Making Sense of the Strikes

The current wave of strikes is puzzling many intelligent people.  It is hard to believe that the Trades Unions do not understand the basic economics of supply and demand. 

To assist them in this, it seems necessary to explain that the market will always find an equilibrium.  The market for the product of the mines – gold, platinum, coal, ferrochrome – is broad.  A higher price will act to entice higher-cost mines and producers into the market, increasing the supply and driving the price down.  The mines require capital, which is priced on a similar basis, with the addition of a risk element.  Given a stable world supply of capital, an increased demand for capital will drive the cost of that capital up.  One way to reduce that cost is to provide a more stable – read ‘lower risk’ – to the investor.  The cost of capital is reflected in the long-term earnings of the capital.  If the earnings reduce, the capital leaves to find another more profitable home.  If the level of perceived risk increases, the capital demands a higher reward to compensate for the risk, and if that is not forthcoming, the capital goes elsewhere.  What this all says is simple.  A dramatic increase in the cost of labour will reduce the attractiveness of the investment entity – the company or the country – to capital, and it will lead to the investors seeking a more profitable home.  As a side issue, the cost of electricity, also an significant factor in the operation of a mine or a factory, is a determinant in the profitability of the company, and, given the propensity of Eskom to impose huge cost increases simply because it has been abysmally poor in its own operation, the cost of electricity has become an important factor in the ability of South African companies to attract investment money.  The added higher cost of labour, both in terms of disproportionately high wage increases and in terms of lost production and the costs of restarting operations as a result of illegitimate strikes, has become a significant disincentive to investment in South African companies.

On the other side, if companies are put in the position of cutting costs or closing operations, the only choice available is to cut costs.  They will find any possible way to reduce the cost of labour, and this will certainly translate into reducing the size of the labour force.

However you look at it, the current wave of strikes and exorbitant wage increases can have only one result – a massive loss of jobs in one of the largest job-providing sectors of the country.

The lesson is simple, the principles well-established, and even the most Communistically-inclined Trade Union officials must surely understand the basic principle.

So why are the strikes and the wage demands happening now?

In discussing this matter with some people in Europe, a man who had intensive dealings with the ANC and its various organs in the early years of the ‘Rainbow Nation’, an interesting comment came to light.  During a discussion regarding an investment by the ANC in about 1997, the man asked how the ANC intended to achieve its objective of economic, not just political, dominance of the country, he was informed that “we intend to bring the country to the brink of collapse, and then to buy up the interesting companies for almost nothing, before we start the revival process!”  The man commented that he had not believed that the comment was made in earnest, but rather as an excess of alcohol speaking out.  However, the recent events in the country certainly caused the man to reassess the comment.  The Stock Exchange has reacted precisely as one would expect.  The prices of all mining companies has fallen, some dramatically, and the signs are that they will continue to fall, with the loss of production as a result of the strikes having a significant effect in addition to the higher wage and electricity costs.

The question now arises:  who is driving the train?

The drivers of the strikes include Cosatu, a member of the ruling Tri-Partite Alliance, the ANC and the ANC surrogate, Julius Malema.  The ultimate driver of the Eskom price rises is the ANC.  The driver of most of the recent or imminent cost increases for businesses in South Africa is the ANC.

Can it be that the statement mentioned above, at first glance so improbable, contains more than a grain of truth?  Is it possible that the ANC and its fellow travellers have come to realise that a distinct possibility exists that they will no longer be the driver after the next election, that they have therefore decided to implement Plan B?  It seems hard to believe, and I would certainly not make the allegation, but it certainly gives food for thought!

We won’t know until we are able to look at the Share Registers of the companies that are now being affected by the current wave of apparent lunacy, and then it will be too late.

South Africans will do well to remember that the price of liberty is eternal vigilance.

The Legacy of Marikana

The events at the Lonmin Mine in Marikana will go down in the history of the New South Africa as a turning point.  They started with an unprotected strike, developed to a war between the striking miners and the Police, an abortive charge of murder against the striking miners with an humiliating back-down by the Prosecutor, the declaration of a state of emergency and the deployment of a thousand soldiers to keep the peace, and culminated in the agreement of Lonmin to a 22% wage increase.

