It was recently announced that South Africa is in its second recession in two years. The question now is what will happen if Moody’s rescinds South Africa’s remaining investment-grade credit rating. How will local investors be impacted if this happens? In a recent Allan Gray Insights article, Sandy McGregor discusses this possible phenomenon.
“When it placed South Africa on a negative outlook following the Medium Term Budget Policy Statement (MTBPS) in October last year, Moody’s issued a statement which was understood by the market to imply that future rating decisions would depend on presenting in the February budget a plausible plan to bring our rapidly deteriorating fiscal deficit under control, and that failure to present such a plan could result in an immediate downgrade,” McGregor mentions.
According to him, the Budget of 2020 does indeed propose that the growth in government spending be restricted by ending the past practice of automatically escalating the remuneration of public sector employees above the rate of inflation and automatic pay progression. However, Moody’s seems to be concerned as to whether this programme is politically feasible. Without visible progress in reaching a credible agreement between the public sector and trade unions, South Africa’s investment-grade rating is at risk. Nevertheless, Moody’s issued a statement in January saying that given its processes, an immediate downgrade, while possible, is not inevitable and that any decision could be postponed to October 2020.
South Africa has already been rated as a sub-investment grade by S&P. A similar action by Moody’s will result in our eviction from the World Government Bond Index. Investors restricted by mandates to investment-grade assets would be forced to sell their South African bonds.
A sudden repositioning of portfolios could cause a big sell-off in South African bonds and the rand. However, as the market has already downgraded South Africa the impact of the actual event could be short-lived. The economy will adjust to the new reality, with interest rates somewhat higher and the rand somewhat weaker than otherwise would be the case. However, this does not mean that a downgrade can be dismissed as irrelevant. It would be a message that the economy is being mismanaged, which imposes a cost on all South Africans.
Click here to read another article on the topic that was published by Moneyweb.