On Friday, 21 May 2021, credit rating agencies Standard & Poor’s and Fitch affirmed South Africa’s long-term foreign currency debt rating of BB-, which is three notches below investment grade.
The announcement echoed sentiments expressed by Moody’s earlier in the week, who also maintained their Ba2 debt rating, leaving South Africa two levels deep into sub-investment grade, with a negative outlook. While all three rating agencies have marked South Africa’s local currency debt to two notches below investment grade, S&P remain the only agency to attach a stable outlook to the sovereign’s debt rating.
Notable improvements in public finances were the main drivers of this outlook, buoyed by the budget deficit coming in at 11.1% of GDP in FY20/21, versus Q4 2020 median expectations of 15.5%. This outcome broadly implied some turnaround in fiscal prudence and more efficient tax revenue collection efforts. Furthermore, South Africa’s favorable debt structure, with a low share of foreign currency debt and long maturities, submits that financing challenges have become less of an issue. The relative strength of local institutions and well-entrenched democratic processes highlighted by the World Bank Governance Indicator’s (WBGI) medium ranking also alleviated some concern amid enquiries into state capture.
Over the short-term, South Africa’s GDP growth is expected to be supported by low base effects and a strong recovery in commodity prices. The absence of sustainable trend growth owed to constrained electricity supply, high levels of unemployment, and continued risks to debt stabilisation, explicitly reflects the negative outlook presented by Fitch and Moody’s.
The International Monetary Fund (IMF) now expects medium term growth to be anchored at less than 2%, which is a key constraint in fiscal consolidation efforts. Furthermore, South Africa devotes a high share of GDP to public sector wages to the tune of 14.8%, which is the third highest among OECD member nations. The reluctance of trade unions to uphold a tabled wage freeze could further contribute to the 40% real increase in the public sector wage bill incurred over the last 12 years.
From an investor point of view, slow progress towards reducing the debt burden of beleaguered State-Owned Enterprises, rising risks of a third COVID-19 wave and increasing global inflation pressures, are also expected to exert moderate pressure on yields, where the local bond curve is envisaged to bear-flatten. On the balance of these risks, global policy authorities continue to remain accommodative, where any material sell-off in bonds is likely to attract some bidding support underpinned by high levels of global liquidity.