While South Africa has seen its currency strengthen to R11.51/USD, R14.18/EUR and R16.09/GBP this year on market euphoria ensuing from the recent political transition (culminating in Cyril Ramaphosa becoming President of SA), subsequently the rand has weakened significantly.

The rand remains, as ever, volatile, with the developing US-led trade war, concerns over geopolitical conflict (as the US threatens military strikes in Syria), and increases in market expectations of US rate hikes most recently afflicting the currency. We have reweighted the probabilities of South Africa’s scenarios to reflect a marked tilt away from the downside, driven by the decreased likelihood of additional credit rating downgrades and fiscal deterioration in the country.

The down and extreme down cases retain relevancy, however, both due to the risks of international and domestic shocks. International shocks in the down case include the risk of an escalation either in the nascent US-led trade war with China to global levels or in geopolitical conflict (Syria-Russia–US, UK) is currently in focus), or both, as well as the risk of a faster than anticipated trajectory in US interest rate hikes or a global financial crisis.

With US president, Donald Trump, threatening military strikes against Syria following the recent chemical attack, and the UK navy reportedly taking up strike position, markets have been jumpy, with risk-off seeing the domestic currency weaken to R12.15/USD, R15.02/EUR and R17.20/GBP. 

While the domestic currency has recovered somewhat, as a preferred EM asset class given SA’s distance from the Syrian conflict, a renewed escalation of the trade war between the US and China would likely spark further risk-off and so could weaken the rand.  

The outlook, or expected case, is one where strong global growth is a 2018 feature. With little global inflation pressure yet, monetary policy is still accommodatory and is not expected to be
tightened, but return to neutral levels instead. Unemployment rates in many economies are already near low levels.

South Africa, however, contrasts with these many of these marked improvements, particularly on the unemployment and inclusive growth front. This is a point of concern for the credit rating agencies who see little chance of upgrades without faster, inclusive growth, fiscal consolidation and the repair of SOE finances (the latter without a further drain on government’s balance sheet).

Indeed, as the recent Budget has shown, SA continues to see tax hikes, although a new IMF study on fiscal consolidation finds that cutting fiscal spending is less harmful to economic growth than raising taxes. This falls squarely in line with the Davis Tax commission’s recommendation that SA needs to cut expenditure to successfully consolidate government finances.

The credit rating agencies have merely given SA a reprieve, and no guarantee that the country will not face downgrades in the future. Indeed, despite the market’s initial euphoria on the recent political transition (resulting in Cyril Ramaphosa becoming President of SA), S&P has said South Africa’s ratings and outlook was not immediately affected by this political transition.

Despite the market’s initial euphoria on the recent political transition (resulting in Cyril Ramaphosa becoming President of SA), S&P has said South Africa’s ratings and outlook was not immediately affected by this political transition.

SA is in line for economic growth this year of around 2.0%, and above 2.0% y/y next year. The prospects for faster growth rely on SA’s ability to strengthen its institutions and state structures to high levels of soundness, triple the size of the private corporate sector, including reindustrialization, in order to lift private sector employment to the levels that reduce unemployment from close to 30% to close to 10%.

The eradication of corruption and state capture remains key, as does marked fiscal consolidation and repair of SOEs finances, and improvement of the public sector primary and secondary education system (SA ranks very low globally on maths and literacy).