Rating agencies likely to downgrade SA by at least one notch
By Annabel Bishop
JOHANNESBURG - This year's Medium-Term Budget Policy Statement (MTBPS) has projected a further deterioration in the government’s debt-to-gross domestic product (GDP) projections and fiscal deficits.
Over the medium-term, gross debt is projected to now stabilise at 95.3percent of GDP in 2025/26, from 87.4percent of GDP for 2023/24 that was outlined in June’s Supplementary Budget Review.
The rating agencies are likely to downgrade South Africa on the back of this Budget, as the key objective of any credit rating agency is to assess ability to repay debt, and South Africa is evincing even further fiscal slippage from the June Supplementary Budget Review estimates.
The deficit is now expected at 15.7percent of GDP this year, from 6.4percent of GDP last year in 2019/20.
The 2020 MTBPS has outlined substantial cuts to its non-interest expenditure projections - R300bn over three years - with the majority of the cuts to be applied to the wage bill (not social welfare or infrastructure), while acknowledging that there will likely be legal consequences to cutting the wage bill, and to its proposed three-year wage freeze.
While these expenditure cuts are largely in line with the expectations from the markets, it does not nullify the massive rise in South Africa’s future debt quantum announced in June, and with a further elevation of debt projections to even closer of 100percent (above 100percent with state-owned- enterprise debt the state guarantees) this is not seen as sustainable for an emerging market.
The rand has weakened in response, to R16.50 against the dollar, as South Africa’s credit risk, which is the perceived risk of default, has risen further, as the sheer quantum of debt issuance is projected to just climb further, which will increase borrowing costs (interest expenditure), and likely lift bond yields, with foreign appetite for South African debt dwindling.
That said, the budgeted figures today do present more realistic projections for South Africa both on the debt and fiscal deficit side, as does the realism that severe tax hikes will cause slower economic growth, and not yield what is needed to plug the revenue gap given the very low tax buoyancy ratio.
Today’s Budget is not a full austerity budget, but it certainly contains austerity with very substantial expenditure cuts detailed over the Medium Term Expenditure Framework (MTEF) (2021/22 to 2023/24), and there is a notable shift in expenditure from consumption to infrastructure for the purpose of enhancing growth.
However, investors and rating agencies swill worry over the ability of government to implement the cuts, which detail a R60bn cut in the first year of the MTEF, a R90bn cut in the second year of the MTEF and a R150bn cut in the third year of the MTEF, a staggered approach which will require departments to adjust spending.
Union opposition is likely to be strong, as the voracity persist, but South Africa needs to rein-in expenditure, which has not had a material multiplier effect on GDP, and instead has seen GDP growth decline over the past decade, despite higher and her public sector remuneration in total. The rating agencies will view the planned expenditure cuts positively.
National Treasury has revised down its growth forecast to -7.8percent year-on year (y/y) for this year (previously -7.2percent y/y), and 3.3percent y/y next year from 2.6percent.
Tax revenues are expected R312.8bn lower than in February, deteriorating further from the Supplementary Budget Review, while tax increases of R5bn are scheduled for next year, but likely will mainly be raised by failing to adjust for fiscal drag.
Eskom receives an allocation of R23bn and SAA R6.5bn for settling debt and interest and R10.5bn for SAA to implement its business plan, while Icasa is detailed R84.7m for the licensing of spectrum due March next year. Eskom is a priority for growth, but the allocation to SAA, which is more than the level of taxes to be raised next year, was met with market dissatisfaction as it is not needed for economic growth.
There has been ongoing fiscal slippage in South Africa as public finance figures deteriorate each year, and fiscal consolidation remains elusive as South Africa moves ever closer to an unsustainable debt trap. Some fiscal consolidation is planned by closing the budget deficit to 7.3percent of GDP by 2023/24 and stabilising the debt to GDP ratio by 2025/26. This, however, is not marked fiscal consolidation, and does not bring the fiscal deficit down to the accepted 3 percent of GDP, or the debt projection down to around 50percent of GDP, and so will not likely be seen as a game-changing positive factor, and so not allay rating downgrades in November.
Yesterday’s Budget has, however, taken a much more significant step than has occurred in the two earlier this year, and those over the past decade by focusing heavily on expenditure cuts, and the correct methodologies to raise economic growth and so repair its finances over the long haul.
The rating agencies may avoid downgrading South Africa by two notches at their country reviews on November 20 this year, but not enough has been done overall to comfortably avoid a one notch downgrade, especially as both Moody’s and Fitch already have South Africa on a negative outlook.
Annabel Bishop is the chief economist at Investec.