HomeAnalysisA look into SA credit rating downgrade

A look into SA credit rating downgrade

South African Finance minister Pravin Gordhan was sacked by President Jacob Zuma in a cabinet reshuffle and S&P Global cut Africa’s most advanced economy’s credit rating to junk status. What a week for Zimbabwe’s largest trading partner! The developments in South Africa sent the rand into turmoil with possible negative impacts for Zimbabwe’s economic prospects.

Financial Matters with Tinashe Kaduwo

S&P lowered its credit rating on South African government debt from BBB- to BB+, which makes the debt “non-investment grade” or “speculative”, or in the shorthand term, “junk”. In a statement, the global rating agency cited political mayhem, including the recent sacking of Gordhan, as endangering the economy.

South Africa economic growth has over the years cooled down considerably, expanding by a mere 0,3% in 2016, compared with 1,3% in the previous year. S&P also expressed concern over government debt, and in particular the cost of supporting the state energy firm Eskom. The government guarantees the energy firm 350 billion rand (US$25 billion) of its debt, which is equivalent to about 7% of the nation’s gross domestic product. A downgrade of Eskom’s rating seems also imminent. The financial downgrading is likely to make it more expensive for South Africa to borrow money on the international markets, as lending to the country would be seen as riskier. Its key institutions such as Eskom will also struggle to obtain cheaper funding.

The sacking of Gordhan received strong criticism within South Africa and abroad given his strong record of financial prudence. This sent the rand on a tailspin and the rating downgrade exacerbated the pressures on the rand. Given low economic growth in Zimbabwe’s largest trading partner, credit rating downgrade and political upheaval, the rand is likely to remain under pressure, negatively impacting on Zimbabwe’s economy. An appreciation of the rand will be ideal for Zimbabwe to restore the manufacturing sector and other productive sectors’ competitiveness. A weaker rand makes Zimbabwean market expensive to holders of the rand. Furthermore, a weaker rand increases the appetite for imports, which will impose more competition to local production. Weak domestic demand and high appetite for imports as a result of a weaker rand has over the years rendered the manufacturing sector uncompetitive and also affected the tourism sector. Over 80% of Zimbabwe’s tourists come through our southern neighbour and, as such, rand movements and related developments have strong implications to the tourism sector. However, given strong commitments by major East African airlines to commence direct flights to Zimbabwe’s resort towns, particularly Victoria Falls, opens up the sector to new markets and dilutes the impact of South Africa.

A weaker rand also depresses the dollar value of remittances and slowing South Africa economic growth is not a good sign for Zimbabwe. Zimbabweans, now from across the country, rely on South Africa for both remittances and employment. A weaker rand, therefore, reduces the dollar value of remittances and makes South Africa a less preferable destination for Zimbabweans.

A possible Eskom downgrade poses some risks to Zimbabwe which imports power to augment its electricity supply. The possible downgrade will reduce Eskom’s ability to source cheaper funding, increasing its costs which might then be transferred into its pricing. This may entail a hike in electricity tariffs in the short to medium term or a cut in supply. With Zesa owing Eskom huge amounts in unpaid electricity supply, Eskom may change its selling model to a more cash basis which will further negatively impact the economy. As explained by S&P in the South African context, and Zimbabwe should listen: “Internal government and party divisions could delay fiscal and structural reforms, and potentially erode the trust that had been established between business leaders and labour representatives (including in the critical mining sector). An additional risk is that businesses may now choose to withhold investment decisions that would otherwise have supported economic growth.”

Kaduwo is an economist at Equity Axis. — tinashek@equityaxis.net/kaduwot@gmail.com.

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