Moody’s Investors Service issued its junk status rating after close of trade on Friday 27th March, stripping South Africa (“SA”) of its last remaining investment-grade rating. SA’s international credit rating is now below investment grade by all three credit rating agencies, namely Moody’s, Fitch and Standard and Poor’s. The move was expected in the face of SA’s poor GDP growth performance and fragile fiscal position, even before the onset of the Coronavirus pandemic.
Back in 1994 Moody’s had assigned South Africa an Investment grade rating and systematically increased the rating to a peak of A3 on 16 July 2009. Since 2009, Moody’s has revised SA’s credit rating progressively lower, with its recent credit review downgrading SA’s long-term credit rating to Ba1 with a negative outlook (from Baa3).
South Africa Sovereign Credit Rating History – Moody’s
According to Moody’s SA’s debt burden will rise over the next five years “under any plausible economic and fiscal scenario”, estimating that the debt burden will reach 91% of GDP by 2023, including the guarantees to state-owned enterprises — up from 69% at end of 2019. It is expecting the government deficit to widen to about 8.5% of GDP in 2020, higher than the National Treasury’s estimate of 6.8%.
The downgrade will force SA from important global bond indices, tracked by global institutional investors, such as the FTSE World Government Bond Index. The downgrade has been viewed by some analysts as priced in by markets, suggesting that capital outflows from SA could be limited. Non-residents (foreigners) currently hold approximately 37%, or R800bn, of the total domestic government bonds, according to the Treasury.
The main factors hurting SA growth are unreliable electricity supply, persistent weak business confidence and investment as well as long-standing structural labour market rigidities. As a result, South Africa is entering a period of much lower global growth in an economically vulnerable position. The government's own capacity to limit the economic deterioration, given the current COVID-19 shock is constrained. Fiscal space is very limited and looser monetary policy will not address underlying structural problems. Structural issues such as labour market rigidities and uncertainty over property rights generated by the planned land reform remain unaddressed.
The expected Moody’s downgrade has exacerbated the recent weakness in the rand, following the COVID-19 crisis and will lead to higher borrowing costs for the government. Early trade on Monday morning saw the rand hit a record low of R18 a dollar. The previous record low was R17.89 a dollar on March 23, according to Infront data. The rand has lost about a fifth of its value against the U.S. currency so far in 2020, having begun the year at R14 a dollar.
Accessing the impact of this downgrade on the financial market is difficult under current circumstances. Analysts argue that the downgrade has been more than priced-into SA’s currency and bond market. It is also important to take into account that on 23 March 2020, FTSE Russell announced that it will postpone the March 2020 month-end rebalances of its various indexes until the end of April 2020. This includes the FTSE World Government Bond Index (WGBI). Consequently, some of the forced selling of SA bonds will, presumably, be postponed to the end of April 2020.
While the Rand and bond market might not weaken substantially further as a result of the downgrade, the move to below investment grade will hurt household and business confidence at a time when the country is under enormous pressure.
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