The likelihood of further downgrades of South Africa’s sovereign credit ratings during 2018 appear to be remote in the light of recent political developments, including the election of Cyril Ramaphosa as the new president of the country.
According to prominent researchers at the University of Pretoria and the North-West University, current positive sentiment and expectations of economic and political stability should prompt rating agencies to seriously consider upward adjustments of their ratings of South African sovereign debt.
Prof Riaan de Jongh, director of the Centre for Business Mathematics and Informatics at North-west University, said that credit rating agencies should seriously consider an upward adjustment of the current rating for South Africa, or at least changing the outlook from ‘negative’ to ‘positive’ due to the ‘forward looking nature’ of the sovereign rating.
According to De Jongh, it will indeed be hard to justify an upward adjustment if credit rating agencies focus largely on historic data and do not recognise fundamental shifts in the future economic outlook for South Africa.
“The state of the nation address by newly elected President Cyril Ramaphosa is clearly the start of a new beginning and a dramatic turnaround in how the government is going to address deficiencies in exactly those factors that will form the basis of the analyses that the rating agencies use”, de Jongh said.
According to Dr Conrad Beyers, Barclays Africa Chair in Actuarial Science at the University of Pretoria, political risks were the driving force behind the decisions by some rating agencies to downgrade South Africa to “junk” status in 2017.
Now that politically related risks such as large scale corruption and financial mismanagement is expected to have less of an impact on the economy, these rating agencies should fundamentally review their ratings, Beyers said.
Beyers pointed out that the decisions by those rating agencies (Fitch and Standard & Poor’s) that downgraded South African sovereign debt to sub-investment (“junk”) grade may be seen as untenable considering indications that the probability of a South African debt default event decreased significantly.
The decision by Moody’s to follow a wait-and-see approach before downgrading South Africa to junk status appears to be largely vindicated in terms of the credibility of their ratings decisions.
According to both Beyers and De Jongh, it will be welcomed if rating agencies are open to explain their modelling and ratings decisions in a transparent and scientifically robust manner.
The researchers recognise that significant downside risks associated with the South African economy remain, including challenges regarding state-owned enterprises and uncertainty regarding the future of property rights.
However, current developments point to a significantly lower likelihood of a South African sovereign default event. On the contrary, a more business friendly environment, non-interference in the South African financial system, as well as guarantees of the independence of the judiciary and National Treasury can be seen as significantly credit positive.
Why a higher rating for South Africa?
When deciding on a country’s sovereign rating the credit rating agencies consider the strength of a country in terms of economic, institutional, and fiscal factors, as well as its susceptibility to event risk. Although the assessment is largely based on historical performance, the rating should be sufficiently forward looking in nature.
In addition, it is universally recognised that credit ratings decisions contain significant subjective elements such as political risk and other socio-economic considerations.
Hence, if there are significant changes in future economic expectations and the political environment, there could be sufficient justification for ratings reviews. In the case of South Africa, it appears to be indeed the case, the
Potential short term effect of upward ratings adjustments
Through upward adjustments in their credit outlook for South Africa, rating agencies will add to the positive sentiment that is currently flooding through South African, and in the process encourage the international community to consider investing in the country.
One should consider that credit rating agencies typically rate all institutions within a country at or below the sovereign rating. A few exceptions exist, but then the institution is not ranked higher than at most two notches above the sovereign rating. The main reason is that sovereigns are viewed by the agency as the lowest risk credit in their local market or currency.
Although rating agencies deny the strict application of sovereign ceilings to the global credit ratings of corporates in the particular country, it is typically not the case.
Therefore, the South African economy can benefit much from an upgraded sovereign credit rating.