- SA has one of the lowest savings rates in the world.
- The level of national savings is vital for the successful and sustained development of the country, especially fixed investment activity and job creation.
- Meaningfully increasing SA’s fixed investment activity would require it to have a much higher level of savings than currently exists.
- This means that, over the next few years, the growth in household income would have to persistently exceed the growth in household consumption, while at the same time government would have to bring its fiscal deficit firmly under control.
The past six months have been extremely challenging for South Africans and the South African economy. Covid-19, and the subsequent extended lockdown of society, has disrupted every major component of the country resulting in a significant contraction of economic activity, a surge in government debt and a sharp rise in unemployment.
This period of social and economic hardship has also highlighted the importance of households, businesses and government all having access to financial resources to help cope with a wide range of unexpected and urgent challenges. These have included the loss of household earnings, the downsizing of business or outright business failure, as well as the need to provide critical social support to the most vulnerable people in society.
Unfortunately, SA’s current savings rate is also extremely low by global standards. With gross savings of less than 15% of GDP in 2019, the country has one of the lowest savings rates in the world and is far below the world average of 25.1%.
Why does the level of savings matter?
From a macro-economic perspective, the level of national savings is vital for the successful and sustained development of the country, especially fixed investment activity and job creation. This is simply because, to achieve and sustain a relatively high level of economic growth, the country needs to undertake a healthy level of fixed investment activity. However, because the savings-investment identity dictates that the level of savings equals the level of investment, meaningfully increasing SA’s fixed investment activity would require it to have a much higher level of savings than currently exists.
This means that, over the next few years, the growth in household income would have to persistently exceed the growth in household consumption, while at the same time government would have to bring its fiscal deficit firmly under control, providing room for the private sector to increase investment. At the same time, the level of foreign investment would have to expand on a sustainable basis, even though SA’s international credit rating has been pushed to below investment grade by all three of the country’s credit rating agencies. Clearly not an easy task!
Savings matter hugely for households and businesses
From an individual company perspective, the level of savings can dictate a business’s ability to survive an economic crisis, including many weeks of economic lockdown, ensuring that staff salaries can be paid together with a range of fixed costs such as rent or debt repayment. Over the longer term, savings can provide a vital source of capital for the development and growth of the business, including the upgrading of technology, or expansion of productive capacity.
Equally, at a household level, having easy access to a pool of savings during an economic crisis can, literally, make the difference between life and death, while over the medium term, it can help the household to achieve a number of important goals, such as funding a university education, purchasing a vehicle or an overseas trip. Longer-term savings in the form of a pension fund or unit trust are critical as a source of income during retirement, especially since the South African government is not able to provide most individuals with any retirement benefits.
Contractual vs. discretionary savings
A fascinating component of the South African savings industry is the massive difference between contractual and discretionary savings. Contractual savings, which refers mostly to pension funds, retirement annuities and unit trusts, are relatively large in relation to the size of the economy, especially when compared with many other emerging markets, and are extremely sophisticated by global standards.
The pooling of South African savings into pension funds or unit trusts has provided a meaningful and vital source of funding for the country, especially government. Given SA’s low level of savings, the ability to pool the limited savings that the country has and channel it efficiently has allowed government to borrow most of the money it needs domestically, which is in sharp contrast with many emerging markets that have been forced to substantially increase its offshore borrowing. The pooling of domestic savings has also allowed for the development of a sophisticated corporate bond market, instead of companies being forced to rely exclusively on the banking system for credit. Again, this is in sharp contrast with many emerging markets.
In contrast, the level of discretionary savings, which reflects mainly cash deposits in the bank netted off against overdrafts and personal loans, is extremely negative, reflecting the fact that many individuals live from month-to-month and are not able to build up any safety net for emergency purposes, much less invest in unit trusts or retirement annuities.
All of this means that the financial position of many households is extremely precarious and vulnerable to an unexpected shock, such as the Covid-19 extended lockdown, despite the household having invested some money on a contractual basis. This is a vital lesson to be learned from the Covid-19 crisis.
The neglect of precautionary savings
While there is a lot of information and advice on saving for retirement, including the existence of a large and well-informed group of financial advisers, there is little information on or encouragement of precautionary savings. Precautionary savings, which are sometimes referred to as “emergency savings”, are a pool of savings established by a household or business as a precaution against the sudden and unexpected loss of income or earnings – as unfortunately occurred during the recent severe lockdown restrictions that accompanied the spread of Covid-19.
The amount of precautionary savings required would, obviously, vary from business to business as well as from household to household. However, knowing that you can access a pool of funds during a time of crisis can ease the level of anxiety that normally accompanies the crisis.
In the case of households, the aim would, typically, be to establish a pool of funds that equates to three months of household expenses. This would provide the household with some comfort that should key members of the family suddenly lose their jobs or simply not be able to earn any income for a period of time, they could continue to meet their daily expenses, including the payment of rent or a mortgage, without being concerned about having assets repossessed (for example a motor vehicle), or being evicted from their home. It would also allow the household to avoid incurring a large amount of debt at exactly the wrong time or having to cancel a long-term retirement investment to meet monthly expenses.
The same principle would apply to a business, allowing the company to retain its staff and vital assets necessary for the future prosperity of the business. Knowing that the business has access to a pool of savings at very short notice would provide staff and management with a high level of confidence and loyalty during times of crisis.
- READ | Lack of savings could be keeping SA trapped in its low-growth cycle
It is also worth considering the characteristics of an ideal precautionary investment. Firstly, setting a goal of accumulating one month of household expenses over a 12-month period for three consecutive years is not an unreasonable or completely unobtainable goal for many households. This is especially the case if they are willing to revisit their monthly expenses and consider foregoing some purchases for a relatively short period, in order to derive the comfort of knowing that the household can cope with an immediate and unexpected financial crisis.
Secondly, the precautionary funds should, ideally, be invested in a low-risk investment, since the household will have to access these funds during a period when financial markets are likely to be weak. The money also needs to be available within days rather than weeks, so utilising a long-term deposit or investment would not be ideal, especially if accessing the funds will result in some form of penalty for early withdrawal.
Lastly, the funds need to earn an above-inflation return, otherwise the household or business will be forced to constantly top-up the investment. This will tend to exclude simply placing the funds in a bank account. Added to this, under these circumstances a bank account has the disadvantage of the funds being too easily available – when funds are very easily available, they can more readily be accessed for a spontaneous or impulse purchase.
In contrast, using a low-risk unit trust, such as an income fund, would tend to meet all the household’s objectives when it comes to precautionary savings, including generating a return in excess of inflation while incurring relatively little risk. The funds would be available within a very short period but accessing them would require a purposeful cancellation of the investment, thereby helping the household to avoid using the funds for an impulse purchase.
Kevin Lings is Chief Economist at STANLIB and Ndivhuho Netshitenzhe is an economist at STANLIB. Views expressed are their own.
