do we go with this? Customers often expect their suppliers to absorb price increases. And soon they play suppliers off against each other. It is only a postponement of an inevitable phenomenon. With international freight costs still high, bulk bookings are almost a must in my business, but how far do you buy ahead without taking major risks? On the one hand, you expect prices to only go up, so in the worst case scenario you gain more margin on the same items. But a slow-down in the consumer demand can result in a doubling of imported inventory. So warehouse costs and financing costs can eat into your margins all at once. Buying raw materials upfront and keeping production slots open can be a better solution to better managing inventory. With good resales, you can then open a product line with a specific style. The raw materials can also be used for other styles, reducing the risk of old stock.

Another solution could be local production. Our sister company Duca Del Cosma, the fantastic golf shoe brand (maybe you know it from The Dutch Open or Jumbo golf?), already makes its products in Europe, which saves transport and import duties. It's also easy to reorder if a style goes really well. For HI-TEC Africa it is a bit more difficult because certain craft skills are missing or because sports shoes are not of sufficient quality. Of course, the price of production in South Africa plays a decisive role; for the time being it is difficult to compete with the efficiency production in China or other countries in the Far East. Some clothing and accessories are already being made in South Africa and Mauritius. In the area of shoes, it is time for risk spreading. What happens if China thinks what Russia can do, I can do too? And unexpectedly arrives at 'tea' in Taiwan or Hong Kong. After all, NATO has already shown to be unwilling to deploy military weapons and troops in a country that is not a member of NATO. ♦