https://jiae.ub.ac.id/
169
CURRENT ACCOUNT SUSTAINABILITY OF SOUTH AFRICA WITH REGIME SHIFTS
1Sanele Stungwa, 2Teboho J. Mosikari
1,2North-West University, South Africa Corresponding author:
Abstract Purpose
This study investigates the sustainability of current account with possible regime shifts in South Africa.
Design/methodology/approach
The study uses data from the International Monetary Fund from 1980 to 2021, ensuring order of integration using Fourier LM unit root test and Minimum LM unit root test, and using maki cointegration test with multiple structural breaks.
Findings
Maki cointegration test confirmed a long run relationship between exports and imports of goods and services. The results indicate that the current account sustainability of South Africa is weakly.
Research limitations/implications
The study's limitations include not considering nonlinearities in modelling processes and not using frequency analysis like wavelet/Fourier transform, which can be affected by market volatilities, and suggest future research should address these limitations.
Originality/value
The study examines current account sustainability in South Africa, considering structural changes from past economic crises. It suggests devaluing currency to ensure exports outweigh imports or improving the current account deficit.
Keywords: Current account sustainability, Intertemporal budget constraint, Regime shifts, South Africa
ARTICLEHISTORY
Received : April 26, 2023 Published : August 31, 2023 HOWTOCITE
Stungwa, S. & Mosikari, T. J. (2023). Current Account Sustainability of South Africa with Regime Shifts.
Journal of Indonesian Applied Economics, 11(2), 169- 183.
DOI: doi.org/10.21776/ub.jiae.2023.011.02.5
170 1. INTRODUCTION
In the short term, a country may be able to handle current account deficits by borrowing from other countries. However, if the deficits last for a long time, the country may not be able to pay its international debts. Current account is defined as aggregate number of goods and services sold by a country to foreign countries(Krugman & Wells, 2013). Export promotion is recognised as a solution for low economic growth, in the European economy, entrepreneurs, and mercantilists have discovered that expanding international trade in manufactured goods, minerals, and agricultural commodities would increase the national output (Myint, 1958). Furthermore, the comparative advantage theory by David Ricardo suggests that countries should specialise on producing goods and services in which they have a comparative advantage on, and then trade with other countries to boost efficiency and overall output. This indicates that maintaining a surplus in the current account would help to achieve a sustained economic growth in a country.
A current account that is "sustainable" means that the external imbalance doesn't cause any economic forces that change its path (Mann, 2002). In addition, sustainable current account requires a balance between exports and imports. Current account is measured in terms of country’s trade balance plus net income and direct payments (Amadeo, 2021).
Trade balance is a country’s exports minus imports of goods and services. A current-account deficit reflects the strength of a growing economy in as much as it assesses the resources entering the country in excess of national savings to support investment demand. On the other hand, a current-account deficit might indicate a hazardous and unsustainable imbalance between national savings and domestic investment, as well as the buildup of unserviceable debts. The interesting thing about this contradiction is that it can be hard to tell the difference between current-account deficits caused by growth-inducing capital inflows and current-account deficits that lead to unsustainable debt accumulation (Roubini
& Wachtel, 1999).
One of the policies that were created to help improve current account deficit is Marshall-Lerner condition. The Marshall-Lerner condition describes the effect of a currency depreciation on the current account of the balance of payments. The condition indicates that following a devaluation, the current account will improve if the sum of the price elasticities of demand for imports and exports is larger than 1. However, the existing literature confirms that the Marshall-Lerner condition does not hold in the short run, but does it in the medium term and long run. This means that, in the short run after a devaluation of currency, there will be less exports sold because the trading partners or people overseas do not react immediately towards a decrease in the prices of exports. Therefore, it will take some time for exports to change. This is usually because exports are subject to contracts that must be renegotiated. Therefore, the current account deficit can be manageable or sustainable in the long run.
171
Figure 1. Current account balance of South Africa 1980-2021 Source: Authors’ own computation with the data from SARB
Figure 1 presents the trends of current account of South Africa for the period 1980 to 2021. Figure 1 shows that the current account increased gradually between 1980 to 1986. It reached the highest point of 5.3% in 1986. This surplus in the current account of South Africa was fueled by a huge increase of the merchandise (no gold) exports from R9.6 billion in the third quarter of 1983 to R27.1 billion in the fourth quarter of 1986. This increase was also supported by the low value of rand in terms of other currencies (SARB, 1987).
Thereafter, it decreased to -1.5% in 1994. As a result of the Apartheid rule and subsequent political and financial sanctions, South Africa was seen as an undesirable investment destination. It appears reasonable to conclude that the evolution of the current account was politically biased, and it was difficult to identify a procedure that maximized utility.
Since 1994, South Africa has become known as the most powerful economy in Africa.
As a result, a growing amount of foreign capital was invested in South Africa. The current account went into a moderate deficit; this phase was only temporarily interrupted in 2001 and 2002 due to the financial recession caused by the September 11th, 2001, event (Draper
& Freytag, 2008). Since then, the deficit has reached historic heights. The South African economy has been experiencing a deficit on the current account from 2002 where it recorded -0.7% to -2.6% in 2018. It then improved to 3.7% in 2021.
