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The subjectivity of the ratings process leaves a lot to be desired, writes Thami Mtshali
As a businessman, I have seen the South African economic landscape undergo a phenomenal transformation in the past 22 years. This transformation has included milestone developments that leave me perplexed as to why there is a looming downgrade to junk bond status.
Some of these milestones have included the national budget increasing almost tenfold from R100 billion to R1 trillion, the remarkable rise from R700 billion to over R5 trillion in the market capitalisation of the JSE, an average GDP growth rate of just over 3% and an average inflation rate of 5%. On the political front, we have enjoyed great stability, a stability that has enabled us to conduct five free and fair national democratic elections.
That a country like ours could face a downgrade to junk defies logic. It seems paradoxical, especially if you consider that ratings agencies supposedly evaluate a country’s economic and political environment to determine a representative rating.
What then has caused this drastic rethink of our rating? Could it be the recent short-lived replacement of one finance minister with another? But the downgrade in December preceded this event, so that can’t be it.
Unless these agencies can actually pinpoint the exact socioeconomic triggers responsible for this downgrade, I am left with no option but to agree with the notion that the foundation of their decisions can be capricious, at best, and, at worst, a serious cause for concern for a country with otherwise sound socioeconomic indicators.
In its recent downgrade of South Africa’s credit rating from BBB to BBB-, which is one level above junk, Fitch Ratings highlighted a number of reasons for the downgrade, including a weaker GDP growth performance because “various government policies had weakened business confidence”, a negative forecast of an increase in our debt-to-GDP ratio and concern about South Africa in relation to foreign direct investment (FDI) inflows.
What is interesting to note is that Fitch lists the delay of the availability of new electricity generation capacity as a key constraint. What changed from December 2014, when Fitch left the country’s rating unchanged, to December 2015, where we are now on the brink of junk status? I would argue that its reaction to Eskom’s generation capacity issues are delayed – power generation has improved recently, and Eskom has stabilised under new management.
Looking at other key indicators that should guide any change in ratings, it is useful to refer to a recent article by Roelof Botha, economic adviser to PwC. He contends that any change in ratings should be based on objectively verifiable indicators, including the quality of a country’s sovereign debt and its size in relation to the country’s debt-to-GDP ratio, as well as the country’s ability to
attract FDI.
According to Botha, South Africa’s debt-to-GDP ratio remains low by international standards. Last year, this was standing at 47%, which compares favourably to some of the country’s emerging market peers like Brazil (65%), Malaysia (53%) and Thailand (44%).
Our sovereign debt rate is less than half that of the US (102%), which continues to enjoy an AAA rating from Fitch. So how does ours become the source of a downgrade? This absence of a common standard in assessing these indicators renders the ratings process subjective.
Fitch also laments our ability to attract FDI. But Botha quickly dispels this myth by revealing that South Africa claimed the top spot on the continent for FDI inflows, according to the UN Conference on Trade and Development’s latest report. This is not surprising after the recent announcement by Chinese President Xi Jinping that China had already committed R97 billion to identified projects in South Africa and would commit an additional R1 trillion to the continent.
I am not saying there are no challenges in our economy. There are many. But we are still far from the dark abyss that a downgrade to junk would imply.
Remember that, not too long ago, agencies like Fitch played a role in the US subprime mortgage crisis that led to the 2008 financial downturn by giving positive ratings to financial institutions that were overexposed to bad debt.
My only fear is that a country’s credit rating influences its costs of borrowing, and its investor and consumer confidence.
So whether the reasons for the downgrade are logical or not, it still has the potential to adversely affect us.
Mtshali is CEO of Galela Holdings, and the founder and former CEO of iBurst
