In a surprise decision, Ratings Agency Moody’s Corporation kept South Africa’s rating for sovereign debt above investment grade (Baa3)and refrained from downgrading the country’s ability to service debt unlike their counterparts at Standard & Poors! However, the outlook changed from stable to negative, which – in line with most recent discussions around corruption, land appropriation without compensation and missing dynamics in restructuring State Companies – did not come as a surprise.
A downgrade by Moody’s to sub-investment grade (junk status) would have removed South Africa from the Citi World Government Bond Index which would have forced many asset managers and pension funds to sell South African bonds, hiking the cost of debt. Before the announcement, the rand firmed more than 1.3% to the US dollar, to trade below R11.70, for the first time since 6 March at R11.69. The local unit closed trade on Friday night 0.97% firmer at R11.73.
Here’s what changed for the rating agency in the last 90 days:
h3. Changes to Treasury, SARS and Public Enterprises
Moody’s hailed the recent change in political leadership, saying it offers “a real prospect of a decisive reversal in the erosion of strength”. The ratings agency said that while it is still very early days, “the speed with which President [Cyril Ramaphosa] has moved to replace the leadership in key institutions, including the Ministries of Finance, Mineral Resources and Public Enterprises and most recently in SARS, illustrates the resolve to address the problems of the recent past and to set the state, society and the economy on a new and positive path”.
Ramaphosa reshuffled the Eskom board in January and in a late-night Cabinet reshuffle on February 26, he replaced Malusi Gigaba with Nhlanhla Nene as finance minister, Lynne Brown with Pravin Gordhan as public enterprises minister and Mosebenzi Zwane with Gwede Mantashe as mineral resources minister. This week, he suspended Tom Moyane and appointed Mark Kingon as acting commissioner of SARS. Moody’s said that prior to this, there had been “a gradual erosion in the strength of some key institutions”, which had impacted negatively on South Africa’s economy and fiscal position.
h3. Improved GDP Growth
Moody’s stated that the changes in political leadership are taking place alongside signs of cyclical, and possibly structural, improvements in economic growth. The South African economy grew by 1.3% in 2017, exceeding Treasury’s forecasts of 0.7% -1% growth. Moody’s described the growth as being cyclical and partly due to one-off-factors such as the end of the drought. Treasury has pencilled in 1.5% growth for 2018 and the rating agency praised the “sharp recovery in business and consumer confidence”, and the improvement of the South African Rand since December.
Moody’s is optimistic that structural reforms are taking place in mining, SOC’s and energy reform and believes that future growth is likely to come from these sectors. The agency is also confident that the improvement in the business climate can be sustained.
h3. Fiscal Consolidation
Moody’s saw the February budget speech as a turnaround from the October Medium-term Budget Policy Statement and described it as having a clear strategy to address rising fiscal pressures with tax hikes and spending cuts, despite the R12bn increase to fund free higher education for 2018/2019.
The rating agency hailed the Value Added Tax (VAT) hike to 15% as significant because it’s the first increase in indirect taxes for over two decades and called it a “marked and credit positive, policy shift”. The VAT Rate increase will come into effect on 1 April 2018.
“Overall, Moody’s now expects the government’s debt burden to stabilise at around 55% of GDP over the 2018- 2020 period”.
h3. Mining Charter Revisions
Moody’s cited the current talks around Mining Charter lll, led by Mantashe, as one of the reasons why South Africa was moved from a negative to a stable outlook. “Satisfactory progress in this area will be an important test of the ANC’s authority and ability to reach the compromises needed to push through a broader reform agenda.” Business, labour and mining communities objected to the previous Mining Charter which was spearheaded by former minister Zwane. The issue was highlighted as a cause for concern by investors who warned that it created policy uncertainty.
The Chamber of Mines agreed to shelve their court challenge in December and hold discussions for a new charter.
h3. Land Reform
Perhaps surprisingly, Moody’s downplayed the National Assembly’s adoption of a motion to consider constitutional changes to land reform and property rights, and instead adopted a wait-and-see approach. The rating agency said it remained unclear how the government will deal with policy and what impact it will have on agricultural production and food security. The way land expropriation is dealt with by the Ramaphosa administration will provide “important insights” how the government plans to balance attracting investment with its commitment to address unemployment, inequality and poverty, according to Moody’s.
South Africa is given a breather, but not a cushion to relax on! The facts on which Moody’s based its decision are only partly home-made, but partly also a mere unforeseen blessing. The reform of the State Companies to stop their fiscal drain on state coffers as well as the day-to-day practice of handling land appropriations will show, whether the outlook might change from negative to stable again, or push South Africa over the brink of investor’s confidence into the abyss of junk creditworthiness!