Inflation vs Interest rates
Blue: Inflation rate | Red: Interest rate
Inflation should have a lagged effect. Economic theory suggests inflation should move opposite to interest rates, however looking back, this does not always appear to be the case. Brazil experienced a similar correlation in the months following their downgrade, so in theory we should expect the same.
What will become of South Africa’ s GDP? GDP growth will be the next important factor to consider. With lower levels of foreign direct investment, productivity begins to take strain. This in turn hampers GDP growth, which in South Africa, is a cause for concern.
With GDP growth levels last reported at 0.2 %, the effect of a slowdown could ultimately lead South Africa into a recession. This in turn would put strain on the labour market and would likely increase the chances of social and political upheaval.
Turning this ship around Now that we have taken a sobering look at the possible repercussions of a credit downgrade, let’ s look at what can be done to turn things around.
South Korea is a great example for us to use as reference. In December of the 1997 Asian financial Crisis, South Korea had its credit rating slashed to junk by all three ratings agencies. The reaction by government was largely to thank for their quick turnaround.
They accepted that some conglomerates could go bankrupt and it provided very little help in the way of bailouts. One of the chief proponents to its success was its adjustment to a dynamic and flexible labour market.
In Feb 1999, just over a year, it once again regained investment grade status.
That being said, South Africa’ s economic and social construct is largely different to South Korea’ s. The important point to take away from this is the crucial role that government plays. On the other side of the spectrum, Romania, for example, took six years to turn itself around from non-investment status.
Final thoughts In closing, the above does not consider all the possible ramifications a downgrade could have, and we haven’ t even begun to look at the tax and austerity measures that could come into the equation.
The important thing to observe is that, when a downgrade is on the cards, the reaction leading up to the event is largely overstated ‒ mainly to panic. In the end, many nations have been down this road before and come back stronger. Let’ s just hope our resilience is not put to the test anytime soon.
RESOURCES
Sable International
54 APRIL 2017 SA Real Estate Investor www. reimag. co. za