This article was first published in the third-quarter 2015 edition of Personal Finance magazine.
If you were to add up all the transactions of South African importing and exporting businesses each month, you would find that more is bought from businesses overseas than is sold to them. This is commonly known as a trade deficit.
Trade deficits are generally regarded as a bad thing. There is a concern that sending money out of the country instead of keeping it here makes us poorer.
Although deficits can be problematic for countries, this is not always true. Not all trade deficits are created equal, but most regard them as, at the very least, an evil to be tolerated and, at worst, a catalyst for national catastrophe.
In truth, not all trade deficits are bad, and, in fact, some are tremendously positive. To understand this, we need to think about what trade deficits are in the first place. When a country as a whole runs a trade deficit, it means that, overall, its businesses are buying more goods from foreigners than they’re selling to foreigners. How are they able to do this? Well, think about how an individual spending more than he or she earns would do it. There may be assets to sell for extra money, gifts of money from generous relatives, savings to use up, or borrowing available for a limited period. Not all deficits are created equal, because not all deficit funding and spending is created equal.
Assessing the same individual’s “trade deficit” might prompt questions such as: was the spending wise, was the borrowing done on prudent terms, is the individual financially stable? The same questions apply to the nature of a country’s trade deficit. What type of funding and by whom? What type of importing and for how long? How financially stable is the importing nation?
Problematic deficits arise where the importing nation is already financially rickety, the funding is borrowed indefinitely from complacent lenders, interest is whittling down meagre savings or assets, and imports don’t add to the productive capacity of the country. A healthy deficit would be one where, for a relatively short period of time, a financially stable nation imports capital goods, funded either by manageable debt or a portion of a large savings or asset base.
South Africa is a financially fragile nation, which has run a large trade deficit non-stop since 2011, funded by selling assets to, and borrowing money from, foreigners. These are finite sources of funding. We also know from the macroeconomic data that a significant and growing portion of imports are consumer goods (as opposed to productive capital goods), because there has been a decline in mining and manufacturing relative to retail activity.
Put simply, many South Africans have been borrowing to consume. We can see this at state level, where the government has borrowed hundreds of billions of rands over the past six years to fund its heavily consumption-oriented expenditure. We have also seen it at the household level, with the rampant growth of unsecured lending fuelling the importation of appliances, TVs and lifestyle products.
Of course, South Africa does also import capital equipment aimed at improving the country’s productive infrastructure, and “consumer” goods, such as smartphones, which allow us to access technology that make us all more productive (contrary to the popular perception). But is this enough to allow South Africa to rest easy about the trade deficit? Time will tell, but South Africa’s sub-par economic growth suggests the deficit has not been put to good use.
What can policymakers do about the deficit? Raising import tariffs or weakening the rand would be exactly the wrong kind of solution, but that’s a subject for another day. The real nub of the problem lies in debt addiction, where consumption and production are out of balance. Fixing that requires a whole raft of reforms, from slashing red tape, reducing taxes and lowering barriers to investment, to targeting lower rates of inflation by raising interest rates and balancing the budget.
When the funding dries up, a country running a bad trade deficit is not only forced to live within its means, but also has to repay the debts it ran up. This can come as a rude shock and cause major hardships and recession, and can cause governments to make poor policy choices to stem the pain, such as printing money.
By contrast, countries that run sensibly funded trade deficits to buy the capital and technology that will make them more productive and globally competitive are the countries that will win in the 21st century.
* Russell Lamberti is chief strategist at investment advisory firm ETM Analytics. He is co-author of When Money Destroys Nations, a book about Zimbabwe’s hyperinflation crisis with lessons for a debt-saturated world.