Welcome to the Junk Banana Republic

S&P Global recently downgraded South Africa’s sovereign debt rating to junk status, with Moody’s and Fitch expected to follow suit.

This means that South Africa’s cost of borrowing will go up, which drives up inflation, weakens the currency, and leaves less money for the government to spend.

This is bad news for ordinary South Africans, who can expect to pay more for goods, and pay more on their house or car loans.

South Africa’s credit rating is now on par with countries like Azerbaijan, Indonesia, Cyprus, Bulgaria, and the Bahamas.

To put it into perspective, we now have a worse credit rating than Kazakhstan, Morocco, Colombia, Panama, and the Philippines.

Business Day editor-at-large Hilary Joffe explained that S&P has also set the country’s outlook to negative, which means another downgrade may be in store in June.

She said Moody’s decision to put South Africa on review may be an indication that it is also pondering a downgrade to junk status.

Financial Mail deputy editor Sikonathi Mantshantsha said he does not see any reason why Fitch should not also downgrade South Africa to junk status.

“Welcome to the junk Banana republic,” said Mantshantsha.

Outflow of capital

Joffe said investors with mandates which limit them to investment-grade-only investments will have to exit South African debt which now has a junk rating.

This often happens when a minimum of two agencies have downgraded a country to junk status, which is why Moody’s and Fitch’s decisions are so important.

In the case of rand-denominated South African debt, it can mean a big outflow of capital from the country – bad for the rand and our balance sheet.

Another big concern is that if South Africa receives a junk rating by two agencies, it falls out of the Emerging Markets Bond Global Index.

This will result in many index tracking funds having to exit their local investments, which will again result in a rapid outflow of capital.

A death spiral

All of the effects of a ratings downgrade mean it is unlikely that South Africa will meet its growth targets and may dump the country into a recession.

Without strong growth, it will be difficult for South Africa to stabilise and service its debt, which may result in a further ratings downgrade.

The slower growth also means there will be less employment, less tax collections, and less money for infrastructure projects.

It is therefore not surprising that many countries which have hit junk status never return to an investment-grade credit rating.

Impact of junk status

The graphic below provides an overview of the impact of junk status on ordinary South Africans.

Junk

Now read: Rand hammered after South Africa gets junk status

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Welcome to the Junk Banana Republic