In the first quarter of 2022, the value of merchandise imports increased due to increases in mining, manufacturing, and agricultural imports. Significant increases in the importation of vehicles and transport equipment, as well as machinery and electrical equipment, boosted manufacturing imports. The greater value of mining imports continued to reflect the significant rise in mineral prices, particularly crude oil, and refined petroleum products, with diesel imports growing significantly.
The payments of interest and dividends to foreign investors are becoming an increasingly significant contributor to South Africa's current account deficit. However, in this account, very little effort is taken to differentiate between portfolios and direct investors (Samuel, 2013). It is a common misconception that most of the investment income payments made by South Africa are distributed to portfolio investors. However, in contrary to what
172
most people believe, this is not really the case. Instead, since 2005, payments to foreign direct investors have become, by a substantial margin, the predominant kind of investment income payment that South Africa makes overseas. This kind of payment is often the direct factor that contributes to the nation's current account deficit (Strauss, 2017). Therefore, it is important to examine the current account sustainability of South Africa.
The available empirical literature is grouped into three sections. The first section of studies consists of studies used time series methodology. These studies are Apergis et al.
(2000), Murat et al. (2014), Shastri et al. (2018), Reed et al. (2019), and Garg and Prabheesh (2021). The results indicate that most of the studies confirmed current account sustainability.
The second section of studies focuses on the cross-country studies that used panel data analysis to examine the current account sustainability. Among others, Baharumshah et al.
(2005), Dulger and Ozdemir (2005), Donoso and Martin (2014), Lanzafame (2014), and Afonso et al. (2020). These studies confirmed mixed results meaning that, the current account sustainability is found for other countries, while it is not found other countries. The third section of studies focuses on South African studies. These studies include Searle and Mama (2010), Gnimassoun and Coulibaly (2014), Tastan and Aric (2016), and Hasdemir et al. (2019). All these studies confirmed current account sustainability in South Africa. Most of South African studies are based on panel data analysis except the study by Searle and Mama (2010). However, the drawback of panel data analysis is that it is difficult to access the individual impact of each country since there might be some unobserved heterogeneities between cross-sectional units. The study by Searle and Mama (2010) used known structural breaks and Engel-Granger cointegration which does not cater for unknown structural breaks.
This study was not fully based on structural breaks. Therefore, the current study intends to provide more understanding on the current account sustainability taking unknown structural breaks into consideration. Therefore, the study fills the gaps and shortcomings of the studies that focus on the structural breaks.
The study contributes to the existing literature in the following ways: Firstly, the study uses a time series analysis to overcome the limitations of panel data analysis. This is because panel data analysis normally assume homogeneity across cross-sectional unit, therefore, it is difficult to examine the direct impact of each cross-sectional unit (Mosikari & Stungwa, 2023). Secondly, this study contributes to the existing literature with different econometric methods such as Stock and Watson DOLS for parameter estimation, Minimum LM unit root test and Fourier LM unit root test for unit root testing. For cointegration test, the study uses Maki cointegration test which captures multiple structural breaks as compared to Gregory- Hansen cointegration test which captures one structural break and Hatemi-J cointegration test which captures 2 structural breaks. Furthermore, traditional estimates of the sustainability of the current account may be biased towards ignoring structural breaks in time series. As a result, possible structural breaks must be carefully detected and included into the econometric model. Finally, this study provides an overview about the composition of the current account in South Africa paying more attention on structural change that took place during the period of the study. The purpose of this study is to focus specifically on the issue of current account sustainability, taking into consideration the possible consequences of structural changes brought about by South Africa's prior economic crises. The aims of this study are to identify whether the current account of South Africa is sustainable and to detect multiple structural breaks that occurred during the period of the study. Therefore, this study is conducted to fill the gap and to permit continuous research. However, this study is structured as follows: section two focuses on the literature review, section 3 discusses the methodology of the study, section 4 presents the empirical results, and section 5 provides the conclusion of the study.
173 2. LITERATURE REVIEW
2.1. Intertemporal budget constraint model
The reserves in the intertemporal balance model are calculated on a regular basis using a current account. Only a strong current account creates enough reserves to justify a long-term current account deficit. Husted (1992) looks at the behavior of the stock of international debt to see whether the budget constraint is projected to be intertemporally balanced. The budget constraint equation for the current period t is provided by.
𝐶𝑡 = 𝑌𝑡+ 𝐵𝑡− 𝐼𝑡− (1 + 𝑟𝑡)𝐵𝑡−1 (1) Where 𝐶𝑡, 𝑌𝑡, 𝐵𝑡, 𝐼𝑡, and 𝑟𝑡 are consumption, output, international debt, investment, and
one period world interest rate, respectively. (1 + 𝑟𝑡)𝐵𝑡−1 indicates the initial debt, corresponding to the country’s international debt.
