South Africa in deep financial trouble

The National Treasury revealed that South Africa recorded its largest budget deficit since at least 2004, sending the rand crashing and lowering demand for government bonds.

Data released by the National Treasury on Wednesday showed that the budget moved to a deficit of R143.8 billion for July.

It is the largest deficit since 2004 and wider than the R115.5 billion forecast by economists. There was a surplus of R36.7 billion in June.

As a result, the rand dropped, underperforming most emerging-market peers, and yields on South African local-currency bonds rose.

The yield on notes due December 2026 rose three basis points to 8.89%, while those on debt maturing in 2048 jumped nine basis points to 12.37%.

South Africa’s yield curve has been steepening as a slew of local risks fuelled investor concerns that the government will have to ramp up bond issuance just as rising global yields draw capital away from emerging markets. Wednesday’s data is likely to compound these worries.

Speaking to lawmakers on Wednesday, Reserve Bank Governor Lesetja Kganyago said it was essential that the country reduced fiscal risks.

In June, the bank expressed concern about a growing reluctance from local investors to continue absorbing government issuance.

Demand at Tuesday’s government bond auction was the lowest in nearly two years, based on data compiled by Bloomberg. Bidding was weakest for the longest-dated 2048 notes.

Sentiment was strained further on Wednesday by the National Treasury’s announcement that it would sell two long-dated bonds at next week’s auction.

Michelle Wohlberg, a fixed-income analyst at Rand Merchant Bank, said this resulted in the bear-steepening yield curve.

South Africa approaching dangerous territory

Efficient Group chief economist Dawie Roodt warned that South Africa’s deficit and debt levels are approaching dangerous territory.

South Africa’s current debt-to-gross domestic product (GDP) ratio is 73%. In nominal terms, the country owes around R5 trillion.

The situation is set to become much worse as the country’s fiscal deficit this year will be around 6% of GDP.

Fiscal deficit is the term used to describe a shortfall in the government’s income compared to its spending.

In South Africa, the state is spending far more than it gets in, which means it has a growing fiscal deficit and needs to borrow money to make ends meet.

“Revenue is under pressure, and the state’s expenses are bigger than the Finance Minister initially expected,” Roodt said.

At the current trajectory, Roodt expects the debt-to-GDP ratio to reach 76% in the current financial year and increase to 80% the year after that.

“A debt-to-GDP ratio of 80% for South Africa is getting into dangerous territory,” Roodt warned.

The growing debt levels mean South Africa is spending more money on servicing the interest on state debt. It will ultimately result in high inflation levels, stifling economic growth.

“Very soon, the private sector is going to demand much higher returns on the increasing risk for funding the growing state debt,” Roodt said.

“Even the South African Reserve Bank is concerned about the growing amount of state debt the banking sector is funding.”

Reporting with Bloomberg.