SA downgraded to “junk status”
CONTRIBUTED BY Shawn Phillips, Research & Investment Analyst at Glacier by Sanlam
A lot has been said in the media over the last few weeks regarding the possibility of whether South Africa (SA) would be downgraded to “junk status” by Moody’s and thereby be forced to exit the FTSE World Government Bond Index (WGBI). Emphasis was placed on the implications for our stumbling economy, the government, corporates, consumers and what the government is required to do in order to avoid a possible downgrade. On Friday night, 27 March 2020, Moody’s finally downgraded SA to “junk status”, bringing it in line with peer rating agencies S&P and Fitch. The downgrade by Moody’s does not come as a surprise as they have been lenient with us, but the timing is not ideal as we are fighting a global pandemic in the coronavirus. The key reasons for the downgrade are structurally weak economic growth; constrained capacity from a government perspective to stimulate the economy; and the exponential rise in government debt. For the remainder of this article, we will touch on what a sovereign credit rating is, what “junk status” means, and then take stock of the implications for clients going forward.
What is a sovereign credit rating?
A sovereign credit rating expresses an opinion regarding the ability of a country to meet its financial commitments. The respective rating agencies utilise various measures that allow them to gauge a country’s social, economic and political position in order to determine the probability of a country defaulting on its repayments. To explain this, let’s assume that the rating agencies are banks and that they are lending money to SA. Given that governments do not typically default on their debt as they can increase taxes for SA residents to cover the increase in costs.
What does “junk status” mean for SA and its citizens?
The bottom line is that it will cost our government more to borrow money from the market. Fortunately, most of our government debt is denominated in rand, making up 90%, with the rest in foreign currency. Currently, government spends close to R229 billion in interest payments with our total debt amounting to R3 trillion. This impact will also be felt by SA consumers, who are highly indebted and continue to finance their lifestyles through debt. Their cost of servicing this debt will become more expensive. The sad reality is that this comes at a difficult time, given the coronavirus and the potential impact on businesses and consumers. We could see retrenchments, higher taxes and government could be forced to spend less on social programmes to cover the increase in their interest payments.