South Africa to retain investment grade, but fate of peers sounds warning

By Stella Mapenzauswa JOHANNESBURG (Reuters) - The recent downgrade to junk of South Africa's emerging market peer Brazil is a timely warning that ratings agencies and investors will not hesitate to punish signs of unwieldy budget deficits on a prolonged basis. Closer to home, Zambia, whose currency skidded nearly 20 percent earlier this week after Moody's cut its rating will give South Africa's Finance Minister Nhlanhla Nene cause for nervousness as he prepares his medium term budget due later this month. Unlike fellow BRICS grouping member Brazil, which now holds an investment rating from only Fitch after downgrades from Moody's and Standard & Poor's, South Africa still has a favourable standing with all three agencies. But any signs that Nene is struggling to rein in a budget deficit hovering around 4 percent of GDP could raise a red flag. Fitch warned on Sept. 8 that the risk of a downgrade for Africa's most developed economy was increasing, citing a largely negative news flow this year, which has included chronic electricity shortages and a sharply weaker rand currency. "I believe the risk of a downgrade by Fitch in December is quite high," said Macquarie First South Securities economist Elna Moolman, warning that agencies were keeping a sharp eye on Pretoria's commitment to fiscal discipline. "For now, our investment grade ratings are secure. However, in the long term it requires commitment to fiscal consolidation to preserve this status." Fitch rates South Africa at BBB with a negative outlook and could take it down a notch if Nene fails to impress in his Oct. 21 medium term budget policy statement. Nene will be hard pressed to keep a grip on government borrowing while also trying to stimulate growth - seen at a sluggish 2 percent at most this year - to boost revenue. "The market and rating agencies will be waiting to see how materially Treasury downgrades their growth forecast and the impact on revenue and the deficit by extension," said Mohammed Nalla, head of strategic research at Nedbank Capital. The slippery slope for South Africa lies in its debt-ridden state firms which face billions of rand in funding shortfalls, although Nene has vowed that any government support will be budget neutral, mostly through guarantees on loans. State-owned utility Eskom, for instance, needs to borrow more than 20 billion rand ($1.4 billion) to refurbish its ageing fleet of power generation plants and is struggling to meet electricity demand. [ID:nL5N10W1IS] But investors are also skittish over the government's ambitious nuclear programme, which will cost as much as $100 billion but whose funding is still not clear. Nene says the programme will be transparent but both opposition parties and analysts are worried that it could push South Africa's debt-to-GDP ratio, already close to 50 percent, even higher. [ID:nL5N11L0DC] "Even if we do go forward with this nuclear programme we still need to be able to deliver on a lower deficit and therefore stabilise debt to GDP," said Peter Worthington, an analyst at Barclays Africa. "The nuclear proposal is potentially a huge credit negative for South Africa." ($1 = 13.9155 rand)