Moody's pushes South Africa's debt to verge of junk status

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      By Emerging Markets Debt TeamEaton Vance Management

      Boston - Moody's Investors Service downgraded South Africa's credit rating one step closer to "junk" status on Friday, but refrained from pushing it all the way there - for now. Moody's changed the country's rating to negative from stable, and in so doing kept in it in investment-grade territory. Fitch and S&P have rated South Africa's debt as junk since 2017.

      Should Moody's cut South Africa's rating to junk, it would result in automatic expulsion from the FTSE World Government Bond Index - that would prompt passive index-based funds to dump billions of dollars of the country's bonds, and likely raise its borrowing costs.

      The country is struggling with declining revenues, rising expenditures, higher debt and failing state-owned enterprises (SOEs) - most notably the electric power utility Eskom, which is being bailed out by the government.

      The change in outlook from Moody's comes after Finance Minister Tito Mboweni on Wednesday failed to present a clear rescue plan for Eskom. President Cyril Ramaphosa has pledged to restructure the utility but has faced tremendous opposition from unions who see it as a bid to privatize it.

      The finance minister also raised projections for this fiscal year's deficit to 5.9% of GDP from 4.5% and warned that debt will likely exceed 70% of GDP by 2022/2023. The Eskom bailout contributes significantly to South Africa's budget deficit.

      This year will be the worst economically since the recession following the global financial crisis in 2009 and the sixth-consecutive year in which GDP per capita contracts, while the unemployment rate is currently at 29.1%.

      The Moody's downgrade effectively gives South Africa three months to improve on its "continued deterioration of finances."

      Moody's said that "South Africa's high unemployment, income inequality, and related social and political challenges have proven to be a greater obstacle to government plans to raise potential growth and contain fiscal deficits than we expected a year ago. We have revised our medium-term GDP growth projections for South Africa to 1%-1.5%, down from earlier expectations of a gradual increase to 2.5%-3%."

      Bottom line: The global income team long has been critical of South Africa's policies and fundamentals, as we have consistently witnessed budgets getting revised in a negative direction and growth underperforming. Junk status may be just around the corner.