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The meaning of a less than 50% chance of a Moody’s downgrade

‘Only Venezuela and I think Argentina have become less [economically] free at a faster pace than South Africa’ – Russell Lamberti – ETM Analytics.

SIKI MGABADELI:  Moody’s said today that the probability of a credit-rating downgrade for South Africa is about 33%. However, it warned that a cut was likely if economic growth fell below its estimated growth of 0.2% for this year. Moody’s expects growth to increase to 1.1% next year and to 2% gradually over the next several years. The agency is expected to provide an update on our rating on November 25 as it now follows a schedule in line with European rules, in terms of which it will now pencil in three dates each year on which it could confirm, downgrade or upgrade South Africa’s sovereign rating

So what does this all mean? Let’s ask Russell Lamberti, who is with ETM Analytics. Russell, thanks so much for your time today. I suppose we can take it as a little bit of relief. But there is still a lot of work ahead of us, isn’t there?

RUSSELL LAMBERTI:  Hi, Siki. Good to be with you. Yes, there definitely is. I think we place a lot of emphasis on the ratings agencies. They are important institutions, but they are not as prescient as necessarily anyone else. They’ve got good analysts, but markets are also able to look into the future as are various other kinds of investors. So Moody’s have a particular view; they are typically a more lenient, probably the most lenient, ratings agency of the three big ones. But I think they are also highlighting concerns that are well known, which is that growth is very weak and there are structural problems in the SA economy.

What I’m interested in is how Moody’s gets to those 2% forecasts in a few years. I’m interested in their thinking around how we actually start growing because private-sector investment is very weak, global growth, if anything, is slowing and we are very late in the global expansion cycle. Arguably there are recession risks looming over the next few years overseas. So it’s very difficult to see how South Africa is going to grow out of this problem over the next couple of years, and that is obviously a concern.

SIKI MGABADELI:  And one obviously saw that in the recent GDP numbers when you looked at gross fixed capital formation, for example – that there is not a lot of that happening in the economy. There was some hope, Russell, earlier this year when the crisis hit and we were hit with this possibility of a downgrade, and we saw politicians, business and labour all rallying together to say let’s make this thing work. Would that sort of strengthening of that kind of a partnership maybe not pull us through this particular downturn?

RUSSELL LAMBERTI:  Unfortunately with things like that it’s usually style over substance. So business, labour and government getting together sounds good. It’s just that it never seems to produce anything tangible. I suspect because the ideological differences are still so big. And so they get in one room but they don’t seem to be able to agree on much. The last time they had a big agreement was to basically reinstate Pravin Gordhan, and that kind of calmed things down in December after Nhlanhla Nene was fired.

But this is very small progress. The kind of reforms that South Africa requires is to move in the opposite direction to the trend over the past ten years or so, which is that it’s becoming an increasingly unfree economy. In fact, only Venezuela and I think Argentina have become less free at a faster pace than South Africa.

So economic freedom has to be right up there on the agenda, and no one is really talking about it, not really even the so-called good guy, Pravin Gordhan, and the Treasury Department.

Yes, they are talking about some mild reforms in the state-owned enterprises, they are talking about better governance, but we need a fairly radical period of deregulation in this country and an opening of markets. This is what South Africa’s is craving, and that’s really what’s going to deliver growth. It’s been the empirical record for the past 100 years that countries that do that, grow out of their problems and grow well. That’s really the decision that has to be taken, and I’m not seeing much impetus from that at a policy level at this stage.

SIKI MGABADELI:  I was going to say that would require political will and, right now, we seem to have political division rather than unity to make those tough decisions.

RUSSELL LAMBERTI:  Well, you know, there is always some hope. So the ANC took a big beating in the 2016 municipal elections, and a good outcome from that can be that they respond to stronger DA opposition by moving more towards the centre and further away from the left, which they’ve been moving towards over the last number of years.

I suspect what we need to emerge out of the ANC is a much stronger centrist market-friendly faction. I agree, it’s not going to be easy and there is a lot of political infighting. So unfortunately while the politics sorts itself out, the man on the street, the average man and woman out there, does suffer because in this deadlock it’s forgotten that we are really under some major structural constraints here.

And, quite honestly, Siki, it doesn’t really matter what Moody’s or what anyone else says – of course those ratings do have actual implications – but really the currency market is a very efficient market and the currency market has really told the story over the last year or two. That’s essentially where the effective downgrade has already happened. The rand going up to R16/dollar was very much the downgrade. The fact that it’s actually come back a little bit is somewhat positive and I think is a reaction to some of the soft political reform and fight-back that we’ve seen from South Africa’s institutions.

SIKI MGABADELI:  And it hits straight in the pocket, doesn’t it, with purchasing power?

RUSSELL LAMBERTI:  It hits us hard. But keep an eye on the currency markets, because that’s really the big story here.

SIKI MGABADELI:  We’ll leave it there. Thanks to Russell Lamberti, MD at ETM Analytics.

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