From equation (1) we obtain:
𝐵𝑡− 𝐵𝑡−1 = 𝑟𝑡𝐵𝑡−1− 𝑇𝐵𝑡 (2) Where 𝑇𝐵𝑡= 𝑋𝑡− 𝐼𝑀𝑃𝑡= 𝑌𝑡− 𝐶𝑡− 𝐼𝑡 indicates a trade balance. To derive functionable
model following Husted (1992) and Wu et al. (1996) and to test for the hypothesis of current account sustainability, Equation 2 is changed to the following form:
𝑋𝑡 = ∝ + 𝛾𝐼𝑀𝑃𝑡+ 𝜀𝑡 (3) Where 𝑋𝑡 represents the exports of goods and services, whereas 𝐼𝑀𝑃𝑡 represents imports
of goods and services. 𝛾 = 1 indicate that the current account sustainability is met, and 𝜀𝑡 indicates a stochastic error term which is assumed to be stationary. In contrast, if 𝛾 < 1 then the sustainability hypothesis is violated. The economy is projected to fail on its foreign loans in this situation Hakkio and Rush (1991) and (Husted, 1992).
2.2. Empirical literature
This section of the study presents the empirical framework on the current account sustainability in different countries. The studies of Hakkio and Rush (1991), Husted (1992), and Wu et al. (1996) are the primary studies to test intertemporal budget constraint model. Thereafter, the empirical literature on the current account sustainability has been extensively increasing in different countries. However, the empirical literature is divided into three sections such as single-country studies, cross- country studies, and South African studies. The first section of the empirical studies consists of single country studies that used time series econometric methods. Among others, Apergis et al. (2000) examined the sustainability of Greece's current account deficit from 1960 to 1994. The empirical analysis employs a variety of unit root and cointegration tests that permit structural breaks. The findings presented evidence in favor of the current account deficit's sustainability.
Murat et al. (2014) examined sustainable current account deficit in Turkish economy by examining its key sources and an econometric model. The model showed that Turkey's current account is weakly sustainable. Shastri et al. (2018) evaluated the sustainability of current accounts for India, Pakistan, Bangladesh, Sri Lanka, and Nepal for the period 1985-2016. The analysis confirmed the long-term association between current account outflows and inflows for all nations. The estimations of slope coefficient suggested that India, Bangladesh, and Nepal have strong sustainability, whereas Sri Lanka and Pakistan have weak sustainability.
174
Over the period of 1974-2015, the Iranian economy was studied by Reed et al.
(2019), who identified the dynamic linkages between the budget deficit, the current account deficit, and the sustainability of government debt. The findings indicate a steady long-term link between the model's variables, implying that the government must lower the budget deficit and the current account deficit if it wants to enhance the sustainability of its debt. The CA deficits of the top deficit nations were analyzed by (Garg & Prabheesh, 2021). The cointegration findings were shown to be greatly enhanced by the inclusion of information concerning structural breaks. The results showed that the current account is sustainable in Brazil, Canada, India, Turkey, and the United States but not in Australia and the United Kingdom.
The second section of studies consists of the studies that used panel data analysis to examine the current account sustainability. Among others, Baharumshah et al. (2005) used non-stationary panel data analysis to evaluate current account imbalances in eight East Asian nations. The empirical data show that pre-crisis current account imbalances were not stable (1970-1997). This means Asia-8's current accounts were unstable and didn't advance toward current account equilibrium. Strong export-import co- movements are detected in the post-crisis sample period (1970-2000). Dulger and Ozdemir (2005) studied the current account sustainability in a panel of G-7 countries for a period of 1974:1 to 2001:3 using a methodology based on fractional process. The results indicated that the current account for France, Italy, and Canada is sustainable, while for Germany, US, UK, and Japan is unstainable.
Donoso and Martin (2014) examined the current account sustainability using a panel data analysis of eighteen Latin American countries. The study used linear and nonlinear unit root tests to examine the stationarity properties of current account balances. The results found that linear and nonlinear unit root tests confirmed current account sustainability for the majority of Latin American countries. Lanzafame (2014) studied the current account sustainability in a panel of 27 advanced economies over the period of 1980 to 2008. The study used panel unit root tests for this purpose. The results found that 7 countries’ current account is sustainable, while 20 countries’ current account is unstainable. Afonso et al. (2020) investigated the long run relationship between exports and imports in EU countries. The study used a panel data covering the period of 1970: Q1 to 2015: Q4. The used panel unit root tests and cointegration tests for this purpose. The results found that the current account of EU countries unstainable.
A review of the empirical studies demonstrates that there is a long run co- movement between exports and imports of goods and services. This evidence was supported by Baharumshah et al. (2005), Shastri et al. (2018), and (Garg & Prabheesh, 2021). The empirical studies further suggest the importance of including structural breaks in the analysis to obtain unbiased and reliable results. This proof was supported by the studies such as Apergis et al. (2000), Baharumshah et al. (2005), and (Garg &
Prabheesh, 2021). The empirical review also show that the current account is found to be sustainable in most countries. Furthermore, there are less studies from African countries that have analyzed the current account sustainability. In addition, the previous studies did not investigate the current account sustainability using Maki cointegration with multiple structural breaks. However, this study investigates the current account sustainability with regime shifts.
