Winter is coming to South Africa. While the winter solstice officially starts on June 1, a severe chill has already set in over the economy, which faces the chance of an investment rating downgrade later in the month.
Ratings agency Standard and Poor’s is expected to announce the outcome of a review of its grading of South Africa, in June. It has already sent a team to South Africa to assess the country.
At present, Standard and Poor’s rates South Africa just one level above ‘junk’ status. A downgrade to junk means the agency does not see it as an investment destination and many international funds will not be allowed to put their money into the country.
Earlier this month, ratings agency Moody’s kept South Africa at investment grade, but downgraded its outlook for the economy. The other major ratings agency, Fitch, is also expected to review South Africa’s grade soon. They also have South Africa rated just above junk status. Despite concerns about the accuracy and independence of the major agencies, it is a harsh reality that a country needs to be rated investment grade by all three to get the best it can from capital markets.
As a result, the Standard and Poor’s rating is being very carefully watched by business and economists in South Africa and abroad. “A sovereign ratings downgrade has a snowball effect, ultimately it affects everybody from small businesses, to corporates to governments that need funding for infrastructure, by raising the cost of capital. And African countries need investment in infrastructure,” said Victor Kgomoeswana, a consultant on business in Africa. He was speaking to Gulf News.
South African telecommunications, financial services and logistics companies, like the state-owned Transnet, are investing in African countries with faster growth rates to diversify their businesses, benefiting these countries. But some of these companies are now among those that would have to deal with the impact of a sovereign investment downgrade in South Africa.
The chief executive of Transnet, Siyabonga Gama, said the possibility of SA’s national sovereign debt rating being cut to junk by Standard and Poor’s in June is “a big concern for the country, it’s going to affect everybody. We have spent the last couple of months trying to buttress our balancesheet against that kind of eventuality.”
He was speaking to Bloomberg on the sidelines of the World Economic Forum on Africa conference in Rwanda.
And the rating agencies concerns would not have been helped when the South African Reserve Bank cut its growth forecast for this year to 0.6 per cent, down from an already meagre 0.8 per cent, on Thursday. The bank also announced that it would be keeping the country’s interest rates steady at seven per cent. This is the rate the Reserve Bank lends to commercial banks. For most South Africans, commercial banks will only start lending to them at an interest rate of 10.5 per cent.
At the announcement of the Reserve Bank decision, the governor, Lesetja Kganyago said: ““The exchange rate volatility does concern us. Currencies react to a range of things. The one thing that is clear is that uncertainty is not good for the currency market. We have had a number of policy uncertainties experienced here and we have also seen politics impacting on the markets.”
The policy and political uncertainty is in part because South African president Jacob Zuma is widely perceived to be at odds with his finance minister, Pravin Gordhan. The scandal-plagued president is alleged to be trying to remove Gordhan, who is resisting financing Zuma’s pet projects.
Gordhan — who is widely credited with restoring credibility to the country’s financial management and shoring up business confidence — is being investigated by state security agencies for purportedly setting up an illegal ‘spy’ unit when he was head of the revenue services. He says the unit was legally constituted and set up to track down tax dodgers.
South Africa’s economy has a long list of woes, but at the top are the low global prices for its commodities, a drought and political and regulatory uncertainty — all of which is impacting its currency. The weak — and more worryingly — volatile currency is one of the main reasons the country has fallen from being Africa’s biggest economy, to its third largest after Nigeria and Egypt, according to the International Monetary Fund (IMF).
Then there is also persistently high unemployment figures and violent community demands for better basic services, ahead of heavily-contested local government elections, scheduled for early August.
With this bleak outlook, it is not surprising that the markets have already priced in an investment downgrade and, for many, the question is not if, but when? There is a hope that, like Moody’s, Standard and Poor’s will give South Africa a bit of breathing space by leaving its existing rating in place in June. But this means that if the country does not significantly improve its prospects by December, a downgrade then will be almost inevitable.
The country has pulled together a shaky alliance of government, business and labour to try and avoid a further downgrade, but if it happens, South Africa is likely to be able to cope — in the short term. While the government runs a deficit, much of its debt is held by South African institutions, meaning it’s not as dependent on the international markets, as many others.
And as Kgomoeswana points out, it does not mean that the country will not be able to borrow, just that “it will make it more difficult and expensive to raise capital and expansion is likely to be slower”.