In the cold light of reason, these events must be viewed as one of the lowest points in the eighteen-year history of the new democracy.  Their results are likely to cast a long shadow.

The precedent established by the rockdrill operators, of making huge wage increase demands in the process of an illegal strike has already resulted in several other similar demands by other miners, and there can be no doubt that those demands will be at least partially successful.  There are very few alternative outcomes to this event.  Either the total wage costs of the mine must be adjusted downwards, by the reduction of the ‘bloated salaries of the mine bosses’ (an extremely unlikely event!), by the cutting of other, non-wage, costs, or by increasing the income of the mine.  The latter two results are likely. 

Over the next few years, there can be no doubt that all mines presently or potentially subject to huge wage demands, reinforced by violent militancy, will be doing everything in their power to reduce their dependence on labour.  They will increase the level of automation.  The numbers of employed at the mines will come down, and the numbers of unemployed will increase.  The lessons learned from the Marikana events will also be learned by other employers, who will join the rush to automation and de-labouring.  The lessons will also be learned by other workers.  An illegal strike, accompanied by violent demonstrations and the murder of employees who wish to honour their employment contracts and continue to work to feed their families, has been shown very clearly to bring results, and the pattern will be followed, on mines, in Government, in industry, wherever large numbers of workers are employed.  The precarious peace that existed between the providers of labour and the providers of capital has become even less stable. 

The actions of the Police in shooting at ‘defenceless’ miners has demonstrated that the organs of law enforcement in the country are not only powerless, they are incompetent to maintain the rule of law.  This situation has been noted by potential investors abroad, as well as at home, and the result has been that South Africa has dropped even further down the ladder in the competition against the numerous other countries seeking foreign investment.  Personal experience indicates that even the possible investors who were considering South Africa as a location for a new industrial, labour-creating, investment are revising their views.  It appears that the country is working hard to attract only those investors who have no choice!  Neither the labour force nor the Government appears to understand that there are over forty possible investment destinations for new industrial establishment.  The flip-flop of the Government in the investment by Walmart set a low point in the country’s attractiveness to such investment, eclipsing even the ‘quiet diplomacy’ that thinly covered the Government’s support for the policies of Robert Mugabe.  The apparently total inability of the Government to maintain law and order sends a clear signal to the world – if you want a safe investment, do not come to South Africa! 

This situation was exacerbated by the charging of the mass of miners with murder, and the rushed withdrawal of the charge in response to public opinion.  The lesson?  Mass protest against the application of a standing law in support of labour will force the organs of State to back down! 

The public pronouncements by numerous ‘dignitaries’, from Church leaders to politicians to Trade Unionists, totally ignored the fact that the people charged had been party to violent action over a period of more than a week, resulting in the deaths of at least ten persons at their hands!  The actions of the miners in going to meeting after meeting, armed (including with pistols taken from murdered Policemen!) and with the clear intention of using those arms, could not under any circumstances have been construed as a civilised method of demonstrating dissatisfaction with their wages or working conditions. 

Sociologists immediately pointed to the ‘poor living conditions’ of the miners, who lived in shacks, even though they were paid a ‘living-out allowance’ to cover the cost of providing housing for themselves.  Of course, anyone must have sympathy for those living in the sub-human existence of the shack dweller.  However, to some extent, that condition is self-inflicted.  Unfortunately, it has become an item of faith that anyone who puts himself into such a condition becomes entitled to demand that the remedy is provided by the tax-payer or the employer. 

The declaration of a state of emergency was a clear admission by the Police and the Government that it had lost control of a part of the country.  During the Mandela years, such an admission would have been frightening, horrifying.  Today, under President Zuma (who recently declared in Europe that South Africa is a country operating well under normal democratic principles!), the country is rushing towards anarchy.  Concerned citizens are starting to realise that a collapse of the rule of law, of normal civilised principles and conditions, is no longer a distant possibility, it is starting to appear to be a probable outcome.  It appears probable that this state will become more likely as the effects of the Lonmin fiasco work through the economy.

