Moody’s downgraded South Africa’s sovereign credit rating one notch to Baa3, AND maintained the negative outlook. The rating is now on the lowest level of investment grade.
On 9 June 2017, Moody’s Investors Service decided to downgrade South Africa’s sovereign credit rating one notch from Baa2 to Baa3. Furthermore, the rating was assigned a negative outlook. SA’s rating is now on the lowest level of investment grade, and clearly at risk of slipping into “junk status”. The long-term domestic credit rating was also downgraded one notch to Baa3, and assigned a negative outlook.
The decision by Moody’s to downgrade South Africa’s sovereign credit rating one notch was largely expected by market participants. Moody’s has had South Africa on a negative credit outlook since 15 December 2015, and put the country on credit watch on 3 April 2017. Overall, the statement issued by Moody’s raised a number of important concerns, most especially the negative impact of recent political events on confidence, economic growth and government finances.
According to Moody’s, the key drivers for the latest downgrade are:
1) The weakening of South Africa’s institutional framework. For example, the abrupt March 2017 Cabinet reshuffle illustrate an erosion of institutional strength.
2) Reduced growth prospects reflecting policy uncertainty and slower progress with structural reforms. In particular, uncertainty over policy priorities has damaged investor confidence.
3) The continued erosion of fiscal strength due to rising public debt and contingent liabilities. In particular, lower than expected growth will further delay the stabilisation of South Africa’s debt-to-GDP ratio, while pressures to raise public wages will again rise in the next fiscal year as the end of the current three-year agreement will open room for new negotiations. Underperformance on tax revenue collection is another risk.
The decision to keep South Africa’s credit rating on a negative outlook reflects the continued downside risks for growth and fiscal consolidation associated with the political outlook.
According to Moody’s, South Africa maintains a number of credit rating strengths, namely:
1) Deep domestic financial markets
2) A well-capitalised banking sector
3) A well-developed macroeconomic framework
4) Low foreign currency debt.
5) Adherence to the Constitution, and the rule of law continue to be the key pillars of strength. South Africa’s institutions, on balance, are still stronger than those of emerging market peers.
The outlook for SA’s credit rating from Moody’s will depend on the government’s success in safeguarding South Africa’s institutional, economic and fiscal strength. In particular, further delays in implementing growth enhancing reforms could result in SA being downgraded, or if liquidity pressures begin to reemerge at state-owned enterprises that require pronounced government intervention. Conversely, a decline in the value of government guarantees to state-owned enterprises would be credit positive.
Moody’s remains the only major credit rating agency to assign South Africa an investment grade rating for both its long-tern foreign debt as well as its long-term domestic debt.
Overall, the tone of Moody’s credit assessment of South Africa’s has, understandably, changed significantly over the past year. The rating agency is clearly concerned that recent political developments will lead to a continued lack of investment confidence in the country, which will result in sustained low growth, leading to a further deterioration of government’s fiscal position. In other words, unless government is able to meaningfully encourage private sector investment, which leads to higher economic growth and an improvement in government finances, Moody’s will be forced to downgrade South Africa to below investment grade.
Such a move would have very significant implications for South Africa’s ability to attract sufficient foreign investment – cost effectively – and on a sustained basis. Without sustained foreign investment that is cots effective the country will perpetually struggle to achieve the growth rates needed to meaningfully reduce the level of unemployment and address the rising levels of social discord.
Until next time, take care!