Markets have in recent weeks been dealt a series of blows and Friday’s seem to be a popular day for ratings agency announcements of further downgrades to South Africa’s sovereign debt rating.
Moody’s Investors Service was the last of the big three ratings agencies to downgrade the country’s credit rating to sub-investment grade in late March, a widely anticipated move which took the country out of the FTSE World Government Bond Index.
Just a week later Fitch Ratings downgraded South Africa further into junk status when it cut the country by a further notch to BB from BB+, citing the lack of a clear path to the stabilisation of debt. Fitch says it expects the fiscal deficit to surge to 11.5% of GDP and government debt to grow to 80.2% in 2020/21 which is well above the 2019 BBB category median of 46.5%.
As a result of these sobering predictions, coupled with the impact of the Covid-19 pandemic on the country’s economic outlook, Fitch is maintaining its negative outlook. The ZAR weakened further against the US dollar on back of the announcement.
Ratings agencies have come in for criticism for exacerbating the crisis caused by Covid-19 with some industry commentators questioning whether credit ratings reviews make sense during the current crisis and whether their decisions should be put on hold during these extraordinary times. What’s critical to remember, however, is that credit rating reviews are merely a barometer of a country’s financial situation and these downgrades were not unexpected given the local economy’s sub-optimal performance.
South Africa is not alone in having been downgraded in recent weeks. Moody’s, Fitch and S&P Global have between them downgraded the sovereign debt of a number of countries since the onset of the Covid-19 crisis. These include the United States which saw its AAA rating revised downwards to AA+ with a negative outlook by S&P, and Britain, which saw its debt rating cut to AA- by Fitch.
In South Africa, even prior to the Fitch downgrade announcement, finance minister Tito Mboweni said government was prioritising strategies to minimise the impact of Covid-19 and implementing measures to improve economic growth which included putting government finances on a sustainable trajectory. In late March the minister revealed that he would be approaching the International Monetary Fund (IMF) and the World Bank to access facilities provided by these entities for funding to support the country’s fight against the Covid-19 crisis. He stressed that South Africa would not be approaching the IMF for a full bailout.
However, unless South Africa has the political will to implement meaningful reforms of its own accord which put the economy back onto a growth trajectory, he may not have a choice given the likely impact of recent events and the ongoing shocks these are posing to the economy.
Although there is no specific formula of the precise time that an IMF bailout is required, once a country’s debt to GDP ratio surpasses 90% it becomes almost impossible for a government to take on additional debt on a sustainable basis. South Africa went into the Covid-19 crisis in a weakened and vulnerable economic state. Government debt is likely to increase in the short term, potentially making an IMF bailout unavoidable.
However, an IMF bailout comes with stringent conditions attached to it, many of which will be at odds with the ideology of certain parts of the ruling party and its alliance partners. They include fiscal policy discipline, tax reform, a liberalisation of trade, the privatisation of state owned enterprises, the liberalisation of foreign direct investment, security of property rights and deregulation.
These conditions will put the ANC’s ideological fault lines on centre stage, and we have already seen the first salvos in this battle coming into the public domain. One of the state’s biggest burdens is a disproportionately large public sector wage bill. The challenge for government will be to resume wage negotiations with trade unions to address this. The privatisation of state-owned enterprises has already met with stark opposition from trade unions as well as a number of government ministers, while committing to security of property rights complicates the ruling party’s adopted policy position on expropriation of land without compensation.
The ability of government to implement even basic reforms in the short term will be key to enabling any kind of economic recovery. Ironically, concurrent downgrades coupled with the Covid-19 crisis may just strengthen President Ramaphosa’s hand in terms of the reform agenda, given that the fiscus is in such a difficult position.
Ultimately, South Africa has the choice to implement meaningful structural reforms of its own accord – or it will be forced to do so by the IMF and with stringent conditions attached.