Monday, 04 May 2020

A number of rating agencies have downgraded emerging market economies during the COVID-19 pandemic. Their actions have raised the question: why do so during a crisis?

This is not the first time ratings agencies have adopted a procyclical approach – that is, one in which bad news is simply piled on bad news.

During the 2008 global financial crisis, ratings agencies were accused of aggressively downgrading countries whose economies were already strained. Reports by the European and US Commissions found evidence that their decisions worsened the financial crisis.

Nobel laureate Joseph Stiglitz has also accused rating agencies of aggressively downgrading countries during the 1997 East Asian financial crisis. The downgrades were more than what would be justified by the countries’ economic fundamentals. This unduly added to the cost of borrowing and caused the supply of international capital to evaporate.

In addition to the issue of timing, the effectiveness and objectivity of the rating methodology continues to be questioned by policymakers. Their methodological errors in times of crisis, together with the unresolved problem of conflict of interests, leave both issuers and investors vulnerable to losses.

The procyclical nature of ratings needs to be put under check to avoid market panic. The devastating effects they add on economies that are already strained has to be challenged. The coronavirus pandemic is yet another episode to prove this.

Questionable decisions

Ten African countries have been downgraded since the COVID-19 pandemic started – Angola, Botswana, Cameroon, Cape Verde, Democratic Republic of the Congo, Gabon, Nigeria, South Africa, Mauritius and Zambia.

These decisions were based on expectations that their fiscal situations would deteriorate and their health systems would be severely strained by the pandemic.

But, in my view, the downgrade decisions reflect monumental bad timing. I would also argue that, in most cases, they were premature and unjustified.

Since international rating agencies have tremendous power to influence market expectations and investors’ portfolio allocation decisions, crisis-induced downgrades undermine macroeconomic fundamentals. Once downgraded, like a self-fulfilling prophecy, even countries with strong macroeconomic fundamentals deteriorate to converge with model-predicted ratings. Investors respond by raising the cost of borrowing or by withdrawing their capital, aggravating a crisis situation.

  • South Africa was stripped of its last investment grade by Moody’s. The rating agency cited a rising debt burden of 62.2%, which was estimated to reach 91% of GDP by fiscal 2023; and structurally weak growth of less than 1%, which was estimated to shrink to -5.8%. It was hoped that Moody’s would delay its rating action to see the impact of the coronavirus onshore and the country’s policy responses. The procyclical effect of the downgrade magnified the impact of the lockdown. Fitch further pushed it deep into junk a week later.

  • Fitch cut Gabon’s sovereign rating to CCC from B on 3 April 2020. The rationale for the downgrade was that agencies expected the risks to sovereign debt repayment capacity to increase due to liquidity pressure from the fall in oil prices.

  • Moody’s revised Mauritius’s sovereign rating outlook from Baa1 stable to negative on 1 April 2020. Moody’s said the downgrade was driven by the expectation of lower tourist arrivals and earnings due to the coronavirus. Both would have a negative impact on the country’s economic growth.

  • Nigeria was downgraded by S&P from B to B- on 26 March 2020. The reason was that COVID-19 had added to the risk of fiscal and external shock resulting from lower oil prices and economic recession. Yet the investment grades of Saudi Arabia and Russia were spared.

  • S&P also downgraded Botswana – one of the most stable economies in Africa – which had an A rating. The agency cited weakening fiscal and external balance sheets due to a drop in demand for commodities and expected economic deceleration because of COVID-19. Botswana’s downgrade came four days after it went into a lockdown and before it had recorded a confirmed case of COVID-19.

These downgrades deep into junk impose a wave of other problems, worse than COVID-19. They cut sovereign bond value as collateral in central bank funding operations and drive interest rates high. Sovereign bond values are grossly discounted, at the same time escalating the cost of interest repayment instalments, ultimately contributing to a rise in the cost of debt. A wave of corporate downgrades also follows because of the sovereign ceiling concept – a country’s rating generally dictates the highest rating assigned to companies within its borders.


In response to the procyclical COVID-19 induced downgrades, African countries need to implement these four measures.

First, to curb the procyclical nature of rating actions that disrupt markets by triggering market panic, the timing of rating announcements needs to be regulated. Regulators of rating agencies such as the Financial Sector Conduct Authority in South Africa have the power to determine the timing of rating. In times of crisis, rating agencies should defer publishing their rating reviews as markets have their way of discounting risk when fundamentals are conspicuously changing.

Second, the rules of disclosure and transparency should be enhanced during rating reviews. Rating methodologies, descriptions of models and key rating assumptions should be disclosed to enable investors to perform their own due diligence to reach their own conclusions.

Third, in collaboration with other market regulatory bodies in the financial markets, transactions that unfairly benefit from crisis-driven price falls should be restricted. This includes short-selling of securities – a market strategy that allows investors to profit from securities when their value goes down.

Lastly, African countries need to develop the capacity for rigorous engagement with rating agencies during rating reviews and appeals. They need to make sure that the agencies have all the information required to make a fair assessment of their rating profiles.

