Will Brexit Reduce South Africa’s Potential to Fill the EPA Wine Quota?

Under the recently implemented Economic Partnership Agreement (EPA), the EU makes a provision for South Africa to export 110 million litres of wine duty free, in 2017. This volume will increase by roughly 1% per year until 2021, to reach 114 million litres.

The overall volume is split 70:30 between packaged and bulk wine – meaning that in 2017, the quota for packaged wine will be 77 million litres, and that of bulk wine will be 33 million litres. South Africa’s wine exports exceeding this volume are charged a tax of between €15.40 and €35 per 100 litres, depending on the type of wine.

How will the departure of the UK from the EU affect the EPA wine quota? Will Brexit reduce South Africa’s potential to fill the EPA wine quota in the future? To answer this question, let’s look at South Africa’s wine exports to the EU and the UK, respectively.

Between 2012-2016, South Africa exported an average of just over half a billion litres of wine per year. About two thirds of this went to the EU, with packaged and bulk wine exports being 90 million litres and 230 million litres per annum, respectively (see Chart 1).

Chart 1 - v2

That said, there are two reasons why Brexit is an important factor in South Africa’s wine exports. First, because the UK accounts for an average of 36% of packaged wine volume and 32% of bulk wine exports of South Africa’s wine exports that went to the EU between 2012-2016. Overall, the departure of Britain reduces the EU market by 108 million litres (or 34%), which makes Brexit significant.

Secondly, because the UK has been one of South Africa’s fastest growing markets for packaged wine over the past 5 years. The UK has increased its consumption of South Africa’s directly exported packaged wine by 10 million litres between 2012 and 2016, whereas the rest of the EU grew by 6 million litres over the same period. This translates to a growth of 8% per year for the UK, and 2% per annum for the EU.

After running 10 000 possible wine export scenarios over the period 2017-2021, there is a 90% probability that South Africa’s export volumes to the rest of the EU (without the UK) will lie between 189-211 million litres. Table 1 summarizes three scenarios at the margin.

Table 1 - v2

The scenarios can be described as follows:

  • A low road scenario: South Africa’s wine exports to the rest of the EU decline by 1% per year to 189 million litres in 2021; consisting of 54 million litres for packaged wine, and 135 million litres for bulk wine.
  • A middle-of-the-road scenario: South Africa’s wine exports to the rest of the EU remain stagnant at around 200 million litres in 2021; consisting of 57 million litres of packaged wine, and 143 million litres of bulk wine, and
  • A high road scenario: South Africa’s wine exports to the rest of the EU increase by 1% per annum, to 211 million litres in 2021; consisting of 61 million litres for packaged wine, and 150 million litres for bulk wine.

In light of the scenarios above, will Brexit reduce South Africa’s future export opportunities to the EU under the EPA wine quota? There are two points to note. Firstly, packaged wine exports to the rest of the EU will lie between 54-60 million litres, which will be well below the packaged wine quota of 80 million litres in 2021. This leaves an excess capacity of between 19-26 million litres.

Secondly, however, the EPA allows for bulk wine to be exported under the packaged wine quota from 1st September of each calendar year. As such, South Africa will be able to utilise the excess bulk wine exports over the last four months of each calendar year. This means South Africa will export an additional 11-26 million litres of bulk wine between September and December each year, bringing annual bulk exports to between 45-60 million litres of bulk in 2021, instead of 34 million litres.

The collective implication of the points above is, South Africa’s total of bulk and packaged wine exports to the rest of the EU will remain above the EPA quota, exceeding it by between 75-97 million litres under low and high road scenarios, respectively. Therefore, Brexit will not reduce South Africa’s opportunities for “direct wine exports” into the EU.

While on this point, there is a key caveat to take into consideration; which is, South Africa’s bulk wine that is exported into the EU, and then re-exported into the UK as packaged wine. This analysis has not taken this dimension of the argument into account because available data does not provide insight into South Africa’s wine re-exports within the EU.