The demonstration that violence begets benefit will certainly result in high wage demands.  In the face of the real world, which dictates the price that it will pay for the products produced by South Africa, the producers who have to pay the increased wages will become less competitive, reducing their labour force.  That will not be enough.  The reducing exports will result in lower exports at higher costs, with the result that the foreign exchange generation will drop off, reducing the strength of the currency.  Over time, this effect will probably bring about some recovery in exports, but the effect of this will be a higher cost of imports, as has been shown so clearly by the escalating fuel price.  Inflation will rise, making the poor poorer, and a new flood of displaced workers will join the ranks of the poor.  The Government will be faced with the necessity of providing increased financial and other support to the poor, while suffering from a declining revenue flow.  The perfect storm is looming on the horizon, but those at the helm are not paying heed to the forecasters!

There can be no doubt that the results of the Marikana incident will be with us for many years.  There can equally be no doubt that the ANC Government, under the leadership of Jacob Zuma is not up to the task.  Given the abjectly poor performance of the ANC in governing the country over the past years, the extremely high level of corruption, the failure of policy after policy, the continuing decline of the country as an investment destination, there must be doubt that the ANC is capable of governing at all!  

If we believed that the past eighteen years were tough, wait to see the next eighteen years!

Corruption in South Africa

 

The ANC and people close to the ANC have recently been spouting out about the dangers of corruption, the threat it poses, particularly to the poor, the danger it poses to any advance of the country from its present situation. 

Very admirable, if only it could be believed!

The view that these people are putting out to the gullible public, that corruption is confined to the lower levels of Government, is an obvious attempt to divert the attention of the public from the truth.  There is no doubt that there is extensive corruption at the lower levels of Government, and that this corruption has been a major drag on the development of the economy and the creation of jobs.  But that is not the whole picture.

The real fact of the situation is that corruption has become pervasive.  It is practiced at all levels of Government.  No person can have any doubt that the top people in the ANC have benefited to a huge extent from corrupt dealings.  The enquiry into the corruption in the Arms Deal Scandal of the late 1990s is a real example of this, and that has never been dealt with correctly.  That corruption, a theft from the people of South Africa of over R50 000 000 000 (that is not a misprint – the total cost of the munitions was the value of that fraud, since those arms were never needed by the country and should never have been purchased.  The deals were solely a means to allow the top politicians and Military officials to build in a bribe.) occurred at a time when President Thabo Mbeki was attempting to convince the public that the country could not afford to treat the victims of HIV/AIDS.  The Arms Deal was a prime factor in catapulting South Africa into the position of the country with the highest AIDS infection rate in the world!  The Arms Deals have never been effectively or openly investigated, and the cover-up of the Deals, the suppression of even a Parliamentary Enquiry into the transactions, remain a huge indictment of the corruption of the Party that has claimed to hold the moral high ground.

If there is to be any real attempt to wipe out corruption in South Africa, it must start with meaningful, transparent and independent investigation of the top people in Government.  It must look into the roles played by all of those in positions of power and influence in the Government during the dark days of the Arms Deal Scandal, followed by the resignation from any form of public office, including Party positions, of all of those found to have been implicated in the corruption and in the cover-up.  It must result in convictions and long prison sentences for the guilty, with no possibility of pardon or remission of the sentences.

If this is not done, if all that the ANC is capable of doing is making grand statements about how ‘corruption must be wiped out’, the public will always be entitled to ask, when it is announced that fraccing will be permitted in the Karoo, without the report on the subject being released for public scrutiny, “Who is receiving the bribe, and how much is it?”

Investment and Saving

 

It is almost unnecessary to point out that South Africa is a country in which internal savings at least don’t exist or, more likely, are being unwound in favour of consumption expenditure.  Savings form the backbone of economic growth.  Without savings, there is no capital to provide for growth in the future, and to replace what is wearing out now, or has already worn out.

Savings come from several sources. 

