In a catastrophic moment for South Africa, credit rating agency Standard and Poor (S&P) downgraded South Africa's credit rating to "junk status".
S&P cut South Africa's credit rating by one notch to BB+, which is S&P's highest non-investment grade mark (or "junk status"), and also assigned Africa's most industrialised economy a negative outlook.
The decision follows President Jacob Zuma’s major Cabinet reshuffle on 31 March 2017, where several ministers, including Finance Minister Pravin Gordhan and his deputy, Mcebisi Jonas, were removed from their post.
Fitch has since followed suit and subsequently also downgraded South Africa to junk status.
A downgrade to junk status means that a country is perceived as a defaulting risk because it can’t pay back what it has borrowed. As a result, investors require higher compensation for the risk taken, expressed in a risk premium. Junk status means that investors have to reassess the risk premiums required when making equity valuations and bond pricing, and premiums paid on insurance against default. This is bad news for many South African businesses.
The credit rating agencies
Credit ratings agencies have played a crucial role in assessing the ability of governments, financial institutions and corporations to pay its debts in full and on time. These institutions have a major influence on investor perceptions of credit risk with International rating agencies S&P, Moody’s and Fitch at the top of more than 70 agencies around the world, claiming 90% of the global market. Needless to say, they are the trusted authority in this area.
Credit ratings are important as they are seen as a confidence barometer in a country's economy. Scoring national governments on how credit-worthy they are helps determine the interest rates countries pay to borrow money.
Moody’s stated the following: "changes within a government do not generally signal material changes in a country’s credit profile. Here‚ however‚ the timing and scope of the reshuffle raises questions over the signal they send regarding the prospects for on-going reforms‚ the underlying strength of South Africa’s institutional framework‚ and the fragile recovery in the country’s economic and fiscal position."
The underlying message here is that even the more established, let alone fragile governments across Africa, are likely be affected economically if they do not demonstrate good governance and a sense of stability. A countries credit-worthiness, and hence investor-attractiveness hinges on several factors, and politics is one of them.
How will this downgrade affect the every-day lives of South Africans?
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The rand will continue to weaken. Reuters has reported that as much as US$10 billion dollars could leave the country. As more people sell rands and buy other currencies instead‚ causing the value of the rand to drop even further.
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A weaker rand means that inflation will rise. Petrol prices and therefore food prices will also rise.
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Interest rates are likely to increase, and South Africans will therefore have to pay more to repay their debt. For example, monthly car payments and home loan payments will increase.
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Taxes are likely to increase further, over and above the marginal tax rates increases announced by the former finance minister in his recent budget speech.
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The costs of interest on government debt was ZAR128 billion or 3.2% of GDP from April 2015 to March 2016. S&P expects this to rise to 4.25% of GDP. This means that just over 4% of GDP would go to interest repayments‚ before even paying off the actual debt.
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Existing tax increases are targeted and likely future tax increases will be targeted at corporations and wealthy and middle class individuals. These corporations and individuals may become less able and less willing to invest their money in South Africa.
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The value of all South Africans' savings, investments and pension funds may decrease.
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Smaller businesses are most likely to take the hardest knock, and as the economy further deteriorates it is foreseen that more companies will go into business rescue or liquidation.
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Although all the signs look bleak, they are no worse than the global economic meltdown of 2008 in which many countries in Africa came out unscathed. South Africans remain resilient. Our banks remain resilient. South Africa also has an independent judiciary which will not be affected by the downgrade and which will continue to give South Africans the necessary protection. We know we have tough times ahead but in every situation there are opportunities, you just have to find them.
The South Africa economy remains the first or second largest in Africa (depending on whether you're speaking to a Nigerian or South African), and accounts for 35% of Africa's GDP. Regardless of its current turmoil, South Africa remains a powerhouse in Africa.