The issue of current account sustainability is a highly prioritized matter in developed and developing countries, however, the empirical studies in South Africa are very few. There are four studies that investigated the current account sustainability in South Africa. Searle and Mama (2010) is the first study that examined the sustainability of South African current account deficit. The study used an annual data covering the
175
period of 1980 to 2010. The study used Engel and Granger estimation method and ADF for cointegration test. Initially, the results showed that South Africa’s current account deficit is unstainable before considering the structural breaks. After capturing the structural breaks in the model, the current account deficit of South Africa was found to be sustainable.
Gnimassoun and Coulibaly (2014) is the second that examined the current account sustainability in a panel of Sub-Saharan African countries including South Africa over the period 1980 to 2011 using panel cointegration methods. The results confirmed current account sustainability in Sub-Saharan African countries. Furthermore, Tastan and Aric (2016) is the third study that analyzed the sustainability of the current account deficit (CAD) in South Africa under a panel of BRICS nations using a nonlinear framework. The results suggested that the CADs for Brazil and India are unsustainable.
Nevertheless, the sustainability hypothesis holds true for South Africa when size nonlinearity is included.
The fourth study was written by Hasdemir et al. (2019) who tested the current account sustainability for BRICS nations of which South Africa is part of it. The study used a quarterly data covering the period of 1998: Q1 to 2017: Q1. The authors used nonlinear unit root tests that allow for time dependent nonlinearity which are LNV, CEO, and Omay unit root tests. The second group of unit root tests allow for state dependent nonlinearity which are EG, KPSS, and Sollis unit root tests. The third group of unit root tests allow for hybrid nonlinearity which are OY and OEH unit root tests.
The results showed that the current accounts of BRICS countries are sustainable in the long run.
The review above provided a robust empirical literature about current account sustainability in South Africa. The empirical literature suggests that the current account sustainability can also be accessed through unit root tests. This evidence is supported by Tastan and Aric (2016) and Hasdemir et al. (2019), meaning that the intertemporal budget constraint model is not the only route to test for the current account sustainability. The study by Searle and Mama (2010) used known structural breaks, however, this cannot be fully trusted because there is no formal econometric method that is used to detect these structural breaks. The existing studies did not use the parameter estimation method, cointegration method and unit root tests that are used in this study. However, this study contributes to the literature with different econometric methods. As a results, this gap calls for an investigation of current account sustainability with unique methods.
3. RESEARCH METHODS 3.1. Empirical model
This study makes use of the intertemporal balanced model through the budget constraint equation. The study employs the method of Husted (1992) to test the current account sustainability of South Africa. The current account sustainability of South Africa is expressed in a bivariate framework which can be written as follows:
𝑋𝑡= 𝑓(𝐼𝑀𝑃𝑡) (4) Where 𝑋𝑡 represents the exports of goods and services, while 𝐼𝑀𝑃𝑡 represents the imports of goods and services. The equation (4) is transformed into natural logarithms to reduce the reduce the volatility of a series around the mean, and to reduce the heteroscedasticity trap in time series. The log-log model in equation (4) can be written as follows.
176
𝐿𝑋𝑡 = 𝜇1+ 𝛽1𝐿𝐼𝑀𝑃𝑡+ 𝜔𝑡 (5)
Where 𝜔𝑡 is a stochastic error term which is assumed to be stationary, 𝛽1 is a partial slope parameter of imports, and 𝜇1 is an intercept where the fitted line touches the y- axes. 