The individual is the traditional source of savings and investment.  The old bank savings account that the ‘old folks’ talk about hardly exists today.  Children are not taught, as they used to be, that saving is a virtue.  For the modern child, a saving is a means to afford that new cellphone or iPod.  Consumption is the new standard, and the more conspicuous that consumption is the better.  The new middle class of Blacks that has come into being should also be a source of savings.  Unfortunately, it has become necessary for those people to display their success in expensive ways, to display their sophistication.  Remember: one definition of ‘sophistication’ is ‘conspicuous waste’!  In addition to these inclinations, the high real rate of inflation is a positive disincentive to meaningful postponement of savings accumulation.  As an example, a colleague purchased the most expensive production car in South Africa in 1974 for R10 300.  The most expensive car today, apart from the exotics, runs at over R1 300 000.  How much of his income would he have had to save to accumulate enough to realise his dream car if he had postponed expenditure from then to now?

A way that individuals used to save, and still do in certain parts of the world, is by investment in shares in companies.  The notion of a Stock Exchange is based on this.  Unfortunately, the Stock Exchange in South Africa has become a casino, with traders dominating the market, moving the prices on a minute-by-minute basis in response to rumours and technical trading systems, both of which are not available to the small investor.  A significant part of the savings of the individual has fallen into the hands of these traders, in the form of retirement funds.  A brief chat with anyone who is approaching retirement will inform you of how exploitative these traders and investment managers are.  A couple of years ago, a newsletter from the Old Mutual announced that the company’s investment portfolios had performed well, generating a ‘good income’ on such investments, but, unfortunately, the fees charged by the investment managers and by Old Mutual had eaten up this ‘good income’, leaving the investor with a meagre growth in the value of his or her life savings of around 1%, significantly lower than the rate of inflation.  Is it any wonder that the individual despairs of saving, that he would rather spend his money on current enjoyment rather than putting it aside for the future?  The fact that tax takes a big bite of the result of this risky process, if it is at all successful discourages the individual investor still further.

Another form of saving is by the investment in assets by companies.  In this case, the funds, derived ultimately from investing individuals, are used to generate income.  Unfortunately, the ever-increasing taxes applied to companies and their shareholders is driving the companies to generate large profits in the short term in order to provide an adequate after-tax income to the investors.  The two factors of the tax bite out of distributable (or saveable) profits and the need to generate profits to or above market expectations in order to maintain a share price are exacerbated by the high real rate of inflation (taking into account increasing capital cost of assets, exchange rate disadvantages and high interest rates compared with the rest of the world) to create a situation where long-term investments are generally not as large as they should be.  The rate of savings of companies is therefore lower than it should be.

One of the functions of Government is to save, by investing a part of the taxes it draws from people in infrastructure and income-generating assets.  The more the Government spends on income distribution, the less it has available to invest in savings.  The abjectly poor performance of virtually every Government-managed public entity, like Eskom, Telkom, schools, Spoornet, Portnet, Sanral and all the others will tell you how ineffective Government has been in fulfilling that investment role.  And, contrary to the beliefs of Joe Modise, Thabo Mbeki, Alec Irwin and the other ANC advisers, a purchase of R54 billion worth of useless munitions does not constitute an investment, except that part that flowed from the munitions suppliers to the recipients’ Swiss bank accounts!

The final source of savings is money that flows from the frugal citizens of other countries to South Africa in the form of loans.  Unfortunately, South Africa is a country that uses huge quantities of those loans.  In South African hands, only the part of those loans that have been repaid are really savings.  The loans are essentially a receipt in advance of future savings, at a rate discounted by the total cost of repaying those loans, including both interest and exchange rate losses.  A loan of this form is essentially a mortgaging of the savings of our children and grandchildren.

If South Africa desires to beat its competitors around the world in generating jobs and a better quality of life for its citizens, it is an absolute essential that the rate of savings is increased dramatically.  There are other changes that need to be made, but without savings and investment, those other changes will have little effect.

In an effort to accommodate the leaders of the Government, who complain that too many people criticise, but do not make alternative suggestions, here are a few thoughts.