The African Union and its policy organs need to fast track the adoption of its continental policy framework of mechanisms on rating agencies’ support for countries. This will assist them to manage the practices of rating agencies.The Conversation


Misheck Mutize, Post Doctoral Researcher, Graduate School of Business (GSB), University of Cape Town

This article is republished from The Conversation under a Creative Commons license. Read the original article.

Published in Opinion & Analysis

Royal Dutch Shell has cut its dividend for the first time since the 1940s after a first-quarter loss – and warned virus-ravaged oil prices will take time to fully recover.

The Anglo-Dutch group sank into a $24-million ($29.5-million) net loss in the three months to March – when oil went into freefall on tumbling demand and a price war between producers Saudi Arabia and Russia.

That contrasted sharply with profit after tax of $6.0 billion in the same period a year earlier, the London-listed giant added in a statement.

Earnings on a current cost-of-supplies (CCS) basis – stripping out changes to the value of oil and gas inventories – sank 46 percent to $2.9 billion in the reporting period, Shell said.

The energy titan, which axed spending last month in response to the oil crash, said it had slashed its shareholder dividend by 65 percent to 16 cents per share, from 47 cents in the fourth quarter.

“As a result of COVID-19, there is significant uncertainty in the expected macroeconomic conditions with an expected negative impact on demand for oil, gas and related products,” Shell said.

“Furthermore, recent global developments and uncertainty in oil supply have caused further volatility in commodity markets.”

It warned that the pandemic would spark a difficult second quarter — with no price bounceback in prospect.

“It would be too naive at this point in time to say: we know what is happening, this is just another downturn, things will bounce back, and we will get to where we were before,” van Beurden told Bloomberg TV.

“I think that would be an inappropriate conclusion to draw at this point in time.”



Published in World

The coronavirus pandemic is likely to last as long as two years and won’t be controlled until about two-thirds of the world’s population is immune, a group of experts said in a report.

Because of its ability to spread from people who don’t appear to be ill, the virus may be harder to control than influenza, the cause of most pandemics in recent history, according to the report from the Center for Infectious Disease Research and Policy at the University of Minnesota. People may actually be at their most infectious before symptoms appear, according to the report.

After locking down billions of people around the world to minimize its spread through countries, governments are now cautiously allowing businesses and public places to reopen. Yet the coronavirus pandemic is likely to continue in waves that could last beyond 2022, the authors said.

“Risk communication messaging from government officials should incorporate the concept that this pandemic will not be over soon,” they said, “and that people need to be prepared for possible periodic resurgences of disease over the next two years.”

Developers are rushing to make vaccines that may be available in small quantities as early as this year. While large amounts of vaccine against the 2009-2010 flu pandemic didn’t become available until after the outbreak peaked in the U.S., one study has estimated that the shots prevented as many as 1.5 million cases and 500 deaths in that country alone, the report said.

The report was written by CIDRAP director Michael Osterholm and medical director Kristen Moore, Tulane University public health historian John Barry, and Marc Lipsitch, an epidemiologist at the Harvard School of Public Health.


- Bloomberg

Published in World

South Africa is seeking to create a new thriving national airline out of the ashes of its current state-owned carrier, which is technically insolvent and on the brink of being placed in liquidation by administrators.

An ideal replacement for South African Airways would have both public and private owners, maintain the country’s trade connections and make a profit, the Department of Public Enterprises said in a statement on Friday. The plan has the backing of SAA’s near 5,000-strong workforce, the ministry said, without mentioning the business-rescue team that has been running the airline since December.

“The old SAA is dead, there is no doubt about that,” Public Enterprises Minister Pravin Gordhan said by phone from Pretoria, the capital. “But what will take its place may be some or all of the old SAA and maybe some other airlines too.”

SAA’s administrators, led by Les Matuson and Siviwe Dongwana, were working on a recovery plan for the perennially loss-making carrier before the Covid-19 crisis forced the grounding of all aircraft. They began the process of liquidating the airline last month after the government refused to provide a bailout package, and have asked all employees to agree to severance packages.

That offer remains on the table, a spokeswoman for the administrators said when asked to comment on the DPE’s statement. Labor groups have yet to sign up to any deal, and two of the biggest have approached the Labour Court to have the retrenchment notices deemed illegal, according to the News24 website.

The National Union of Metalworkers of South Africa and the South African Cabin Crew Association argue that as the business-rescue practitioners haven’t submitted their recovery plan for SAA, widespread job cuts are inappropriate, News24 said.

South Africa’s whole aviation industry has been plunged into crisis by the coronavirus pandemic. SA Express, part of the wider SAA group, has been placed in provisional liquidation, while low-cost operator Comair Ltd. said on Thursday it’s selling assets and in talks with lenders to shore up a precarious financial position.

FlySafair, another budget carrier, is calling for the state to waive fees while planes are unable to fly to help the industry shore up cash reserves. South Africa is operating a phased reopening of the economy after imposing a strict lockdown to contain the coronavirus, but the resumption of domestic air travel is expected to be far down the agenda.

Gordhan didn’t give details on how a new SAA could be created, calling it a “complex issue.” He praised the current version’s efforts transporting medical supplies and repatriating citizens stranded by the coronavirus, saying South Africa needs “a national flag carrier that is a source of pride.”


Source: Bloomberg

Published in Travel & Tourism
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