So, South Africa’s direct exports to the UK under-estimate, somewhat, the level of impact of Brexit, especially because it doesn’t take into account the outcome of the EU-UK negotiations – whether there will be a trade deal or not. That uncertainty, combined with a lack of data, makes the exercise of calculating the overall cost difficult to estimate.

If we stick to direct exports, we can deduce that Brexit will present a further opportunity if South Africa can secure a trade agreement with the UK. A SACU-UK trade arrangement might see South Africa exporting 106 million litres of its wine duty free into the UK market (consisting of an average of 33 million litres of packaged wine and 73 million litres of bulk wine).

 

Minister Zokwana’s Strategic Grain Reserve a costly option

Recent reports have quoted Minister Senzeni Zokwana alluding to government’s considered intent to establish a strategic grain reserve. At face value, it sounds quite rational, especially in light of recurrent droughts and emerging high food prices. But in practice, it could spell serious negative consequences, especially for a mature and advanced market like South Africa. Before I explain why a strategic grain reserve is problematic, let me get a few “principle” issues out of the way.

First, a strategic grain reserve can either be in the form of cash or physical stock. However, people often associate the term with the latter, where parastatal Boards hold actual physical stocks. The mechanism of stock holding works in two ways:

  • The Board releases stocks into the open market, OR
  • They roll over the stocks into the next marketing year.

The former depresses grain market prices and creates uncertainty for private sector, while the latter often leads to high levels of crop wastage as well as exorbitant costs of storage. I will come back to this point later.

Secondly, in many countries where strategic grain reserve policies are implemented, the Board purchases grain from farmers at above market price, and sells the grain into the market at below market price. The difference between the purchase price and the selling price – which is an effective subsidy – needs to be accounted for under what is called the Amber Box (i.e. an envelope of somewhat trade distortive support, otherwise called the Agricultural Market Support (AMS) in WTO terminology). South Africa is currently allowed to use just over R2 billion in AMS under its WTO commitments.

Let us consider an example of South Africa’s Maize Board. During the pre-1994 market control era, South Africa’s Maize Board usually purchased maize from farmers at prices that were above world-price in most years. If we take the 1985/6 season, as an example, the Maize Board offered a price that was R71.83 per ton above the world price. If, for instance, the current R2 billion AMS applied to that period, then the R71.83 per ton maize subsidy would imply a total maize subsidy of R578 million – which in turn, would translate into 29% of the South Africa’s AMS allowance. This maize subsidy would then be added onto other agricultural subsidies that South Africa provided for other commodities, such diary, wheat, soybean etc. – all of which should normatively amount to R2 billion, in order for South Africa to remain compliant to its WTO commitments.

Having said that, there is yet another subsidy allowance that is offered to developing countries in terms of support.  The WTO allows that developing countries limit their stock holding as follows:

  • They should not exceed 10% of the value of product-specific output, and
  • They should not exceed 10% of the value of non-product-specific output,

They call this provision de minimis, which is essentially an abbreviated form of the Latin for de minimis non curat lex which actually means that “the law cares not for small things”.

Under this provision, the difference between the Board’s purchase price and selling price should not exceed 10% of the gross value of maize production in a specific year. For instance, in 2016, the product-specific de minimis provision for maize was R2.8 billion. So if the maize subsidy (the price difference between the purchase and selling price) exceeds R2.8 billion, then the excess amount beyond R2.8 billion must be allocated into the Amber Box – under the product specific support base.

But there is another caveat though. If for example, South Africa had a Maize Board in 2015/16, and if that Maize Board provided a maize subsidy that exceeded R2.8 billion, the excess subsidy would still make South Africa WTO complaint IF it’s total value of all agricultural subsidies were less than R24.7 billion (the 10% of the value of overall agricultural production (non-specific support)) in 2015/16. Therefore, there is substantial scope for South Africa to implement a grain reserve under its AMS commitments and de minimis provision.

If the Board purchases and sells grain at market price, (and hence zero subsidy,  and no trade distortion), the stock holding programme would fall under the Green Box (i.e. non-trade distortive support). Under this scenario, there will be no limit to what government can spend in a grain reserve.