First, take the South African Revenue Services out of the pockets of the people and the companies.  Allow the people who earn the money to invest at least some of it.  Tax, in the form it is managed in South Africa, is essentially destructive of economic activity.  Rather than jubilation at the fact that the Budget now exceeds a trillion Rand, the Minister of Finance should set out a plan to reduce the total amount expended by the Government by at least ten per cent per year for at least the next five years.  This would, perhaps, give the Government a reason to cut the rampant corruption which, in many of the cases of which we are aware, exceeds ten per cent of the expenditure by a comfortable margin.  As long as the source of funding to Government remains open-ended, there is no incentive to cut its waste!

Second, the individual must be encouraged to save.  Do this by abolishing any form of tax on money invested in long-term investment instruments, say for at least five years if invested in savings accounts, shares or similar, and do not tax the income, whether from interest or dividends, during the term of such investment.  If the savings instrument is disinvested within that five year period, tax can be applied retrospectively, and, if it is held for the five years, the tax exemption can vest.  This simple method will effectively bring back individual saving as a viable part of the individual’s monthly budget.

Third, allow the companies that invest in plant and equipment a tax credit equal to the write-off life of that asset, but allow it in advance.  That will provide a meaningful incentive to long-term capital investment, and that investment will convert into a higher rate of taxable earnings by the company.  One of the secrets of success of German industry is that the companies invest continuously in the newest and most efficient plant and equipment.  In that way, even though the country ranks among the highest labour-cost countries in the world, it is able to produce products that continue to outsell competitors, even the low-cost competitors.  Again, there are other factors present, but efficiency in the plant is surely an important one. 

Fourth, allow the employers a tax credit for any subsidy it makes to assist its employees to invest.  The credit could be higher if the investment is made in the shares of the employer, in order to assist the employees to identify more closely with the business objectives of the employer, a sure way to reduce the incidence of labour disputes and the sabotage of the employer by employees, which appears to be on the rise as a result of the increasing distance between the employees and the employer as a result of the political posturing of the ANC and its associates in Government.

Finally, introduce a system of minimisation of tax on those bodies that manage the funds of investors, such as insurance companies and banks, rewarding them for achievement of net benefits to investors above a set return on investment, which must be above a realistic estimate of inflation, and penalising them if the return is lower.  That will go a long way to ensuring that these funds managers are focused on return to investors, not only to themselves.

Executive Opulence - an Indicator of Impending Problems

 

One of the interesting developments of the past decades in business has been the tendency towards companies treating their executives as deserving of treatment at a level of luxury disproportionate to their value.  It is easy to understand why this should be so. 

The decisions in regard to salaries, perks, office standards and pandering to the desires of the people at the top of an organisation are largely made by those at the top – the people who decide are the people who benefit.  The salary structure of the people immediately below the level at which they are determined by the Board are set by those at the top, and they are set at a level that easily justifies the million Rand per month salaries that the very top level are paid.  After all, if the man on the third level of management is paid a salary of R800 000 per month, how can the Chief Executive be paid less than a million?  The same applies to the car the CEO drives and the office he occupies.  Generally, the decision to set the organisation up in this way is not a conscious one.  It happens.  It is very easy for a man in control of a very large amount of money to convince himself that an improvement in his own benefits is in the interests of the company.  It is very easy to sell an idea to yourself. 

The result of all of this is that many – probably most – large companies with remote shareholders spend far too much on the top level of management. 

