Downgrade could create weaker rand, higher inflation

Cape Town - The need for sustained growth is what separates South Africa from greater creditworthiness in the eyes of the three major international ratings agencies, according to Izak Odendaal, investment strategist at Old Mutual Multi-Managers.

Should a ratings downgrade occur, higher interest rates could apply in which case government would be required to spend more to service its debt. As such, spending in other important areas would need to be sacrificed, explained Odendaal.

He is concerned that a downgrade could result in a weaker rand which would push up inflation. In his view, markets are typically forward-looking and probably already largely reflect the risk of a downgrade. It is his hope that ratings agencies will be broadly satisfied with positive aspects that took focus this year. These include SA’s institutional strength and Treasury’s plans to trim spending and raise taxes.

“While the economic growth rate is expected to improve in the next two years, the likelihood of a credit ratings downgrade by at least one agency remains high unfortunately, Odendaal said at credit bureau Compuscan's recent Credit and Decision Analytics Conference.

“The most imminent risk is, therefore, that S&P Global cuts SA’s foreign-currency rating to a ‘junk status’. However, our local currency rating is likely to remain at ‘investment grade’. Most of government’s borrowing happens in local currency, thanks to the country’s large and sophisticated local capital markets – something that few emerging markets have achieved.”

Moody’s did not issue a ratings decision as expected last week and Fitch left South Africa’s ratings unchanged. However, Fitch changed the outlook on its rating from stable to negative, suggesting a downgrade to sub-investment grade status in 2017 is still a possibility.

READ: Ratings decision vindicates govt, labour and business efforts - CEOs

Despite challenges over the past few years, including falling commodity prices, load-shedding, prolonged strikes, a severe drought and rising interest rates, Odendaal pointed out that the impact of these shocks is in the process of fading and that growth could normalise to pre-2014 levels.

Frank Lenisa, chief marketing officer at Compuscan, said one of the biggest contributing factors inhibiting significant economic growth is that South Africans lack confidence. One of the big challenges is the unemployment rate which has risen to 27.1%, according to Statistics SA.

“To turn the current situation around, a strong focus needs to be placed on reinstating consumer and business confidence. One of the predominant ways that we at Compuscan see that happening, is through entrepreneurship,” said Lenisa.

He explained that entrepreneurial initiatives have the power to generate an income, to create employment opportunities and to stimulate a positive ripple effect. For this reason, Compuscan encourages responsible business-to-business lending to provide entrepreneurs with the means to put their business plans into action.

“Credit is a resource that, when managed well, not only enables the start-up and growth of businesses, but aids the proper functioning of the economy,” said Lenisa.

“Even if South Africa manages to escape a downgrade in six months’ time, its proximity to the ‘danger zone’ is good enough reason for us to work hard towards contributing to the growth of the economy and thus the country’s creditworthiness.”