It has been a torrid year for investors in the world’s largest emerging markets (EMs), as all of the Brics bar India have become riskier this year.
China’s wobbles are well documented, although it still commands an A grade, lying 41st in ECR’s global rankings.
However, with Brazil in freefall, and Russia mired in a geopolitical gridlock and an economy on its knees, the question is whether S&P is about to make South Africa its third junk-status Brics borrower.
South Africa’s country-risk score stabilized in Q3 2015, but it still slipped down Euromoney’s global rankings, falling one place to 60th out of 186 countries surveyed.
Six places below Brazil in the survey, it seems illogical the sovereign should retain its investment grade given that S&P rates Brazil BB+.
Bloomberg argues CDS spreads warrant a downgrade, and comparing Euromoney’s various risk factors provides some clarity:
As the chart shows, the majority of South Africa’s economic and political risk scores are worse than Brazil’s, two are the same, and only on government stability is South Africa higher.
Three of the four structural indicators (not shown) are also worse.
South Africa like Brazil – indeed all of the Brics – is on a five-year downward trend in ECR’s survey; the falling scores signifying increased risk.
Investors are losing faith in EMs, but South Africa demonstrates it isn’t just the China factor or the anticipated tightening from the US Fed which are at fault.
Economic growth is under pressure from a variety of factors, not only low commodity prices but also strikes and electricity shortages.
GDP will rise in real terms by 1.5% this year and next, the IMF predicts, and employment growth is non-existent. Some private experts are anticipating growth might be lower.
At 4% of GDP, the current-account deficit is still above comfortable levels, and is weighing on the rand with commodity prices under pressure.
Domestic political risk is a problem too.
The country has seen mass unrest from students demanding free education. Student fees are frozen next year, exacerbating the fiscal pressures heightened by weak revenue growth and higher-than-planned public spending, bumped up by strong growth in civil service wages.
“A noticeable trend is the higher frequency – and intensity – with which social and labour unrest is taking place,” says Colen Garrow, a South Africa-based economist at Meganomics, and one of ECR’s survey contributors.
Garrow notes the platinum mine strikes in 2014 were the longest on record in South Africa’s history, affecting not only the mining industry but also the retail sector, as the no-work-no-pay policy at mines meant less income for miners, their employees and the National Treasury through tax revenue.
Medium-term deficit projections, although showing a declining trend through to 2017/18, have been raised, and the education and healthcare financing required to meet expectations will only worsen the fiscal metrics.
“Reducing the budget deficit to below 3% of GDP will take longer, and government debt is expected to be close to 50% of GDP by 2019,” says ECR expert Isaac Matshego, an economist at Nedbank.
A rating downgrade is likely, he believes, albeit not imminently, and only if the fundamentals worsen.
Garrow broadly concurs, mentioning South Africa will have a tough time convincing the rating agencies the twin fiscal/current-account deficits are sustainable, especially, he says, “with the weak GDP projections which have been made over the following three years”.
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