Drought Squeezes South African Economy; Land Policy Erodes Confidence

South Africa's woes deepen.

Business confidence in South Africa, the continent’s second-biggest economy, has been falling since January and reached its lowest point in August, according to Lagos, Nigeria-based investment bank United Capital. If the government wants to continue drawing foreign investors, it will need to act promptly to restore confidence following announcement of a plan for land expropriation and the country’s recent slide into recession.

The rand, South Africa’s currency, has fallen 17.4% this year, making it the worst-performing major currency, according to United Capital. Unemployment is also growing, coming in higher than 27% at the end of June.

“More trouble may be ahead if pressure on the exchange rate persists and the badly needed clarification on policy is not put in place,” says Wale Olusi, acting head of research at United Capital. “Refusal to articulate and implement critical reform may drive the economy further south.”

The South African economy contracted by 0.7% in the second quarter, after falling 2.6% in the first quarter, thereby pushing the economy into recession—its first since 2009. The government blamed the decline partly on a 29% fall in agriculture, but transport, trade and manufacturing also contracted.

The plan by the ruling African National Congress party to confiscate land from white owners and redistribute it to blacks (who it says were the original owners) has cast a dark cloud on the agricultural sector, which is still dominated by the white minority, Olusi notes. The plan—and blowback—have raised some questions, including: How will the government address racial inequalities that persist more than two decades after the end of apartheid?

The significant decline in agriculture was due to massive drought. While this made a slide into recession inevitable, it could have been offset by coherent policies, says Olusi. He argues that an increase in value-added tax that was introduced earlier this year, together with a net capital outflow across emerging markets, hurt consumer spending through added pressure on the exchange rate and general price levels.