Rand meltdown brings recession, junk rating closer to SA


Johannesburg - South Africa is moving closer to a recession and possible credit-rating downgrade to junk after the rand collapsed and as investors lose faith in the ability of President Jacob Zuma’s government to stem the slide.

The currency of Africa’s second-largest economy crashed to a new record low of R17.9169 against the dollar early on Monday as market turmoil in China and a drop in US stocks deterred risk-taking. The 9% slump in the rand was the most since 2008 and the biggest of emerging market and major currencies tracked by Bloomberg.

Policy makers are running out of options on how to ease the crisis. Rising inflation risks stemming from the rand may force the Reserve Bank to take more aggressive action in tightening policy at a time when the economy is barely growing. Worsening debt levels and the threat of credit rating downgrades mean Finance Minister Pravin Gordhan has limited room to veer from his budget targets by boosting spending.

“With large parts of the economy already in recession, it looks like a certainty” that the economy will contract, George Herman, head of South African investments at Citadel Investment Services, said by phone from Cape Town on Monday.

“I have no doubt in my mind that we will be downgraded to sub-investment grade,” he said. “The reality is that our fundamentals, which were already under pressure last year, have now been pushed over the tipping point by the dramatic weakening of the exchange rate.”

While South Africa’s economy narrowly avoided a recession in the third quarter, growth has been under pressure because of electricity shortages, weak global demand, plunging metal prices and drought.

The Reserve Bank projects the economy expanded 1.4% last year, the slowest pace since the 2009 recession. Bank of America Merrill Lynch on Monday cut its 2016 growth forecast by 1 percentage point to 0.4%.

“The big problem is, now that we’re moving into this sub-investment grade environment, just how much can the Reserve Bank put through in terms of its rate hikes,” Matthew Sharratt, an economist at Bank of America Merrill Lynch in Cape Town, said by phone. “If you’re going to grow at 0.4%, the risk of fiscal consolidation being delayed further is exceptionally high.”

The government has struggled to rein in public debt as growth slowed, prompting credit rating downgrades in the past two years. Gross debt has surged to almost 50% of gross domestic product from 26% in 2009 when Zuma came to power.

Standard & Poor’s cut the outlook on South Africa’s BBB- credit rating to negative from stable last month, indicating it may downgrade the nation’s debt to junk. Fitch Ratings has an equivalent rating of BBB- with a stable outlook, while Moody’s Investors Service rates South African debt one level higher at Baa2 rating.

Zuma missteps

Zuma has also fuelled investor concern with erratic policy. He unexpectedly fired his finance minister, Nhlanhla Nene, on December 9 and replaced him with a little-known lawmaker, only to reverse that decision four days later and bring Gordhan back to the position that he had occupied for five years through 2014.

In the two days after Zuma removed Nene, the rand fell 9.1% to a then-record low of R16.0543 per dollar, while the benchmark stock index lost R170bn ($11bn).

The currency was 0.4% weaker at R16.8541 against the dollar at 08:01 in Johannesburg on Tuesday, while yields on South Africa’s rand-denominated government bonds due in December 2026 climbed 6 basis points to 9.73%.

Adding to the economy’s crunch is the worst drought since 1992 which boosted food costs and pushed the farming industry into recession. The price of white maize, a staple food in southern Africa, has more than doubled on the South African Futures Exchange in the past year.

Investors have increased bets the Reserve Bank will raise the repurchase rate by more than 25 basis points on January 28 to protect the credibility of its 3% to 6% inflation target band. Consumer prices rose 4.8% in November from a year ago.

“The drought story has definitely got worse, maize prices are up at very high levels so food inflation is going to be one of the major themes and very problematic for the Reserve Bank,” Malcolm Charles, a portfolio manager at Investec Asset Management, said by phone from Cape Town. “Our economy has been so decimated over the last couple of years.”

In mid-morning trade the rand was at R16.88 to the dollar.

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