Debt inertia may put Bank in a tight spot
The budget unveiled by finance minister Tito Mboweni on Wednesday was similar to his previous ones in that it read more like a campaign document than a firm policy prescription. No wonder the ratings companies are not impressed.
There’s no doubting the minister’s good intention. The lack of credibility derives from the final decisions not being up to the Treasury, and it has a mountain to climb as far as getting the rest of the government to buy into its vision. There are too many vested interests who don’t see any urgency to, in Mboweni’s words, “close the mouth of the hippopotamus”.
Fitch Ratings was the more aggressive of the agencies that have reacted so far, bluntly stating that Mboweni’s targets are unlikely to be met and that the absence of a clear and credible plan could lead to a negative rating action. To be more direct, another drop further into junk.
Moody’s Investors Service was the first to issue a commentary on the budget and though it was a bit more subtle, the message was clear enough.
“The speed at which the government recovers its revenue intake and is able to ultimately curb the debt trend will drive creditworthiness,” the agency said in its reaction, which also signalled a healthy dose of scepticism that the Treasury “active” scenario in which a faster economy and curbs on debt lead to stabilisation in the next four years will come to fruition.
And the main reason is internal ANC politics.
When he speaks of the dangers ahead, you almost forget that Mboweni is an ANC insider holding one of the highest offices of state. Rather than ratings agencies and private sector economists, the sceptics are to be found within his party and alliance partners, making it hard for anyone to believe the promised reforms and spending cuts will come.
On the plus side, there isn ’ t likely to be any ratings action at least until October when the minister will present his next medium-term budget policy statement.
What happens between now and then will determine whether SA slips further into junk. That of course will have a profound impact on the country’s ability to fund itself.
As the Covid-19 crisis struck, Reserve Bank governor Lesetja Kganyago was widely quoted as lamenting that the past decade of uncontrolled spending and sluggish growth meant that the country had not fixed its roof ahead of the rains, which then caught it in a vulnerable time.
After looking at the budget, one got the feeling not only was SA not fixing the roof during this period of particularly heavy rains, it was to an extent making the holes even bigger and increasing its vulnerability when the next storm comes.
Not many people will have noticed the government’s intention to use more of its cash deposits and change its funding policy towards borrowing via shorter-dated debt securities. Borrowing on the shorter end does have an immediate advantage in that the interest rates demanded by the market should be lower. But, as was seen in Europe a decade ago, it carries roll-over risks should the payments all become due at a time of market stress and the government be forced to refund at higher rates.
“In a volatile global environment, with weak domestic growth and rising borrowing costs, short-term borrowing has become risky and difficult,” said the government in its Budget Review as it announced that short-term borrowing would increase R98bn to R146bn in 2020/2021.
While the Treasury did its best to plaster the cracks and spare the bond market an immediate jump in issuance, the numbers reminded me of a chat I had had a couple of days before with Dawie Roodt, the chief economist of the Efficient Group. It happened to be the day that the governor of the Bank of England published an article on Bloomberg warning about the danger of “temporary” central bank action becoming a permanent feature of policy.
Just like the Reserve Bank, other central banks cited “disorderly conditions” in March for their interventions in the market, including bond purchases. They varied in their aggression. Lesetja and the rest of the monetary policy committee have insisted that SA wasn’t doing quantitative easing, which is broadly understood to suppress borrowing costs when conventional policy is no longer effective due to rates being already close to zero.
Even before the confirmation that SA’s financing requirement would balloon, Roodt questioned whether the Bank had already got sucked onto a slippery slope. It’s easy to see why he would be concerned. The Bank on average bought just under R11bn of bonds each in April and May, to add to the R1bn acquired late in March when it started the programme. Data for June should be released in the next week.
With the country’s finances looking so dire with no improvement in sight, it’s not unthinkable that further downgrades and investor flight will cause market “dislocations” to become a semi-permanent feature that requires the Bank to be constantly buying bonds.
This might cause investors to question at what point the Bank moves from doing what it’s saying, ensuring liquidity, to what it has vowed never to do, manipulating bond yields to help a free-spending government finance itself.
That’s not an academic question either. The last thing the country needs would be the Bank losing its credibility, with the obvious impact on the currency and bond yields.
YOU ALMOST FORGET MBOWENI IS AN ANC INSIDER HOLDING ONE OF THE HIGHEST OFFICES OF STATE
ON THE PLUS SIDE, THERE ISN’T LIKELY TO BE ANY RATINGS ACTION AT LEAST UNTIL OCTOBER