The current international financial crisis actually started in 2006/07. Since then, the situation has deteriorated quickly. The main catalyst for the current crisis was when home loan agencies like the Federal National Mortgage Association, nicknamed Fannie Mae, and the Home Mortgage Corporation, nicknamed Freddie Mac, which provide the bulk of that country’s home loans, lent money to people who didn’t qualify for normal banking loans. These loans were at high interest rates and thus quite profitable for the banks.
Unfortunately the process didn’t stop with the provision of loans to people with little repayment ability. Banks in the US and other countries combined these loans into tradable financial instruments – securitised loans. This worked well during the property boom, but when property prices and income decreased, financial institutions started asking questions about the safety of these loans in terms of the balance sheets. The demise or takeover of a few ailing banks completed the process. The total financial system lost confidence in banks’ ability to repay loans. This resulted in a freeze-up of the financial system. The world’s financial systems run on credit underpinned by confidence.
Once the confidence in the financial system breaks down, credit evaporates and the whole system freezes up. To unfreeze it, one has to restore confidence in the system. This is the goal of the US government’s US$700 billion (R7 trillion) aid package, recently approved by the Congress. It will remove the high-risk loans from banks’ balance sheets and thus restore confidence in banks. It’s hoped this will get the wheels of the financial system moving again. I nternational financial crises are frequent. In the past 30 years, the International Monetary Fund (IMF) identified over 50 banking-related financial crises. The best-known was the Great Depression that started in 1929 and continued into the 1940s. The current US crisis is one of the most intense and widespread, but the current decrease in share prices (30% down from October 2007) is much less than the 1929 drop (90%+) and the 1973 to 1974 and 2000 to 2002 drops (about 50%).
A recent Washington Post column points out economic slumps rarely become national tragedies. Since the late 1940s the US suffered 10 recessions that lasted on average 10 months with unemployment at 7,6%. The worst lasted 16 months and unemployment peaked at 10,8%. unemployment was at 6% in September and probably won’t hit previous levels too soon. recent IMF report shows that economic slowdowns preceded by banking-related stress tend to involve two to three times greater decreases in output and last two to four times as long as those not preceded by financial stress. The current downswing in the US economy will continue at least for the next year. Housing prices will remain low and it will take a long time for the consumer to start spending again.
Outlook for South Africa
The global financial turmoil will not leave us undamaged. However, our economy was not as integrated with the US economy as most of the developed economies and thus our economy is less affected. We’ve already seen a much weaker rand as the demand for dollars in the US increased. F urther rand weakness is possible. weaker rand will enhance our ability to compete in export markets. The decrease in global demand as economic activity slows down has resulted in a decrease in commodity prices and even soft commodity prices.
However, the positive and growing demand for food in emerging economies has tempered this. The Food and Agriculture Organisation’s food price index increased from an annual average of 127 points for 2006 to 158 for 2007 and the latest was 201 (August 2008). This is much lower than the June 2008 peak of 219 but still much higher than the 2006 and 2007 average levels. The SA economy is at risk mainly because of its high current account deficit, or in layman’s terms, its overdraft. To date, SA has managed to balance its current account by capital inflows. The critical period for portfolio investment was when the large US financial institutions Bear Stearns and Lehman folded (March to September 2008).
We survived that period with our current account fully serviced. or farmers, the global and local economic slowdown means a decrease in consumption and stagnant-to-lower product prices. The decrease in commodity prices has already resulted in lower oil prices. In time, it will also lead to lower fertiliser and chemical prices. t’s still doubtful whether our economy will go into a recession. But farmers face a difficult few months until an upswing in the economy, which may not occur before late 2009. On the positive side, we’ve probably seen the last interest rate hike and the next move will be downwards – probably in February or May 2009. Dr Koos Coetzee is an agricultural economist at the MPO. All opinions expressed are his own and do not reflect MPO policy. |fw