IMF loan is game-changer for SA – Peter Leon

South Africa is set to sign up for a R71-billion loan from the IMF (International Monetary Fund). What does a loan of this magnitude mean for the country and the future of the economy? Here, BizNews founder Alec Hogg chats to Peter Leon, a partner at Herbert Smith Freehills, about the IMF loan and the terms and conditions South Africa will have to comply with. – Jarryd Neves

Peter Leon is a partner at Herbert Smith Freehills, a big law firm.

It is indeed. We have around 26 offices around the world. We started the office in Johannesburg in October 2015 (Coming up for five years). I joined in December 2015. We have several thousand lawyers scattered around the world. But the main hub of the firm is the UK and Australia, with a number of offices in Europe, this office in Johannesburg and a number of offices in Asia – in China, Hong Kong and Singapore. There’s an office in New York, too.

As the Africa co-chair, if they want to know anything about what’s happening on the continent – specifically South Africa – they phone you? 

That’s right. More or less.

The whole IMF loan, the R71-billion that South Africa is now signing up for. Many people are saying it’s the first of perhaps, many. What’s your interpretation of it?

I think it’s very significant. It’s a trite expression, but it’s really crossing the Rubicon, because if you look at it, the ANC government has been completely hostile to loans from the IMF ever since they came to power in 1994. As you know, there have been loans from the World Bank for Eskom – for Medupi and Kusile – about 10 years ago.

The World Bank has been more acceptable because it comes with less conditionality. I think the government’s view on this financing is that they could go and get rapid financing instruments because it has less conditionality than the standby arrangement, which comes with full conditionality.

Naturally, if you look at the fine print of the letter of intent signed by the governor and the Minister of Finance, to Kristalina Georgieva – the head of the IMF – there’s quite a lot of conditionality there We can talk about that a bit more detail. But clearly, the way I’m reading the tea leaves is the government is now committing itself the first time to embarking on structural economic reform around not just the labour market, but the product market and taking a different approach to state-owned enterprises. It’s a whole new ballgame, potentially.

Explain conditionality. 

Conditionality. There are two types of facility – and I’m speaking very generally – with the IMF. The one is a standby arrangement. That’s where you take your full loan quota. South Africa would actually benefit enormously from that in terms of what it could borrow, in terms of the special drawing rights it has with the IMF.

But this particular facility is what’s called rapid financing instrument, where there is much less conditionality because the loans given really for an emergency situation, which the country now faces as a result of what’s happened with the Covid-19 pandemic.

So with a standby arrangement, there’ll be a whole lot of conditions imposed on a borrower in terms of what it can do in relation to the economy and what has to do about restructuring the economy, which the IMF will insist on with a rapid financing instrument. What South Africa’s borrowed – the U$4,3-billion – It’s much less so. But what you need to look at is the letter of intent that the government has given the IMF. It’s that document that I reckon is going to be a game changer for the way in which this country goes forward in terms of its relationship with the Bretton Woods institutions.

So what’s in the fine print?

A undertaking by the government to embark on deep reforms to the product markets. The IMF has been going on about this. If you look at the article four report – which the IMF comes out with every January – after the annual mission here, the IMF has been going on (as are the World Bank) about reforming the product market, making it more competitive, opening up network industries – that means things like logistics, ports, harbours and electricity (i.e. energy). The government’s also said to the IMF that they are prepared to embark on more labour market reform.

What I think is very significant in the governor’s letter and the minister’s letter is that they give an undertaking that it will become easier for first time workers to find a job, which is obviously not the case at the moment, given the group that the unions have on the labour market in this country.

The fact that the government is now saying it’s prepared to embark on product market reform and labour market reform – to my mind – is an absolute first. Obviously, the Minister of Finance, Tito Mboweni has been going on about that since the Treasury document came out last August, but the government has never committed itself in a meaningful sense to any of these things.

I must say, I agree with you. I think this is the first of a series of loans from the IMF. It’s opening the door because clearly U$4,3-billion is not going to be enough.

The other thing the government has said to the IMF is it’s going to get the debt to GDP ratio down to around 88% in 2023 or 2024. I don’t think that will happen either. So I think this is really a line in the sand, crosses the Rubicon – whatever you want to call it. But it’s a new ballgame for the country.

