SA officially in the junkyard
Turbulent first week for the new finance minister
MALUSI Gigaba’s first week in office has been a baptism of fire as South Africa’s fourth finance minister in just more than a year with two of the world’s three leading credit-ratings agencies downgrading the country’s creditworthiness to “junk”.
Spooked by President Jacob Zuma’s wholesale changes to his cabinet last week and by the political fallout that followed, Fitch Ratings on Friday lowered the country’s foreign and local currency debt to junk. S&P Global Ratings had already cut the long-term foreign currency debt rating to junk (BB+). Moody’s is expected to follow suit soon.
“Two out of three ratings agencies have junk-graded us, so we are officially junk,” said Iraj Abedian, economist of Pan African Advisory.
“It means that a lot of fund managers who are not allowed to be in areas or in countries that are junk-rated will have to pull out of South Africa. When S&P downgraded us, it meant more money wouldn’t come into the country, but now it means that those who are in the country will have to pull out.”
An outflow of investment by pension funds, mandated to invest only in investment-grade economies, may lead to even further weakness in the rand.
US banking giant JP Morgan said on Friday that South Africa would be removed from three indices it runs from April to May. The funds are worth about R816billion ($59-billion).
Bloomberg reports that US investment group BlackRock saw the Brazil, India and Mexico bonds in a more favourable light than South Africa after the second downgrade to junk status.
Peter Attard Montalto, a director at Nomura International, said Fitch was important for a small number of indices from JP Morgan and Barclays.
“The much bigger thing we await is S&P and Moody’s putting local-currency debt into junk and then South Africa will fall out of the World Government Bond index, which will result in much more dramatic outflows, but that may be a one-year narrative still,” said Attard Montalto.
Until March 24, the rand was the strongest-performing emerging-market currency against the US dollar, gaining 10% to R12.43.
In the aftermath of Zuma’s ZUMA MUST GO: A man waves the South African flag during a demonstration in Johannesburg against President Jacob Zuma’s cabinet reshuffle. Tens of thousands of people took to the streets across the country to call for the president to resign decision to recall Pravin Gordhan from an investment trip to London and a subsequent cabinet reshuffle, the rand has weakened 11.27%. It is now the worstperforming of 24 EM currencies tracked against the dollar by Bloomberg.
The rand’s weakness has once again raised inflation fears that had seemed to have receded in recent months.
The likelihood of the Reserve Bank cutting the repo rate for the first time in almost five years had diminished.
Pior Matys, currency strategist at Rabobank said the short-term bias for the local currency was towards further weakening.
The rand, one of the most liquid EM currencies, ended the week at R13.83/$, or 0.5% weaker.
In his first week at the Treasury’s Pretoria head office, during which he held three press conferences, Gigaba failed to reassure ratings agencies that fiscal policy would not be changed as he emphasised an unclear path towards “radical economic transformation” in line with Zuma’s January state of the nation address.
Fitch said in a statement that the downgrade of the long-term debt rating reflected its view that “recent political events, including a major cabinet reshuffle, will weaken standards of governance and public finances” and it would result in a change in the direction of economic policy.
“The [cabinet] reshuffle is likely to undermine, if not reverse, progress in [state-owned entities] governance, raising the risk that SOE debt could migrate onto the government’s balance sheet.”
The agency said differences of opinion on the expensive nuclear programme, which preceded former finance minister Nhlanhla Nene’s firing in 2015, may have contributed to the reshuffle that claimed the scalps of Gordhan and his deputy, Mcebisi Jonas.
Political tension ratcheted higher in the country and the ANC in recent weeks after Zuma’s surprise cabinet reshuffle. Matters have been further brought to the boil ahead of the party’s policy and elective conferences in June and December respectively.
South Africa’s loss of its investment-grade status is the first since the turn of the century. On Friday, the Treasury said in a statement the downgrade was a “setback” but the department remained committed to “making sure that its work with business, labour and the civil society continues in order to improve the business confidence and implefirst ment structural reforms to accelerate inclusive economic growth.”
Gigaba was not available for an interview, said his spokesman, Mayihlome Tshwete.
Nene, whose surprise sacking in December 2015 triggered the first fears of a downgrade and led to market turmoil, described the current situation as “quite serious”.
Countries that find themselves in a subinvestment category will pay a premium on debt following the downgrade, but this could soon reach a stage “where people are just not prepared to extend debt to you”.
Among Fitch’s concerns was that under newly appointed Energy Minister Mmamoloko Kubayi the nuclear scheme was “likely to move relatively quickly” as Eskom had issued calls for information from suppliers and was expected to issue a request for proposals for nuclear power stations later this year.
Kubayi was one of Zuma’s 10 surprise cabinet appointments.
The Treasury under Gordhan indicated that Eskom could not absorb the nuclear programme in its balance sheet and this would lead to the government having to substantially increase guarantees to Eskom.
The government’s contingent liabilities are sizeable since it issued guarantees to public institutions of R308.3-billion by March this year from R255.8-billion a year earlier.
Business Day reported on Fri- day that the SABC had submitted a request for a bailout of sorts.
Outgoing Treasury directorgeneral Lungisa Fuzile, who leaves in mid-May, told Business Times that the funding was not yet confirmed. “The conversation has just started.” But he said new minister Gigaba had made it clear that “we will not spend money we don’t have”.
“It is very important even at this stage to bear in mind and not to doubt the commitment that the minister and his deputy have made to stay in the course of fiscal prudence and protecting the expenditure ceiling as a hard ceiling,” Fuzile said.
Even so, S&P and Fitch felt fiscal consolidation would take less priority, given Zuma’s focus on radical social economic transformation.
Ratings agencies typically focus on growth, debt and other economic fundamentals.
Nene said that “at times they overextend themselves in terms of getting into the politics of the country but the fact of the matter is that their word counts”.
He said emerging-market economies were sometimes treated unfairly. “When there is economic turbulence in the US and UK, it’s not taken in the same spirit and breadth as it is when it is in a developing country. Our fragility, our status as an emerging economy, is also taken into account … we are not treated fairly,” Nene said.
South Africa remains at a critical junction. Banking stocks have lost more than R80-billion since the cabinet reshuffle and
A lot of fund managers will be forced to pull out of South Africa The reshuffle is likely to undermine progress in governance When there is turbulence in the US and UK, it’s not taken in the same spirit
are likely to lose more value since the country’s seven lenders had to be downgraded in line with the sovereign rating.
Cas Coovadia, MD of the Banking Association of SA, said the downgrade would affect the rand and “seriously impact on our ability to attract foreign investment, which is likely to trigger a rise of [prices of] goods and services across the board”.
Retailing billionaire Christo Wiese said: “It’s a negative outcome to the efforts we put in, but to say that all of the good work has been wiped out is dramatic.”
Colin Coleman, MD of Goldman Sachs SA and member of a business and government working group, said: “Whether it disrupts other work on the structural reforms we were sponsoring like the Youth Employment and the Small Micro Enterprise fund we’ll have to reflect on in time”