In a statement issued in New York overnight, Moody’s Investors Service has “confirmed South Africa’s Baa2 long-term government bond and issuer ratings as well as its (P)Baa2/(P)P-2 shelf and MTN program ratings, but assigned a negative outlook for the economy.” The agency’s review for a downgrade commenced on March 8.
The agency said: “The confirmation of South Africa’s ratings reflects Moody’s view that the country is likely approaching a turning point after several years of falling growth; that the 2016/17 budget and medium term fiscal plan will likely stabilize and eventually reduce the general government debt metrics; and that recent political developments, while disruptive, testify to the underlying strength of South Africa’s institutions.”
Moody’s was therefore only partly won over by reassurances from government that there would be no further upheavals against confidence, such as the sudden firing of finance ministers. Negative public protector and court findings against President Jacob Zuma also played a role in convincing Moody’s that South Africa’s institutions are still to a significant extent independent, functioning and intact.
However, it clarified that “the negative outlook speaks to the implementation risks associated with the structural and legislative reforms that the government, business and labour recently agreed in order to restore confidence and encourage private sector investment, upon which Moody’s expectations for growth and fiscal consolidation in coming years – and hence the Baa2 rating – rely”.
In its rationale, Moody’s said South Africa’s “economic growth will gradually strengthen after reaching a trough this year, as the various supply-side shocks that have suppressed economic activity since 2014 recede. Specifically, the electricity supply is now more reliable, the drought is ending and the number of work days lost to strikes has shrunk significantly (a trend that planned rule changes are likely to embed further).
“In addition, the inflation outlook is more subdued, which would suggest fewer interest rate rises ahead than we expected when the South African Reserve Bank saw inflation heading towards 8% by year end. Less severe tightening of monetary policy would alleviate extra pressure on South Africa’s relatively highly-indebted household sector and support growth.
“Alongside the more competitive exchange rate, these improving trends are likely to strengthen growth in South Africa from the second half of this year and thereafter. While we expect the economy to expand by only 0.5% in 2016, we expect growth to rise to 1.5% in 2017. Moreover, ongoing structural reforms and diminished infrastructure bottlenecks offer upside potential for growth over the medium term.
“The recent rapprochement between the government, business and labour holds promise from the standpoint of identifying areas of mutual concern. A number of benchmark actions related to matters such as the rationalization of state-owned enterprises (SOEs) and the enactment of labour market reforms have been identified in the process.
“To the extent that implementation of such measures helps boost business confidence, investment and job creation, they would improve prospects for gradually reducing wide economic disparities and high levels of poverty, deprivation and unemployment.”
Moody’s also went into detail about Finance Minister Pravin Gordhan’s budget plans, saying that “more aggressive consolidating measures in the recent budget increase the likelihood that the general government gross debt to GDP ratio will stabilize in the current fiscal year at around the current level of 51%. For the first time since the global financial crisis, the government has pledged to achieve a primary surplus on the consolidated government account in 2016/17, as well as in the main budget the following year, with surpluses scheduled to grow each year thereafter.”
Moody’s now feels that Treasury’s more conservative outlook and stricter approach will yield stronger economic results and that the government is credible in terms of implementing what it says it plans to do.
It said that “monetary and fiscal institutions have proven to be sound over time”. Despite being impressed by institutions taking a stand against the president, it said: “The local government elections … will be a litmus test as to whether and by how much these developments are eroding the ANC’s electoral support and the consequences for the robustness and clarity of economic and fiscal policy.”
The agency’s negative outlook is due to it recognising “the downside risks associated with the growth, fiscal and political outlook, and the possibility that renewed volatility in global financial markets could increase external imbalances and disrupt growth. While the government has taken important first steps towards fiscal consolidation, deeper structural reforms to restore business confidence and raise the economy’s growth potential are in their very early stages. Even over the near term, growth (and therefore the strength of the government’s balance sheet) will remain sensitive to consumer and investor confidence regarding the prospects for reform and efforts to distance the policymaking process from corruption scandals.”
If government is not successful in “enhancing medium-term growth and in arresting the deterioration in the government’s balance sheet”, Moody’s will downgrade South Africa’s rating “if economic growth were to fail to revive, if we were to conclude that the government’s determination to stabilise and then improve its debt metrics was likely to falter, or if investor confidence were to decline by such an extent that external financing was insufficient to fund the current account deficit on an extended basis. The failure of social partners to implement policies or measures that would secure a healthier investor climate and attract increased private investment would also be negative. Finally, we could downgrade the rating should the government unduly delay enacting reforms that would address fundamental economic rigidities and enhance competitiveness.”
The outlook would become stable if government “were to deliver on commitments that support growth and achieve the pledged stabilisation and eventual reduction in general government debt. Measures to win back business confidence (such as rationalising the state-owned enterprise sector, clarifying BEE) regulation and expanding the Independent Power Producer framework into new areas of infrastructure would also be credit positive.”