Credit rating agencies should consider upward adjustment of current rating for South Africa
22 February 2018
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, notably the election of Cyril Ramaphosa as the new president of the country.
This is according to a media commentary released by two eminent academics, Dr Conrad Beyers (Barclays Africa Chair in Actuarial Science at the University of Pretoria) and Prof Riaan de Jongh (Director of the Centre for Business Mathematics and Informatics at North-West University).
They believe that the current positive sentiment and expectations of economic and political stability should prompt rating agencies to consider upward adjustments of their ratings of South African sovereign debt.
Prof De Jongh says 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 Prof De Jongh it will 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. He believes that the state of the nation address by newly-elected President Cyril Ramaphosa is clearly a new beginning and a dramatic turnaround in indicating 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.
Dr Beyers considers political risks as the driving force behind the decisions of some rating agencies to downgrade South Africa to junk status in 2017. He is of the opinion that since politically-related risks such as large scale corruption and financial mismanagement are expected to have less of an impact on the economy, these agencies should fundamentally review their ratings.
Dr Beyers also points out that the decisions by Fitch and S&P which 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, lending credibility to their ratings decisions.
The two experts agree that it will be welcomed if rating agencies are open to explain their modelling and ratings decisions in a transparent and scientifically robust manner.
Both Prof De Jongh and Dr Beyers 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 business-friendly environment, non-interference in the South African financial system, and guarantees of the independence of the judiciary and National Treasury can be seen as significantly credit positive.
According to the commentary 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 when deciding on a country’s sovereign rating. Although the assessment is largely based on historical performance, the rating should be sufficiently forward-looking in nature.
In addition Prof De Jongh and Dr Beyers belive that it is universally recognised that credit ratings decisions contain important subjective elements such as political risk and other socio-economic considerations. Significant changes in future economic expectations and the political environment could be sufficient justification for ratings reviews and it appears to be the case with South Africa.
The researchers added that through upward adjustments in their credit outlook for South Africa rating agencies will add to the positive sentiment that is currently flooding the country, and in the process encourage the international community to consider investing in the country.
The media commentary cautions that one should bear in mind that credit rating agencies typically rate all institutions within a country at or below the sovereign rating. Although a few exceptions exist, the institution is never ranked higher than 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. Rating agencies deny the strict application of sovereign ceilings to the global credit ratings of corporates in the particular country, but this is typically the case.
The commentary by Prof De Jongh and Dr Beyers makes it clear that the South African economy has much to gain from an upgraded sovereign credit rating.
Note: The University of Pretoria hosts the Barclays Africa Chair in Actuarial Science—the views expressed by the holder of the Chair do not aim to represent any stance or viewpoint of Barclays Africa.
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