Of course, numerous CEO voices will be protesting that this is not true, that they are the ones responsible for earning the profits of the company, that it is necessary for them to operate (they never say ‘enjoy’!) in conditions that are indicative of the success of the company!  There is some degree of truth in this statement, but is it completely true?  Would the company be less successful if the CEO’s salary were 20% less, if his car cost R300 000, rather than R1 200 000, if the Head Office building were renovated every ten years, rather than every three years, if the lobby floor were tiled with ceramic tiles rather than with marble?  The test is whether that CEO would spend the same amount from his own resources for the benefit of the company.  It is interesting to see how often people who own a company put much less into plush offices than do employed Chief Executives, and how much more is invested in productive assets, rather than in luxuries.  An interesting example is the State President.  Would he purchase a R2,4 billion aircraft from his own funds, when he already has numerous less expensive aircraft already, most of which can meet most of the requirements of his job?  He is not alone.  Any observer of the developments in the South African Government scene cannot have failed to notice how many Civil Servants drive Range Rovers, S Class Mercedes Benz or 7 Series BMW cars.  Do these really contribute to their effectiveness more than would a car costing R250 000?  (This calls to mind a comment in the 1960’s, that the United States Government had decided not to bring down the Mafia because of the disastrous effect that would have on the sale of Cadillac cars!)  A survey of the purchase of luxury motor cars in Germany in 1992 revealed that only 3% of S Class Mercedes were purchased by private owners, the balance of 97% being purchased by companies and Government for use by their senior people!  The reason?  Only 3% considered that the benefit of ownership of such an expensive vehicle outweighed the cost!  All the rest were making the purchase decision on the basis that the personal benefit was greater than the personal cost.  Using someone else’s money makes it a lot easier to decide to spend that little bit more.

In 1997, in the early stages of the recovery of South Africa, and particularly the recovery of the Black population of South Africa, from the ‘ravages of Apartheid’, my company, a Management Consultancy specialising in the development of industries, was involved in the negotiation of the establishment of a large factory in a deprived South African Province, employing initially some 427 people.  A German company had offered to provide all of the capital for the establishment, all of the technical know-how, and a contract for five years to purchase the planned high-technology products of the factory on favourable terms.  The German company was to take 50% of the shares in the company, and a Black Empowerment group, led by Sam X, was to be given the balance of 50%, with the right to acquire a further 30% of the shares at cost over the next five years.  A dream deal in every way!  The negotiations broke down when Sam X, at the meeting called to sign the contracts, demanded that the German company provide, free of charge, two 7 Series BMWs and two Gold Cards to cover the cost of ‘demonstrating the importance of the business’!  It was very difficult for the Germans to understand this demand, particularly in light of the fact that the CEO (and owner) of that company, a man who had built the business himself by working at night in his garage to develop the products that were being handed to the South African company, still drove a five-year old Volkswagen!  That business went to Vietnam, and the German retained ownership of the entire operation.  He had learned the lesson that it is easy to spend someone else’s money on luxury.

The widening gap between the top level of employed and the bottom level is a clear indicator of the seriousness of this problem in South Africa, as is the increasing lack of competitiveness of industry in the country.  It is a fact that South Africa is slipping in its competitiveness ranking in Africa, as in the world.  We are a Third World country with First World standards at the top of our employment table. 

In Management Consultancy, in cutting costs in an inefficient company, it is clear that the cost of the top man is usually in the region of a hundred to two hundred times the cost of the average productive worker.  By firing the Chief Executive, you can afford to hire an additional one to two hundred workers producing income!  By not purchasing his executive car, you can apply a million Rands to the purchase of a new machine!  By halving the luxury of the Head Office, without in any way detracting from the performance of the people working there, you can build a new factory!  Obviously, this is not the whole picture by any means, but it is a picture that should be borne in mind by any senior manager when he negotiates his salary package.

If there is to be a real effort in bringing South Africa into a competitive position in the difficult world market that it faces, every party to the productive effort needs to make a reassessment of what is really necessary.  Trade Unions need to ask whether an above-inflation wage increase is preferable to ensuring the continued existence of the companies employing their members, Government needs to consider whether it is preferable to purchase another personal airliner for the President or to build another twenty factories to enable people with ideas to start producing their products, Chief Executives need to consider whether their Shareholders, the people who ultimately pay the cost of their salaries, benefits and luxurious offices, would not rather have another factory producing products, or another machine cutting the cost of those products.

Just as the demands of the Rock Drill Operators at Lonmin for large wage increases are driving the development of automated equipment to do their jobs, so the demands of senior executives for more and more are driving the shareholders in their companies to invest in other companies, not necessarily in this country, the customers of their products to buy from China, India and Vietnam, and potential investors to countries and to producers that are more moderate in their spending on luxury.