Having said that, the Minister was quoted to have mentioned Zimbabwe and Zambia as key countries that have existing grain reserves. I would quickly caution here that Zimbabwe’s grain reserve was never fully implemented under the post-1992 era of agricultural market deregulation.

In a research article which I published in 2013, I found no evidence to suggest that Zimbabwe ever reached its physical stock reserve policy – neither in the form of a 500 000-ton of physical stock nor a cash reserve. While I stand corrected, my impression is that Zimbabwe does not serve as a good illustration to justify the Minister’s argument.

A better illustration would be Zambia, which has a comparatively better functioning stockholding programme under its Food Reserve Agency (FRA). Zambia has a public stockholding mandate which includes a minimum procurement rate of 25% of total production. It is difficult to verify how much of that is actually procured – as the FRA’s planned purchases are not always achieved.

In the 2015/16 season, the FRA was reportedly buying maize at K75 per 50 kg bag of maize, which was well below the national average market price of around K87.50 per 50 kg. Using the season’s average ZMW/US$ exchange rate of K9.70, it means that the market price was US$180.47, against the FRA’s was purchasing price of US$154.69. Since the FRA was purchasing grain at 14% below market price, and 3% below the world price, of US$159.16 per ton, this would not count as a subsidy. In this instance, the FRA can purchase as much maize as it wants, and still be WTO compliant.

We cannot challenge the argument of a strategic grain reserve on the basis of WTO compliance. However, we can challenge it on the basis of cost, because it is the cost dimension that makes the strategic grain reserve approach highly questionable.

In terms of cost, if we assume that the FRA kept a reserve stock of 500 000 tons throughout the entire 2015/16 marketing season, and stored this grain at a cost of US$2.50 per ton per month, then the cost of maize would amount to  US$77 million, plus an additional cost of storage in the order of US$15 million. Assuming administration and procurement fees of 20% of total purchase and storage, Zambia’s strategic grain reserve would cost an estimated US$111 million per year. If estimated at the average Rand/US$ exchange rate of R13.80 between 1 April 2015 to 31 March 2016, it translates to an eye-watering R1.5 billion.

South Africa produces four times Zambia’s maize production, and has three times its population. So, a strategic grain reserve in South Africa will be considerably larger than that of Zambia, and will obviously cost much more.

But how much more would this cost be? Let’s assume that the strategic reserve entails a designated authority (i.e. a Maize Board, for example) that is mandated to procure 25% of total white maize production for human consumption. Lets further assume that this Board will purchase and sell at market price (i.e. zero subsidy). The Minister’s proposition would imply purchasing 1.7 million tons, which, on the open market, would cost R6.8 billion. The grain would attract an additional R702 million in storage cost. Add 20% in administration and procurement fees, and you come to a staggeringly silly total of R9 billion.

Does South Africa really need to spend that much money for something that the market can do at no extra cost? I think not. Why not consider other options instead. For instance, let’s have a cash reserve that can be ring-fenced by Treasury as an emergency fund to be used, as and when needed, rather than keeping physical stock. Or better still, why not invest less than 10% of that money in promoting seed research and adoption of drought-tolerant maize varieties? I would further argue that a modern agricultural sector such as South Africa’s does not need an archaic stockholding programme. Rather, it needs more progressive and efficient market policies that foster access to food at a much lower cost. A stockholding programme will be hugely disruptive to markets, and in the long run, even discourage private sector investment.

**Many thanks to Hilton Zunkel (HiltonLambert Practioners of Trade Law) and Gunter Muller (Department of Agriculture, Forestry and Fisheries (DAFF)) for their invaluable comments to this article.

Expropriation of land “with” or “without” compensation: Why the latter is not a viable option

There is a broad consensus that a Zimbabwe-style land reform process will be grossly counter-productive in South Africa. But after two decades of frustration over the slow pace of land reforms, there are growing fears that the proponents of radicalism are beginning to find a voice, particularly amongst a broad section of the poor, who are now desperate for any respite to their continued suffering.

