SA's budget woes raise stakes for rating reviews
The downgrade concerns have been re-ignited after South Africa’s budget on Wednesday saw the Treasury hike its fiscal deficit forecast for this year to 4.3% of gross domestic product.
Both firms have reviews on the same day. If either cut their ‘local debt’ ratings, the government’s $125 billion stock of rand-denominated debt will no longer be eligible for the world’s big global bond indexes.
That would almost certainly trigger widespread selling and pile more pressure on the government by driving up its borrowing costs.
UBS estimated earlier this year that some $10 billion of South African bond holdings are indexed to Citi’s World Government Bond Index (WGBI), the biggest of the global benchmarks and tracked by an estimated $2-3 trillion of funds.
The downgrade concerns have been re-ignited after South Africa’s budget on Wednesday saw the Treasury hike its fiscal deficit forecast for this year to 4.3% of gross domestic product from 3.1% in April.
Finance Minister Malusi Gigaba cited shortfalls in revenues and costly bailouts to struggling state-owned companies. He also slashed growth estimates and said it was likely to stay under 2% for the next three years.
For the rating agencies, the scale of the revisions were larger than expected but the directions weren‘t.
“We expected that Treasury would revise down their GDP forecasts for this year and next and so they have,” one of S&P’s top sovereign analysts, Frank Gill, told Reuters, “along with large upward revisions to the deficit for the current fiscal year.”
Perhaps reassuringly in the short-term for the government he added: “Politics will probably trump the near-term macroeconomic performance in South Africa particularly for the local currency rating.”
The biggest unknown Gill was referring to is the jostling ahead of the African National Congress (ANC) conference in December to elect a new party leader to succeed President Jacob Zuma.
Whoever the ANC picks is then likely to take over from Zuma as South Africa’s leader in 2019 when a national election is due.
Moody’s would not comment on Thursday on the impact of the budget.
Zuzana Brixiova, a Moody’s vice president, told Reuters in September that she wanted to hear just how the shortfall in revenues would be handled.
Fitch, which has already cut both South Africa’s local and foreign debt into the non-investment band, made its views clear though.
It said the budget signalled a shift by the Treasury away from commitments to cut deficits and debt and raised worries that there were no obvious plans to limit the damage to the economy.
South Africa’s rand extended losses on Thursday, falling to 11-month lows against the dollar while government bonds were also sharply weaker and Bank stocks fell 2.5%.
“The change in direction of policy making, away from a focus on fiscal consolidation that we anticipated as a consequence of March’s cabinet reshuffle, is under way and occurring faster than we had expected,” Fitch said in a statement.
“We think that divisions in the ANC will persist beyond the party’s electoral conference in December, and it is not clear that the political environment will become more conducive to consolidation.”
Fitch has not published the date of its next review of South Africa.
Gigaba said it was difficult to say how rating agencies would react to his maiden medium-term budget. A Treasury spokesperson said Gigaba had spoken to the three main agencies by phone on Wednesday.
“We were announcing the bad news, we were opening up the books before the nation and saying we have got a difficult story to tell,” Gigaba told a breakfast briefing.
Analysts were becoming wary about whether the country’s bonds may be pushed out of widely used investment grade-only bond indexes.
“A downgrade and exclusion from the WGBI seems as though it is a foregone conclusion in the market,” Reezwana Sumad, chief analyst at Nedbank, said.
“Given an extremely bearish MTBPS report, we believe the risks of credit ratings downgrades before year-end have risen materially.”