Business Day

What are the chances that SA will have to seek IMF bailout?

We can avoid debt crisis if we control spending, reform SOEs and enhance economic growth

- Times ● Knee is chief investment officer at Prudential Investment Managers.

In the wake of the gloomy numbers set out in finance minister Tito Mboweni’s medium-term budget policy statement (MTBPS), there is increasing concern among investors that SA will have to turn to the IMF for a bailout to fund the country’s growing debt.

In the policy statement, the government budget deficit showed a worrying increase to 5.9% of GDP for this financial year from 4.5%, peaking at 6.5% next year and returning to 5.9% in 2022/2023.

At the same time, the total debt burden was adjusted higher at 61% of GDP from 57% in the current year, rising to 71% by 2022/2023 in the absence of any further measures to constrain expenditur­e or raise revenue.

Investors and the global credit-ratings agencies were disappoint­ed by Mboweni’s failure to show a clear path towards reducing debt levels over the next three years in the face of still sluggish GDP growth and high-spending requiremen­ts.

It also increased the likelihood of downgrades to come, a fact confirmed in the responses of Moody’s Investors Service and S&P Global Ratings, where they noted the deteriorat­ion and potential for further downgrades if no action is taken.

In reaction, the rand and local bonds sold off to reflect these concerns. But despite it all, are we really approachin­g a fiscal cliff and the need for an IMF bailout? Is there a debt level at which countries are “automatica­lly” considered to have reached a debt crisis? It turns out there is no agreed “magic number” for a country’s debt-to-GDP level at which it becomes “too high” and will negatively affect the economic growth rate or will require an IMF bailout.

All countries have a unique story. However, there are indicative academic studies that can provide direction for SA.

Some of those undertaken after the global financial crisis focusing on the effect of gross debt levels on economic growth have found that there has been a weak relationsh­ip between the two. They did find, however, that once a nation’s debt-GDP ratio passes 90% or so, the effect on economic activity from the government taking on additional debt is negative.

This is corroborat­ed by research by the European Central Bank and the Bank for Internatio­nal Settlement­s.

If we look at Argentina, which received its most recent IMF bailout just over a year ago, the country’s debt-GDP ratio had risen to 60%, but importantl­y a high proportion of this was held offshore. Also, inflation had risen to 50% and the peso had depreciate­d significan­tly.

Consequent­ly, the government had difficulty repaying its hard currency debts and the IMF had to step in to help. Many IMF bailouts have occurred in similar conditions, such as Russia in 1997 and Ghana in 2015.

The issue is not necessaril­y a country’s total indebtedne­ss, but the extent to which it has borrowed in foreign currency.

The government cannot print dollars, euros or yen, and if its economy deteriorat­es it can’t borrow the currency to repay its existing debt, so a crisis develops.

So how does SA compare? While our current debt-GDP level, at about 60%, is in line with the levels of Argentina,

Russia and Ghana before their IMF interventi­ons, only about 10% of government debt is denominate­d in foreign currencies and this debt has an average weighted maturity of 10 years. Additional­ly, our inflation rate is contained at about 4%.

A further differenti­ator is the structure of our government bond market, where unlike many other emerging markets bonds are issued at maturities out to 30 years, making refinancin­g risk limited.

In fact, SA’s domestic bond market has the second-longest maturity profile in the world (after the UK), creating a structural strength in our financial market that sets us apart from many other emerging markets.

That is not to say we shouldn’t be alarmed by the current debt trajectory on which the SA government finds itself. It is a serious situation, particular­ly as we are being forced to spend more and more of the government’s scarce budget on higher interest repayments.

This is why it’s vital that the government develop specific plans to control spending, reform indebted state-owned enterprise­s, enhance economic growth and limit any further expansion of the borrowing requiremen­ts.

Measures to achieve these aims will hopefully form part of the February 2020 budget. The market and ratings agencies are now looking to this for signs that a serious reform agenda is under way.

THE MARKET AND RATINGS AGENCIES ARE LOOKING FOR SIGNS THAT A REFORM AGENDA IS UNDER WAY

 ?? Esa Alexander/Sunday ?? No clear path: Investors and credit-ratings agencies were disappoint­ed by lack of clarity on cutting debt in finance minister Tito Mboweni’s medium-term budget policy statement. /
Esa Alexander/Sunday No clear path: Investors and credit-ratings agencies were disappoint­ed by lack of clarity on cutting debt in finance minister Tito Mboweni’s medium-term budget policy statement. /
 ??  ?? DAVID KNEE
DAVID KNEE

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