The pressure has undoubtedly mounted on the government to deliver on the promise of land reform, and experts and observers feel that the next 10 to 15 years might prove crucial to the policy direction that will ultimately determine the fate of the agricultural sector. Some analysts even believe that should land reform stall, or remain sluggish, it would increase the likelihood of a radical, if not chaotic policy response.

The reason being that the land reform agenda will fall prey to opportunism from the body politic. On the one hand, the ruling party will feel the need to strategically deflect attention from the broader failures of economic policy and unemployment; while opposition politics will likely use land reform as a draw card to grow political capital among the poor, on the other.

To the keen observer, this scenario has already been playing out strongly particularly in the last five years, and it is now epitomised by President Jacob Zuma’s new “expropriation without compensation” message, which hitherto, had been associated with Julius Malema and the Economic Freedom Fighters (EFF). With President Zuma’s utterances at the State of the Nation (SONA) address going against the African National Congress’ (ANC) policy, the contradictions within the ANC itself will continue to manifestly play out in the public space, and this will reassert the land reform debate at the 2016 policy conference.

Within the context of the politics, the country’s land reform debate, at this juncture, is now narrowly focused on two options, meaning that land reform is no longer at a crossroads, but at a T-junction. The two options that frame this T-junction are whether to expropriate farmland “with” OR “without” compensation. This dichotomy seems to defy the complex nature of the “land question” itself, which until now, has been handled with delicate care. But the intensity of the frustration among a broad section of South African society has morphed into dissent, to the extent that the option to expropriate “without” compensation has become appealing, with little regard over the broader consequences to the sector and the economy.

Yet the “with” or “without” compensation option is in itself, a false dichotomy, not least because the latter will come at a heavy long-term economic cost that will attract some very unpalatable and unintended consequences – some of which could very well negate the benefits that land reform intends to deliver.

In that sense, the public discourse for land reform should continue to emphasize two overriding factors. The first is that, expropriation “without” compensation will wipe out, overnight, R160 billion of bank lending collateralised through land. This will no doubt cause irreparable damage that will not only destroy the value of land – and thus, make it a dead asset – but will also make any future long-term investment prospects in farmland highly unlikely.

The second factor, which is a consequence of the first, is the crisis in confidence which will emerge as a result of the apathy of foreign and domestic investors to inject capital into a sector, especially given weakened and insecure property rights. This crisis in confidence will take years, if not decades to overcome, particularly due to the fact that a longer time frame will need to lapse before a new equilibrium and a new level of certainty can be re-established within the sector. This again, will lead to permanent and irreversible structural damage in the sector, which could cost the country billions of Rand in lost production, unrealised export potential, and losses in taxable agricultural revenues.

With that said, the critical consideration of land reform should not only be to achieve the goal of pivoting the balance of land ownership, but to achieve this feat without disrupting commercial agricultural production. In this sense, while due consideration is placed on the landless, the primary target beneficiaries should however, be black farmers that are actually intent on becoming full-time small to medium (or even large) commercial farmers.

Professor Ben Cousins – a land reform expert – estimated this group of black farmers to be around 200 000 and argued that this group can be allocated farms that have remained under-utilized in the sector, with such farms still being acquired through market purchases. Professor Cousins further argued that, in order to ensure that land reform is not disruptive to food security and foreign-exchange earning exports, the future process will also have to place special consideration on the country’s top 20% of farmers who produce 80% of agricultural revenue.

This sentiment goes against the radical economic transformation narrative, mainly because radicalism is disruptive and costly, by nature. As the debate on land reform continues, the guiding principles –  from a process perspective – should remain anchored in preserving (i) the value of farmland, (ii) food security, (iii) property rights, and (iv) a system of confidence that can attract foreign and domestic capital. Such a process is neither quick nor perfect, but it will at least keep the sector under relative stability, which is key to attaining the long-term growth and equity.

**A version of this article was published in the Farmer’s Weekly of the 27th March 2017