𝐿𝑋𝑡 and 𝐿𝐼𝑀𝑃𝑡 are the natural logarithms of the exports of goods and services, and imports of goods and services, respectively. Exports are goods and services that a country sell to other countries, imports are goods and services that the country buy from other countries. The relationship between exports and imports is interconnected and creates a trade balance. The study tests the null hypothesis that, when 𝛽1 = 1, the sustainability of current account is met. If 𝛽1 < 1 the claim of current account sustainability violated. In accordance to the study written by Hakkio and Rush (1991) Husted (1992), Önel and Utkulu (2006) the economy is expected to default in its external debt if the current account sustainability is not met. 3.2. Cointegration Test Most macroeconomic theories are built on an equilibrium framework. As a result, a cointegration test is required to help define long-run bounds among series. The standard cointegration test by Johansen (1991) and ARDL bound by Pesaran et al. (2001) do not take structural break into consideration. Thus, new kinds of cointegration tests are available in the econometrics literature to assist avoid misleading analysis and account for the possible regime shifts by Gregory and Hansen (1996), Hatemi-j (2008), and (Maki, 2012). Gregory and Hansen (1996) test accounts for one break, while Hatemi-j (2008) and Maki (2012) accounts for two and five structural breaks respectively. However, this study employs Maki (2012) cointegration test since it accommodates for many structural breaks as compared to Gregory and Hansen (1996) and Hatemi-j (2008). Maki (2012)'s equations are as follows: Model 0: 𝑧𝑡 = 𝜇 + ∑𝑘𝑖=1𝜇𝑖𝐷𝑖,𝑡+ 𝛽′𝑦𝑡+ 𝜖𝑡,1 (6)
Model 1:𝑧𝑡 = 𝜇 + ∑𝑘𝑖=1𝜇𝑖𝐷𝑖,𝑡+ 𝛽′𝑦𝑡+ ∑𝑘𝑖=1𝛽𝑖𝑦𝑡𝐷𝑖,𝑡+ 𝜖𝑡,2 (7)
Model 2: 𝑧𝑡 = 𝜇 + ∑𝑘𝑖=1𝜇𝑖𝐷𝑖,𝑡+ 𝛾𝑡 + 𝛽′𝑦𝑡+ ∑𝑘𝑖=1𝛽𝑖𝑦𝑡𝐷𝑖,𝑡+ 𝜖𝑡,3 (8)
𝑧𝑡+ 𝑀𝑜𝑑𝑒𝑙 3 = ∑𝑘𝑖=1𝜇𝑖𝐷𝑖,𝑡+ ∑𝑘𝑖=1𝜇𝑖𝐷𝑖,𝑡+ 𝛾𝑡 + 𝛽′𝑦𝑡+ ∑𝑘𝑖=1𝛽𝑖𝑦𝑡𝐷𝑖,𝑡+ 𝜖𝑡,4 (9)
Where 𝐷𝑖,𝑡 is the dummy variable, 𝐷𝑖,𝑡= 1 if t > 𝑇𝐵𝑖 and 0 otherwise. 𝑇𝐵𝑖 represent the years when the series takes a break. The error terms for equations 6 to 9 are, 𝜖𝑡,1, 𝜖𝑡,2, 𝜖𝑡,3, 𝜖𝑡,4, which are independent and normally distributed with zero means. The null hypothesis states that there is no cointegration between the variables in the presence of structural breaks.
3.3. Data
The study data uses an annual data spanning from 1980 to 2021. The data were collected from the International Monetary Fund for both variables. Exports are measured by the volume of exports of goods and services, and imports are proxied by the volume of imports of goods and services. The variables are already in percentage form.
177 4. FINDINGS
4.1. Descriptive statistics
Table 1. Descriptive statistics
Variables Obs Mean Std.Dev Minimum Maximum
Exports 42 2.43 5.624 -17.02 10.94
Imports 42 3.894 10.3 -17.66 21.91
Source: Author’s own computation from GAUSS 22
The descriptive statistics quantify the central tendency, and dispersion. The mean measures the central tendency, and the standard deviation measures the dispersion.
Table 1 shows that exports in South Africa has an average of 2.43% and the standard deviation of 5.624%. Livingston (2004) said that, determining how much a data set deviates from a normal Gaussian distribution is significant if one plans to utilize the mean and standard deviation to define a data set or execute statistical tests that presume data came from a normally distributed population. Therefore, the standard deviation obtained indicates strong evidence of low variability of observations around the mean for exports. The minimum annual exports is -17.02%, whereas the maximum exports is 10.94%. The imports on the other hand have an average of 3.894%, while the standard deviation is 10.3. The minimum and maximum imports for South Africa during the period of the study is -17.66% and 21.91%, respectively.
4.2. Unit root tests
Figure 2. Export of goods and services in South Africa
Source: Authors’ computation with data from International Monetary Fund.
To prevent misleading analysis in time series econometrics, a unit root test is needed. In econometrics, unit root tests include Augmented Dickey-Fuller unit root test developed by Dickey and Fuller (1981) and Phillips-Perron unit root test developed by (Phillips & Perron, 1988). Most popular tests do not account for structural breaks.
178
Given the nature of most macroeconomics data, analysis is misleading if structural breaks are not accounted for. On this assumption, the present study adopts the Minimum langrage Multiplier unit root test developed by Lee and Strazicich (2003), and Fourier langrage Multiplier unit root test introduced by Enders and Lee (2012) to address the shortcomings of the conventional unit root tests. The graphical representation of the variables is shown in Figure 2 & 3 to test unit root informally.
Figure 3. Imports of goods and services in South Africa
Source: Authors’ computation with data from International Monetary Fund.
The Minimum langrage Multiplier unit root test accounts for two unknown structural breaks with a null hypothesis of unit root. The Fourier Lagrange Multiplier (FLM) unit root test may capture the unknown nature of structural breaks without knowing their positions or numbers. The Fourier Langrage Multiplier unit root test is based on the Lagrange Multiplier (LM) concept, which is more powerful than the Dickey-Fuller technique because LM-type unit root tests enable the same set of spurious parameters to be used under both null and alternative hypotheses (Pfaff, 2008).