The other thing the letter talks about is a different approach to state owned enterprises and reducing the wage to GDP ratio. There, it talks about rationalising transfers to state owned enterprises, streamlining subsidies and ensuring in relation to South African Airways, ensuring that the support to state-owned enterprise, I’m quoting from the letter will be strictly conditional on meeting key performance indicators to improve the operational and financial health. They say that they’ve already started that process with Eskom. Nothing is said in the letter about South African Airways. But I think Mboweni has made it pretty clear that any funding for South African Airways will not be coming from the fiscus. So where it comes from of course, is another question. The R10-billion they’ll need to restart the airline, which is rather hare-brained.

Also read: Mayday: SAA and government in debt guarantee deadlock

There’s a lot of cynicism in South Africa about the way government has operated. Now you’ve got these hundreds or thousands of lawyers around the world whose own clients are asking them “what is going on in South Africa? Is it going to actually happen? Is it sustainable?” They presumably call you up and say, “Peter, do you believe these guys this time?”

These letters of intent are pretty serious.

You don’t mess with the IMF. Countries – just look at Zimbabwe – which went through a structural adjustment programme in the 1980s and then basically tore it up. Look where Zimbabwe is with the begging bowl, with the IMF and the World Bank, where they haven’t paid back their arrears. They can’t borrow anything more. The country is in a desperate state.

I think that as long as you have sense of people running the Treasury and the Reserve Bank here, South Africa won’t get the same situation. But it’s a fair question to ask. This is a serious undertaking, and I think the government will be very careful about meeting its commitments.

I had an interview some years ago with a banker who was the former finance minister of Spain. it was a fascinating interview because he said, Spain was always the poor man of Europe. They knew what they needed to do, but politically they couldn’t. So as a consequence, when they joined the European Union, they could blame everything on the EU. Do you think there might be a little bit of that here, that these structural changes are not politically palatable, but they can be blamed now on the IMF? 

There’s certainly a view I’ve heard in South Africa that in some respects it suits some people in the Treasury that this has now happened. This does open the door to structural reform, which the government could not embark on itself. If you talk to the government, they will say that what Tito Mboweni proposed last August – the Treasury document on structural reform – that was accepted by the cabinet. The problem is – as you well know – is that that document, which no one could really argue with, has never been implemented. But this is now the way to implement it, if one is cynical about it.

So it could be a repeat of what Spain went through and then flourished as a consequence of that. Are you feeling more optimistic about South Africa in the wake of this?

I really do think it’s a step in the right direction. I am very worried about the current trajectory of the country, and I’m worried about some of the steps the government has taken and the way that regulations come out week after week without, I think, a lot of thought.

But I do think this is a very significant step, and it does give me a sense of optimism that the country is slowly moving in the right direction. Let’s see what happens.

Harold Wilson said, “a week is a long time in politics.” This is a process which is going to take years. By the way, this will be a facility normally with a rapid fire instrumented facility for about four to five years.

I saw that the repayments start in 2023. It’s a very cheap loan (1%) focussed on Covid-19. I suppose 1%, but it’s in dollars – very Covid-19 related.

Yes. But you look at what the government is having to pay in terms of bonds, 1% is nothing, relatively speaking.

Indeed, once Covid-19 is behind us. How do you expect it to then unravel?. We know that going into the crisis – the pandemic – in South Africa’s finances were already at a parlous state. There was a reluctance to do economic restructuring, which is required. Now that we’ve seen this money come in, how do you see it playing out? Perhaps with the IMF support, or do you think they can go to China and raise non-conditional funds there? 

That’s very interesting. That’s a good question you ask. If you look a country like Zambia, for example – which has not been able to get financing from the IMF to deal with the crisis – they face the wake of a sort of fluctuating copper price and the Covid-19 issue. The Zambian government have now reached out to China for exactly that reason. The Chinese are not bullish about these things. There’s also a lot of Chinese lending into Africa. A lot of work has been done on this in Harvard, by the person who’s become the chief economist of the World Bank, Carmen Reinhart.

The Chinese – when they lend in projects in Africa – do so at a pretty hefty interest rate. I think – looking to China to solve these problems – you certainly won’t be able to borrow at 1%, that I can assure you.

So in terms of your question, I would say this is a step in the right direction. It really depends on how the economy recovers next year and the year afterwards, in the wake of Covid-19 and to what extent does the government honour these commitments around structural reform.

But frankly, if it doesn’t do so, it won’t easily be able to get it back to the IMF to get another facility. The government can talk about going to the African Development Bank or the BRICS bank, but nobody has the firepower of the IMF when it comes to lending. Nobody. They’re the only game in town.

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