The South African Rand Retreats from Recovering Dollar as Mboweni Shines Light on Path to Recovery

- ZAR sees short-lived gains over USD, GBP on budget relief.
- After Mboweni aims for budget surplus & structural reforms. 
- SA deficit to hit 15% in 2020 as tax revenues fall by -20%.
- Debt seen rising until 2023/24 but Mboweni to battle on.

Image © Government of South Africa, reproduced under CC licensing

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The Rand was retreating from a strengthening Dollar on Wednesday after the warm reception initially given to Finance Minister Tito Mboweni's emergency budget was overcome by a tide of risk aversion as trade tensions resurfaced and fears of a second coronavirus wave lingered.

South Africa's Rand had pulled away from session lows to advance on a Dollar that was already being bolstered by risk aversion Wednesday, as well as Pound Sterling after Finance Minister Tito Mboweni set out a comprehensive plan for navigating the financial carnage caused by the coronavirus. 

Markets were looking for a "credible plan" to right the capsizing South African finances and initial price action in the wake of the emergency update to the national fiscal strategy suggests that investors were not disappointed, even if the Dollar did quickly put a stop to the Rand's recovery. 

"We also think today’s dollar bid is rather appropriate given yesterday’s non-sensical, “risk-on”, USD selling following the US administration’s determined effort to walk back Peter Navarro’s “it’s over” comment with regard to the US/China Phase One trade deal. Nothing fundamentally changed yesterday," says Eric Bregar, head of FX strategy at Exchange Bank of Canada. "Some more troubling COVID-19 statistics out of California are now crossing the wires and making matters a little bit worse for the S&P futures."

Above: South African Treasury supplementary budget projections. 

"We have accumulated too much debt; this downturn will add more. This year, out of every rand that you pay in tax, 21 cents goes to paying the interest on our past debts. This indebtedness condemns us to ever higher interest rates. If we reduce debt, we will reduce interest rates for everyone and we will unleash investment and growth. So today, with an eye on the future, we set out a strategy to build a bridge to recovery. Our Herculean task is to close the mouth of the Hippopotomus! It is eating our children's inheritance, and we must stop it now," says Finance Minister Tito Mboweni in an address to parliament. 

Mboweni set out ambitious targets including for South Africa to run a primary budget surplus by 2023/24 and stabilise its debt-to-GDP ratio at 87.4% of GDP that year, despite a budget deficit that is now expected to more than double from 6.8% of GDP in 2019 to 15.7% in 2020. 

February's budget update, which was itself received warmly by the market, had envisaged a budget deficit of -5.9% in 2022/23.

"It will not be enough to avoid SA being pushed into the single B credit rating categories over the course of the next few years, with 87.4% still a huge figure for an emerging market’s government debt, and one which does not tally with debt sustainability. This is particularly because the credit rating agencies tend to look at SA’s debt in conjunction with that of its guarantees that it has extended to the State Owned Entities," says Annabel Bishop, chief economist at Investec. "Contingent liabilities take the figure to around 100% of GDP by 2023/24."

Wednesday's target will be supported by "tax measures" of R40bn over the next four years and ties the minister into a more ambitious strategy that will deliver fruit sooner than investors had expected, if successful.  

There was further music found by the market's ears in Mboweni's insistence that "Eskom will need to show progress in meeting the milestones as laid down in the Roadmap," before it gets any more public cash and that government abide by the newly adopted strategy of "zero based budgeting" that requires all expenditures to be individually justified as essential otherwise face the axe.

Above: Pound-to-Rand rate shown at hourly intervals alongside USD/ZAR (orange line). 

There had been concerns among some analysts, economists and institutions that coronavirus would be the end of efforts to right the public balance sheet.

"What is important is that Treasury is targeting a primary budget surplus by 2023/24, which means that by then we will only spend what we can afford, excluding our interest payments," says Maarten Ackerman, chief economist and advisory partner ar Citadel Wealth Management. "However, we have seen this playbook before. Quite a few times, in fact. From Mboweni’s own economic development plan earlier this year to the ANC’s economic recovery plan, majority of the policies that are being communicated are the right policies, but they simply have not been executed...we have to see the delivery."

The stance on state-owned-enterprises indicates the Finance Minister at least is not willing to allow the coronavirus to deter him from a dogged pursuit of a structural reform agenda that many in the market say is long overdue. 

Mboweni's determination was intact on Wednesday despite the severe blow already dealt to the national finances by the pneumonia-inducing disease, which was indicated to be eating one fifth of all South African tax revenues.

"Foreign investors are increasingly avoiding the bonds market, above all the long end, due to concerns about the long term sustainability of the debt. I urge caution in the rand. The presentation of the revised emergency budget by Minister of Finance Tito Mboweni is likely to illustrate very clearly today that money is running out left, right and centre," says Antje Praefcke, an analyst at Commerzbank in a morning research note. "Rand depreciation is also making it more difficult to service foreign debt. I therefore do not consider the rand’s recent gains to be justified and see downside potential in the short term."

South Africa's Treasury lost R35.3bn of tax receipts in the first quarter  despite the economy being under 'lockdown' for only a handful of days, which has led Mboweni to cut the full-year forecast by -20.9% to R1.12 trillion (£52bn). 

Despite the envisaged financial consolidation, the Treasury has still found monies to support a range of other initiatives.

There was R21.5bn in additional monies for healthcare, another R12.6bn for other public services, some R5bn of new money for provinces and an additional R25.5 billion for vulnerable people under social care, with only a small slice of it coming from reprioritisations of already planned expenditures. There was also an additional R19.6 billion to support job creation.

Above: Pound-to-Rand rate shown at hourly intervals alongside USD/ZAR (orange line).