Credit ratings and outlook for SA unchanged

The two ratings agencies are Standard & Poor’s (S&P) and Fitch Ratings .

In a press release Standard & Poor’s (S&P’s) said it affirmed South Africa’s BBB-credit rating and expected an improvement in the years ahead. “After expected poor GDP growth in South Africa in 2014, we forecast a slight improvement in 2015-2017. We also expect the Treasury to keep to its ‘hard expenditure ceiling’ and thereby contain fiscal deficits and general government debt levels in the medium term,” the agency said in a press release.

It however noted that “GDP growth remains low, current account deficits remain relatively high, general government debt sizable, and portfolio flows potentially volatile”. 

According to S&P grade definition, BBB means there is adequate currency to meet financial commitments, but is more subject to adverse economic conditions, while BBB is considered the lowest investment grade by market participants.

Fitch has affirmed its credit rating of South Africa at BBB, as well as a negative outlook, which it first announced in June this year. In a release to announce its decision, Fitch said it had revised down its GDP growth forecast for South Africa to 1.5% in 2014 “owing to adverse effects from strikes in the platinum and manufacturing sectors, electricity supply constraints, declining terms of trade, weak confidence and subdued global growth”.

It forecast general government debt to rise to 48% of GDP in the financial year of 2014, up from 26% at end-2008, and to peak at around 50% in 2016.  

Negative watch
FNB economist Alex Smith, said Fitch had had South Africa on a negative watch for quite some time and “the growth outlook has been concerning given the electricity supply issues at Eskom and the labour situation remains a key risk. Government hasn’t dealt with it effectively,” he said. 

“Rating agencies take a big picture viewy and want to see what has progressed and how things are likely to progress.”

In the days leading up to the rating review the government’s bond yield has pushed up and the rand weakened significantly, particularly  around concerns about electricity supply. In June, S&P’s downgraded South Africa’s sovereign rating – this was the first time the country had been downgraded by any ratings agency since the process was started in 1994.  

The market did not expect S&P’s to lower South Africa’s rating further on Friday – in which case it would no longer be considered investment grade and instead would be classified as junk.

In November, Moody’s Investor Service downgraded South Africa’s credit ratings to Baa2 – the equivalent of a BBB rating. Fitch and S&P’s tend to review each sovereign’s rating at specific intervals, whereas Moody’s tends to do so more sporadically. In the run up to the review the market was particularly concerned about a cut to junk from S&P’s – or even a change in outlook from stable to negative.

Three critical mistakes
“A negative watch is almost as good as a downgrade, because then the market starts anticipating a downgrade,” said Chris Hart, chief strategist at investment solutions.

Hart said there were three critical mistakes responsible for slow growth in South Africa. These are strikes, “because nobody would invest in that”; a regulation tsunami, “none of which are business or investor friendly”; and specific taxes that target capital formation and investment viability, such as capital gains tax and transfer duty on houses. 

“Those things are quite destructive from an economic point of view,” said Hart. “We are eating seeds and wondering why harvests are not coming up.”

The public sector wage bill is high – “almost out of control,” says Hart – and a concern regularly cited by ratings agencies. 

SA’s debt
A ratings downgrade to junk would mean South Africa would be seen as a riskier place to invest and as such, would raise the South Africa government’s cost of borrowing on the bond market (it would payer higher interest in line with the increased risk).

“It’s not quite a debt trap, but you start to be shut out of debt,” said Hart. “In South Africa’s case it may be a good thing. We have been incurring debt for consumption reasons – to pay civil servant salaries – and even our infrastructure expenditure is often on prestige projects from which there is very little return and where there is expenditure inefficiencies, but there are no accounting for that.”

Smith said: “South Africa’s absolute levels of debt are relatively low by global standards, less than half than the average of the Eurozone … but it’s the debt service costs that matter.” Should S&P’s downgrade South Africa to junk in the near future this would be aggravated as a lot of money manager have mandates to hold only investment grade bonds ,and so a sell-off on government bonds will be begin. “Interest rate costs are faster growing item in budget [should they go even higher] it further hampers treasury’s ability on what actually needs to be done,” Smith said.

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