Table 2. Minimum LM unit root test with two structural breaks Series Model
A(Crash)
Break in intercept
Model C (Break)
Break in intercept and trend
T- statistics TB1 TB2 T- statistics TB1 TB2 X
IMP
-5.963***
-5.980***
2000 2003
2007 2006
-6.872***
-6.089***
1997 1994
2006 2003 Source: Author’s own computation by GAUSS 22: Significant at (*), (**), (***), represents 10%, 5%, 1%
respectively
179
Table 3. Fourier LM unit root test
Series T-statistics Lags Frequency
X -0.404 4 4
IMP -4.123** 3 1
Source: Author’s own computation by GAUSS 22: Significant at (*), (**), (***), represents 10%, 5%, 1%
respectively
The figure 2&3 show a long behavior of exports and imports of goods and services in South Africa, respectively. The results show that both variables are expected to be stationary at level, since they fluctuate around the constant mean and constant variance, therefore, they don’t seem to violate the white-noise assumption. Figure 2&3 show a strong long run relationship between the variables, since in most cases they move in the same direction.
The unit root results for Minimum LM unit root test, and Fourier LM unit root tests are presented in Table 2, Table 3, respectively. The results for Minimum LM unit root test with two unknown breaks show that all the variables that are used in this study are stationary at level in the presence of multiple structural breaks at 1% level of significant.
The results for Fourier LM unit root test confirms a unit root at level (I(0)) for exports of goods and services in South Africa, while it confirms stationarity for imports at 5%
level of significant. Since the stationarity of the variables is confirmed, the next step is to test the cointegration of the variables.
4.3. Cointegration test
Table 4. Maki cointegration test
Number of breaks Model T-stats (critical values) Break Points T-stats (1%, 5%, 10%)
𝑇𝐵≤ 5 Model 0
Model 1 Model 2 Model 3
-7.663 (-5.959, -5.426, -5.131) ***
-7.838 (-6.193, -5.699, -5.449) ***
-7.046 (-6.915, -6.357, -6.057) ***
-7.249 (-8.004, -7.414, -7.110) *
1984, 1991, 2001, 2013, 2017 1985, 1995, 2002, 2009, 2013 1988, 1992, 1999, 2006, 2013 1984, 1992, 2002, 2007, 2013 Source: Author’s own computation by GAUSS 22: Significant at (*), (**), (***), represents 10%, 5%, 1%
respectively
The results for maki cointegration test are presented in table 4. The results confirm the evidence of long run relationship between the exports and imports of goods and services in South Africa in presence of structural breaks. The results for maki cointegration test show several structural break years which are 1984, 1992, 2002, 2007, and 2013. These break years correspond to the political and financial instabilities happened in South Africa. The 1984 structural break was fueled by a rise in gross domestic product beginning around the middle of 1983, which resulted in a strong increase in imports and a worsening of the balance of payments' current account. After being in surplus since the fourth quarter of 1982, the current account fell into deficit in the fourth quarter. In addition to the increase in imports, the reappearance of a current account deficit was caused by a decline in gold prices since February 1983, a decline in exports and an accompanying rise in agricultural product imports due to the drought,
180
a slow recovery of other non-gold exports, and an increase in net service and transfer payments to foreigners (SARB, 1984).
During the first half of 1992, the current account surplus went down because merchandise imports were much higher than would have been expected at this point in the business cycle. The value of net gold exports also went down sharply, and the price of gold was low. The value of merchandise exports also grew more slowly in a more stable international market, and net service and transfer payments to non-residents went up only slightly (SARB, 1992). In 2002, the current account had its first yearly surplus since 1994. This was accomplished despite relatively slow global economic development and a rebound in the rand's external value during the course of the year (SARB, 2003).
The non-residents who increased their holdings of both South African shares and bonds in 2006, but focused on shares in the first half of 2007, corresponding with the continuous expansion in corporate earnings and share prices, are contributing causes to the 2007 structural break (SARB, 2007). The structural break in 2013 may be due to higher growth in import volumes exceeding those of exports; the trade balance shifted from a surplus in 2003 to a deficit in the years following until 2008. Due to decreasing domestic demand, the trade balance returned to a surplus from 2009 to 2011, before shifting to a deficit in 2012 and the first part of 2013. The somewhat slower rise in the number of goods exports during this time was partially offset by favorable trade terms that trended higher from 2001 to 2011. However, the terms of trade dropped significantly in 2012 before improving marginally in the first part of 2013 (SARB, 2013).
