IMF Spurned as Gordhan Dares Ratings Action: South Africa CreditRobert Brand and Mike Cohen
South African Finance Minister Pravin Gordhan is spurning the International Monetary Fund’s advice on debt and risking sovereign downgrades by boosting borrowing faster than projected to counter falling tax revenue.
Gross government debt will increase to 44.8 percent of economic output this fiscal year, more than the government’s February estimate of 43.2 percent, Gordhan said yesterday in his mid-term budget review. That compares with 35.9 percent at the end of 2012 for similarly rated Mexico. South Africa’s debt will climb to 47.7 percent of gross domestic product in 2017 before stabilizing, the Treasury said.
The finance minister is being squeezed by waning tax collection as government forecasts show economic growth slumping to 2.1 percent this year, the slowest pace since the 2009 recession. That is forcing him to pile on debt even after the IMF advised targeting a ratio of 40 percent and Moody’s Investors Service said failure to curb borrowing would threaten the nation’s credit rating.
“Gordhan made it very clear that the budget policy framework for the next three years is designed to manage risk in a constrained fiscal policy environment,” Arthur Kamp, an economist at Sanlam Investment Management, which oversees the equivalent of about $33 billion, said by phone from Cape Town yesterday. “That says he is very aware of the risk of a rating downgrade.”
With strikes at gold mines and carmakers disrupting output and a sluggish global economy holding back exports, Gordhan, 64, cut his 2013 GDP forecast for Africa’s largest economy from a February estimate of 2.7 percent and last year’s 2.5 percent increase. Government debt was 42.4 percent of GDP last year.
Growth will accelerate to 3 percent next year and 3.2 percent in 2015, the Treasury said. With an election six months away, Gordhan pledged to maintain spending limits, allowing him to meet this year’s budget deficit target.
The shortfall is estimated to reach 4.2 percent of GDP in the year through March, unchanged from last year, Gordhan said. The Treasury restated deficit figures, in line with international reporting standards, to include extraordinary receipts, such as profit on bond sales and foreign-currency transactions. The gap is forecast to narrow to 4.1 percent, 3.8 percent and 3 percent respectively in the next three fiscal years.
“We feel that our debt ratios are still OK,” Lungisa Fuzile, director-general at the National Treasury, said in an interview yesterday. “If the growth rate normalizes at 3 percent-plus, and we stick to the spending ceiling, we should very quickly reach a peak and stabilize.”
While tax collection this year will fall a “minuscule” 3 billion rand ($307 million) short of February’s projection of 899 billion rand, downward revisions of revenue in subsequent years will probably be “significant,” boosting the government’s borrowing requirement, Fuzile said.
The rand has declined 13 percent this year, the most of 16 major currencies tracked by Bloomberg. The currency gained 0.3 percent to 9.7620 per dollar as of 4:09 p.m. in Johannesburg. Yields on benchmark 10.5 percent bonds due Dec. 2026 climbed five basis points, or 0.05 percentage points, to 7.76 percent. The yield has increased 51 basis points since Gordhan’s February budget speech.
Moody’s downgrade came a month before Gordhan’s 2012 mid-term budget and was followed by rating cuts from Standard & Poor’s and Fitch Ratings. Moody’s ranks South African debt at Baa1, the third-lowest investment grade and on par with Thailand and Russia. S&P downgraded the nation in October last year to BBB, its second-lowest investment grade, and Fitch followed with a similar cut in January. Moody’s and S&P have a negative outlook on the rating, indicating they may lower it further.
“It’s too early really to take a different stance on the potential risks we have outlined in our negative outlook,” Konrad Reuss, head of S&P’s sub-Saharan African unit, said by phone from Cape Town yesterday. “The economic situation is very tricky, very challenging. With regard to the budget this year and next year, there are certain implementation risks which still should be reflected in a negative outlook.”
South Africa’s debt metrics don’t warrant the negative outlook, Gordhan said in an interview with Radio 702 in Johannesburg yesterday.
“Konrad unfortunately has a rather negative view on South Africa, and I’m not sure why he lives here,” Gordhan said on Radio 702. “What the rating agencies need to be reminded about is that we are not in the same situation as countries with a 180 percent, with a 200 percent debt burden, and we’ll get our act together.”
Moody’s New York-based Senior Vice President Kristin Lindow didn’t immediately respond to e-mailed questions. Axel Schimmelpfennig, the IMF’s senior representative in South Africa, also declined to comment.
The lower GDP forecasts point to potential challenges for the government, said Carmen Altenkirch, Fitch’s London-based South Africa analyst.
“Further downward revisions to growth forecasts highlight the increasingly difficult environment the South African fiscal authorities face in balancing fiscal prudence against the need for counter-cyclical policy, and the economic and social challenges the authorities will face if growth continues to stagnate,” Altenkirch said in e-mailed statement.
The mid-term budget showed “little evidence of fiscal slippage related to” spending increases, Michael Grobler, who helps manage the equivalent of about $430 million in fixed-income assets at Atlantic Asset Management in Cape Town, said in an e-mail. “That should lessen the risk of a near-term sovereign credit rating downgrade. The concern for me is the higher debt-to-GDP profile that puts the risk of a rating downgrade on the table beyond next year’s election.”
Investor perceptions of South African credit risk are increasing. The cost of insuring the nation’s dollar debt against default for five years rose four basis points, or 0.04 percentage point, yesterday to 173. The contracts have gained 31 basis points this year. The extra yield investors demand to hold South Africa’s dollar bonds rather than U.S. Treasuries climbed 98 basis points to 261 in the period.
“Those slippages are not the result, as some would like to believe, of excessive spending or, as some ratings agencies say, populist pressure, but rather events that have objectively taken place in the economy, which have resulted in lower revenue,” Gordhan told reporters in Cape Town before his speech yesterday. “We are running a sustainable fiscal ship and hopefully the ratings agencies will do their homework.”