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SIMON BROWN: I’m chatting now with Johann Els. He is, of course, the chief economist at Old Mutual. Johann, I always appreciate the early morning.
Your mid-year report gives a sort of update on the state of our global and local economy. Let’s start sort offshore with the US. US inflation – that’s perhaps one of the concerns around tariffs. But you make the point that actually weaker growth might limit some of that second-round impact. Does that mean that we’re perhaps going to start to see some rate cuts coming through from Jerome Powell and his team at the Federal Reserve?
JOHANN ELS: I think so – not imminently, though. But yes, the US economy is down, shifting a little bit weaker with lots of uncertainty around policy-making on top of previous slowing, a further slowing in the labour market, further slowing in consumer spending.
So I expect the US economy to slow towards year end.
And I think there might even be recessionary-like conditions later on. The Fed has always proved itself very reactive when it sees that kind of environment. Even if inflation is still under pressure from tariff hikes, the slowing in the economy will certainly limit a second-round inflationary impact. The Fed will then, in my opinion, at least start thinking about cutting rates later this year into next year.
So I think broadly the consensus is that rates will be cut significantly further. When I say ‘significantly’, probably not that much, but around 100 to 125 basis points by this time next year. So I think that is certainly on the cards.
Read: Gold steady as traders weigh US economy, rate cut directions
SIMON BROWN: Okay. That is moderately chunky from their regard. What about dollar weakness? When we think dollar weakness, we always compare it to the Zar, which is probably not fair to the dollar, but certainly if we look at it against Europe, and you do.
In your PowerPoint you’ve got a chart that you were using earlier in the year – what’s happened since, to April. We’ve seen massive dollar weakness against the euro. This is part of President Trump’s policies. Is it likely to continue, to your mind?
JOHANN ELS: Yes, I think so. Investors are deeply concerned about the uncertainty around policy making – the on-again, off-again tariffs.
And then the ‘One Big Beautiful Bill Act’ – that mouthful – which will certainly drive-up debt in the US. Investors are very concerned about the safe-haven status of investments in the US. That has been behind that weaker dollar, and I think there’s more to come.
I see lots of forecasts out there that suggest maybe the dollar might test some of the previous weaker levels against the euro. That certainly spells good news for the rand’s move against the dollar, of course – and other emerging market currencies as well, because [of] these emerging markets’ relatively stronger growth.
When investors are sort of iffy about investments in the US they would rather go towards emerging markets. So you’ve a type of a risk-on trade there as well.
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SIMON BROWN: Yes, 100%. On globalisation you make a really great point as well. You say it’s not retreating; it’s recalibrating. Globalisation is not going to go away. It’s just going to look different in the years ahead.
JOHANN ELS: Certainly. And where people have been concerned about these protectionism policies from the US I think free trade outside the US will continue. And then gradually I think US consumers will go on demanding cheaper import prices. They want those cheap fridges and TVs from offshore.
So I think this is a hiccup in terms of free trade and certainly only a slight hiccup in terms of globalisation, because with technological advances, tourism, et cetera, there are lots of issues around globalisation that will just strengthen globalisation going forward.
SIMON BROWN: If we bring it back home, you talk about South Africa – an improving growth trend. We’ve done 1% for the last decade or more. You say that can shift to sort of 2.5% to 3%. You make the point that the growth we really need is around five to 6% and that is highly unlikely. But there certainly are indications that we can at least get to that sort of 2.5% to 3% which we so desperately need as an economy.
JOHANN ELS: We certainly need that. I think we’re on our way there, given that the private sector is taking on a far bigger role in the economy. So we’re making some headway; perhaps too slowly, but at least we are making some headway in terms of those structural constraints we’ve had in the economy.
Electricity is the big example, where lots of private-sector investment has happened. I think gone are the days of Stage 6 load shedding on a continuous basis. We might have some hiccups here and there, but that has been improving.
The private sector’s role in Transnet’s logistical operations, in water supply, in the electricity grid – all the jobs that various government departments, but especially what Operation Vulindlela is doing in easing this process – I think we’re heading in that direction.
But as you say, I strongly think that we’re never going to get towards 5% or 6% on a sustained basis. We might for a year or two but not on a sustained basis because the big, big structural issues there we’re not doing anything about. Those are the skills deficit and the overly regulated labour market. Those are big constraints that nothing is being done about compared to the other structural issues in terms of electricity and water supply, et cetera.
SIMON BROWN: The chart, page 18 – I almost fell out of my seat and I mean that sincerely. You reminded me that in the October 2020 Medium-Term Budget Policy Statement government debt as a percentage of GDP was forecast to 95%. We have held below 80%. The forecast is certainly trending down. The question, then: Are the rating agencies behind the curve on us because we’re still two or three levels into junk [status]? We don’t seem to be getting any possible benefit from the improvements.
I know we’ve had our outlooks moved up, but I should we perhaps expect some moves from our rating agencies in the in the near term?
JOHANN ELS: Yes, absolutely. Coming back to that 95% forecast back in 2020, that’s always the perspective that I believe is important in economics – the rating agencies’ views of where our debt-to-GDP ratio will sit in terms of their forecasts when they last assigned these current ratings.
They are behind the curve, in my opinion. And with slightly better growth – growth is a big issue for ratings agencies – we’re moving in that direction. Yes, I think we’ve seen the bottom of the rating cycle [and consider] that we should head upward. So I think we’ll see more positive-outlook statements from Moody’s and Fitch, for instance. S&P is already there.
Some of these things take some time, but I think within two to three years we can expect upgrades, and probably within four to five years we can get back into investment grade on the back of this improving growth trend, on the back of that debt-to-GDP ratio easing lower.
SIMON BROWN: This is a last question which everyone’s interested in. You mentioned consumer spending has been improving since the beginning of last year, the data all moving in the right direction. My question then is what about local inflation? Perhaps the bigger question is, are we going to see more cuts from the MPC [Monetary Policy Committee] through the rest of this year?
JOHANN ELS: I think there’s a window of opportunity here for another rate cut at the end of July. The next MPC meeting is on the 31st of July. So another rate cut. But I also now assume in all my forecasting that we’ll actually get an announcement on the lower 3% inflation target before the end of the year. So I think rates then [will] move sideways after the July cut – and sideways perhaps for an extended period of time.
Until then we see inflation settling at around the 3% mark again, because we have to remember that the normal cycle is for it to start drifting up very slowly, very moderately, towards the end of this year and into next year. And then it has to drift down again. So nominal rates sideways for some time before we start to see rate cuts again by 2027/28, in line with that lower inflation number.
A lower inflation target is absolutely great for us as consumers. Good for interest rates and with far more benefits than negatives.
SIMON BROWN: We’ll leave it there. Johann Els, Old Mutual’s chief economist, I always appreciate the awesome insights.
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