4.4. Estimation technique
Table 5. Stock and Watson Dynamic OLS results (Dependent variable is Exports) Variables Estimated coefficients t-statistics
Imports 0.271 2.30**
D1 4.113 1.18
D2 2.211 1.06
D3 -3.269 -1.76*
D4 -1.094 -0.40
D5 1.085 0.35
Intercept -2.212 -0.81
Source: Author’s own computation by Stata 16: Significant at (*), (**), (***), represents 10%, 5%, 1%
respectively
Table 5 shows the results for Dynamic Ordinary Least Squares (DOLS) developed by Stock and Watson (1993). The dummies are created from the selected structural breaks on Maki cointegration results. The dummy variables are created as follows:
D1(1984), D2(1992), D3(2002), D4(2007), and D5(2013). Since the coefficient for imports is 0.271 which is less than one, then the study concludes that the current account
181
of the South African economy is weakly sustainable. Therefore, South Africa’s international debt is not manageable. These results contradict the results of Searle and Mama (2010) and Tastan and Aric (2016), this might be due to different econometric methods used and sample sizes. D1, D2, D4, and D5 are statistically insignificant to explain their effect on the dependent variable (exports). The exception is warranted for D3 which is statistically significant at 10% level and had a negative effect on exports of goods and services. This means that the current account (CA) surplus that happened in 2002 had a negative effect on exports of goods and services. The reason for this, it might be that when there is a surplus in the current account, the secondary effect will reflect to an increased national income of the economy which would eventually lead to an increase in imports and decrease in exports. These results are different to the findings by Searle and Mama (2010), Gnimassoun and Coulibaly (2014), Tastan and Aric (2016), and Hasdemir et al. (2019), however, this might be due to the econometrics methods are used and sample sizes. Overall, the results indicate that intertemporal budget constraint hypothesis does not hold for South Africa. The future studies should consider focusing on asymmetric models and frequency analysis when modelling the current account sustainability, this will help to take into consideration nonlinearity effects and volatility problems in the domestic and external markets since the current account is affected by the payments from and to the rest of the world.
5. CONCLUSION(S)
The purpose of this study is to investigate the current account deficit sustainability in South Africa. The study used an annual data for the period of 1980 to 2021 and used Stock and Watson DOLS for this purpose. The results confirmed a weakly sustainable current account in South Africa for the overall period of the study. Therefore, in this case South Africa is defaulting on its international debts. The South African economy may manage its current account deficit by devaluing the currency, making exports cheaper and imports more costly. So that the current account surplus may always be satisfied. Furthermore, achieving current account sustainability requires a precise balance of numerous economic forces and policy choices. Countries that consistently run substantial deficits or surpluses may face risks such as debt buildup, lower economic resilience, or reliance on external finance. Policy actions targeted at addressing structural concerns, increasing export diversification, controlling exchange rate stability, and ensuring fiscal and monetary prudence all contribute to a country's current account sustainability.
Tightening fiscal and monetary policy to reduce local consumption and import expenditure, may also help in managing the current account deficit. Tight monetary policy necessitates an increase in interest rates. Increased interest rates raise the cost of debt and mortgage repayments, leaving consumers with less money to spend. As a result, they will consume less imports, boosting the current account. Higher borrowing rates will also produce a drop in aggregate demand, reducing economic growth. This will assist to lower inflation and make South African exports more competitive. Deflationary policies will also put pressure on manufacturers to cut costs, which will lead to more competitive exports, and as a result, exports may grow in the long run. Fiscal policy may be used instead of monetary policy. The government might, for example, raise income taxes. This would diminish consumer discretionary money and import expenditure.
6. REFERENCES
Afonso, A., Huart, F., Jalles, J. T., & Stanek, P. (2020). Long-run relationship between exports and imports: current account sustainability tests for the EU. Portuguese Economic Journal, 19(2), 155-170.
182
Amadeo, K. (2021). current account and it’s components.
https://www.thebalancemoney.com/current-account-definition-and-4-components- 3306265
Apergis, N., Katrakilidis, K. P., & Tabakis, N. M. (2000). Current account deficit sustainability: The case of Greece. Applied Economics Letters, 7(9), 599-603.
Baharumshah, A. Z., Lau, E., & Fountas, S. (2005). Current account deficit sustainability:
A panel approach. Journal of Economic Integration, 514-529.
Dickey, D. A., & Fuller, W. A. (1981). Likelihood ratio statistics for autoregressive time series with a unit root. Econometrica: journal of the Econometric Society, 1057-1072.
Donoso, V., & Martin, V. (2014). Current account sustainability in Latin America. The Journal of International Trade & Economic Development, 23(5), 735-753.
Draper, P., & Freytag, A. (2008). South Africa's Current Account Deficit: Are Proposed Cures Worse Than the Disease? South African Institute of International Affairs.
Dulger, F., & Ozdemir, Z. A. (2005). Current Account Sustainability in Seven Developed Countries. Journal of Economic & Social Research, 7(2).
Enders, W., & Lee, J. (2012). A unit root test using a Fourier series to approximate smooth breaks. Oxford bulletin of Economics and Statistics, 74(4), 574-599.
Garg, B., & Prabheesh, K. (2021). Testing the intertemporal sustainability of current account in the presence of endogenous structural breaks: Evidence from the top deficit countries. Economic Modelling, 97, 365-379.
Gnimassoun, B., & Coulibaly, I. (2014). Current account sustainability in Sub-Saharan Africa: Does the exchange rate regime matter? Economic Modelling, 40, 208-226.
Gregory, A. W., & Hansen, B. E. (1996). Residual-based tests for cointegration in models with regime shifts. Journal of econometrics, 70(1), 99-126.
Hakkio, C. S., & Rush, M. (1991). Is the budget deficit “too large?”. Economic inquiry, 29(3), 429-445.
Hasdemir, E., Omay, T., & Denaux, Z. S. (2019). Testing the current account sustainability for BRICS countries: Evidence from a nonlinear framework. Economics Bulletin, 39(1), 310-320.
Hatemi-j, A. (2008). Tests for cointegration with two unknown regime shifts with an application to financial market integration. Empirical economics, 35(3), 497-505.
Husted, S. (1992). The emerging US current account deficit in the 1980s: a cointegration analysis. The review of Economics and Statistics, 159-166.
Johansen, S. (1991). Estimation and hypothesis testing of cointegration vectors in Gaussian vector autoregressive models. Econometrica: journal of the Econometric Society, 1551-1580.
Krugman, P., & Wells, R. (2013). Economics.3rd ed. New York: Worth Publishers.
Lanzafame, M. (2014). Current account sustainability in advanced economies. The Journal of International Trade & Economic Development, 23(7), 1000-1017.
Lee, J., & Strazicich, M. C. (2003). Minimum Lagrange multiplier unit root test with two structural breaks. Review of economics and statistics, 85(4), 1082-1089.
Livingston, E. H. (2004). The mean and standard deviation: what does it all mean? Journal of Surgical Research, 119(2), 117-123.
Maki, D. (2012). Tests for cointegration allowing for an unknown number of breaks.
Economic Modelling, 29(5), 2011-2015.
Mann, C. L. (2002). Perspectives on the US current account deficit and sustainability.
Journal of Economic Perspectives, 16(3), 131-152.
Mosikari, T., & Stungwa, S. (2023). Fiscal Decentralization and Economic Growth in South Africa: A South African Perspective. Acta Universitatis Danubius. Œconomica, 19(1).
183
Murat, S., Hobikoğlu, E. H., & Dalyancı, L. (2014). Structure and sustainability of current account deficit in Turkish economy. Procedia-Social and Behavioral Sciences, 150, 977-984.
Myint, H. (1958). The “classical theory” of international trade and the underdeveloped countries. The Economic Journal, 68(270), 317-337.
Önel, G., & Utkulu, U. (2006). Modeling the long-run sustainability of Turkish external debt with structural changes. Economic Modelling, 23(4), 669-682.
Pesaran, M. H., Shin, Y., & Smith, R. J. (2001). Bounds testing approaches to the analysis of level relationships. Journal of applied econometrics, 16(3), 289-326.
Pfaff, B. (2008). Analysis of integrated and cointegrated time series with R. Springer Science & Business Media.
Phillips, P. C., & Perron, P. (1988). Testing for a unit root in time series regression.
Biometrika, 75(2), 335-346.
Reed, M., Najarzadeh, R., & Sadati, S. Z. (2019). Analyzing the relationship between budget deficit, current account deficit, and government debt sustainability. Journal of WEI Business and Economics, 8(1), 20-31.
Roubini, N., & Wachtel, P. (1999). Current-account sustainability in transition economies.
In Balance of payments, exchange rates, and competitiveness in transition economies (pp. 19-93). Springer.
Samuel, C. (2013). The dark side of foreign direct investment: A South African perspective.
SARB. (1984). Annual Economic Report. Retrieved from
https//:www.resbank.co.za/en/home/publication-detail-pages/reports/annual- economic-reports/1984/5556
SARB. (1987). Annual Economic Report - 1987.
https//:www.resbank.co.za/en/home/publication-detail-pages/reports/annual- economic-reports/1987/5556
SARB. (1992). Annual Economic Report. https//:www.resbank.co.za/en/home/publication- detail-pages/reports/annual-economic-reports/1992/5556
SARB. (2003). Annual Economic Report. https//:www.resbank.co.za/en/home/publication- detail-pages/reports/annual-economic-reports/2003/5556
SARB. (2007). Annual Economic Report. https//:www.resbank.co.za/en/home/publication- detail-pages/reports/annual-economic-reports/2007/5556
SARB. (2013). Annual economics report. https//:www.resbank.co.za/en/home/publication- detail-pages/reports/annual-economic-reports/2013/5556
Searle, P., & Mama, A. T. (2010). The sustainability of South African current account deficits. University of Cape Town Working Paper, 188.
Shastri, S., Giri, A., & Mohapatra, G. (2018). An empirical assessment of current accounts sustainability for major South Asian economies. South Asian Journal of Business Studies, 7(2), 172-188.
Stock, J. H., & Watson, M. W. (1993). A simple estimator of cointegrating vectors in higher order integrated systems. Econometrica: journal of the Econometric Society, 783-820.
Strauss, I. (2017). Understanding South Africa’s current account deficit: The role of foreign direct investment income. Transnational Corporations, 23(2), 49-80.
Tastan, S., & Aric, K. H. (2016). Sustainability of current account deficits in BRICS countries. Journal of Business Economics and Finance, 5(2), 165-170.
Wu, J.-L., Fountas, S., & Chen, S.-L. (1996). Testing for the sustainability of the current account deficit in two industrial countries. Economics Letters, 52(2), 193-198.
