Namibia’s sovereign credit rating is expected to come under increasing pressure in the coming months, more so because of the drop in the country’s foreign currency reserves. This is according to a report by RMB Global Market Research, that looked at economic outlooks for all sub-Saharan African countries – including Namibia, Botswana, South Africa and Angola. The report says the economic outlook remains under pressure as low commodity prices along with adverse climatic conditions decelerate growth. Water-intensive sectors, such as beverage and meat processing, have begun to close production facilities in response to water restrictions. “Headwinds are mounting across all sectors and growth is expected to decelerate to 3.1% in 2016,” is how Namene Kalili, the manager for research and strategic marketing and communications at FNB Namibia, summed up the report.
How Namibia compares with neighbours
The economy remains under pressure as low commodity prices along with adverse climatic conditions decelerate growth. Water-intensive sectors, such as beverage and meat processing, have begun to close production facilities in response to water restrictions. Headwinds are mounting across all sectors and growth is expected to decelerate to 3.1% in 2016. The decline is most severe in the agricultural, mining and construction sectors. Water shortages are constraining growth in the former two sectors, while the completion of several projects will see construction activity slow. Employees in most of these sectors stand to see income growth ease as wage inflation moderates, headline inflation rises and interest costs go up further. Along with a slowdown in credit demand, the outlook for household spending is therefore not rosy at all. We expect a mild economic recovery in 2017 as the agricultural, mining and manufacturing sectors recover and investments into water and energy begin to pick up. Government investment into rail, road, energy and water infrastructure should contribute towards an improved economic performance from 2017 onwards. The economy should breach 5% growth by 2018.
The annual inflation rate increased to 7% year-on-year (y/y) in July as processed food and beverage prices rose unexpectedly. Food inflation increased by 1% month-on-month (m/m) after sharp increases in dairy, sugary products, prepared foods, non-alcoholic beverages and prepared water. Further inflationary pressure stemmed from housing inflation after a recent spate of water, energy and property tax adjustments. Rising utilities are likely to trigger second round inflation in the rental category. Being the largest single contributor to the inflation basket, housing and utilities inflation will keep overall inflation upwardly sticky for the next year. Vehicle inflation accelerated in line with new-vehicle prices, while under-recoveries across all regulated petroleum products triggered a 30 to 50 cent increase in domestic pump prices. We maintain our inflation outlook at 7% by year-end, moderating to 6.6% by the end of 2017.
Although the Bank of Namibia expects inflation to trend above 7%, and even after foreign currency reserves contracted sharply, it kept interest rates unchanged at 7%. The decision was necessitated by the weaker growth outlook with mounting downside risks. The trade deficit has begun to widen as increased net government payments extended the current account deficit and slower Foreign Direct Investment (FDI) inflows resulted in foreign currency reserves having to finance the deficits. Therefore, reserves came under renewed pressure and have resultantly dropped to N$19bn or 2.4 months import cover.
Regrettably, the government is in no position to implement countercyclical fiscal policy. Falling SACU revenues and a slowing economy have depressed government tax revenue. Therefore, debt to GDP has risen above 40%. This has increased the need to contain government expenditure even further — a challenge which is being tested by additional public teachers’ wage demands. As the government scrambles to mothball non-essential development projects, we expect the country’s sovereign credit rating to come under increasing pressure in the medium term, especially when taking into account the recent drop in foreign currency reserves.
After the Brexit dust settled, increased offshore buying interest in South African bonds drove yields lower — Namibian dollar bond yields followed suit on the back of receding expectations of interest hikes by the US federal reserves and rising global risk appetite. However, rand weakness and a possible South African credit rating downgrade resurfaced towards the end of August, as risk-off towards Namibia’s neighbouring country came to the fore again. Local bond auctions buckled and, although well offered, auctions were undersubscribed, while secondary market trading remained poor.
South Africa’s economy is expected to fall into a technical recession, with two consecutive quarters of contraction after accelerating in 2Q16 off a low base. Our estimate for 2Q16 growth is 3.0%. We forecast 2016 growth of 0% (consensus: 0.3%). We still expect a mild upward trend in 2017 growth to 1.2% (consensus: 1.2%), though risks remain to the downside. A renewed deceleration in China’s growth alongside a sentiment fallout are the main global risks. The rising probability of strike action during 3Q16 is a key local risk to the growth outlook.
The rally in the rand and renewed fall in oil prices have caused us to mark our forecast lower by another 1ppt to 6.3% in 2016 (consensus: 6.6%), and 5.4% in 2017 (consensus: 6.1%) as the Consumer Price Index (CPI) temporarily dips below 6.0% in August. Most of the upward momentum in 2016 stems from food and fuel prices, with foreign currency reserves pass-through muted as core inflation is expected to move broadly sideways from 5.5% in 2015 to 5.6% in 2016 before softening to 5.3% in 2017. Core inflation is expected to remain within the target band throughout the forecast horizon, while headline inflation will be sustainably below 6.0% again from first quarter of 2017. After February’s 7.0% print, a secondary peak of 6.3% is expected in the fourth quarter of 2016.
The SARB paused again in July. Despite upside risks to the inflation profile, the Bank has turned more considerate towards growth. The tone remains marginally hawkish given ongoing threats of higher food inflation, the volatile rand and sticky inflation expectations. The Bank sees headline inflation outside the upper limit of the target band until the second quarter of 2017, with a peak of 7.1% in fourth quarter of 2016. Our base case is that the repo rate has peaked at 7.0%, but a renewed acceleration in core inflation and/or pronounced rand weakness could trigger additional front-loaded rate hikes. While the bar for easing is high, recessionary conditions and positive inflation surprises can trigger a cut by second quarter of 2017 in the context of global central banks easing. With potential growth at 1.5% and fourth quarter of 2017 CPI at 5.5%, we think the repo rate is currently in line with its neutral rate.
The government expects to narrow the consolidated deficit to 3.2% in 2016/17 and 2.4% in 2018/19, with a primary surplus projected for 2016/17. Fiscal tightening is partly targeted at addressing sovereign credit risk, but political uncertainty has countered this. While South Africa received a rating reprieve in second quarter of 2016, with all three major agencies affirming their investment grade ratings, our base case remains for a downgrade by Standard and Poor’s rating agency to BB+ this year (2 December). Monthly budget figures show a R19bn narrower budget shortfall compared to last year, indicating that Treasury is on track with fiscal estimates for this year (aiming for a primary surplus).
Our core view is that the rand is undervalued and will recover on a trend basis. However, we remain cautious on a multi-month perspective given the potential for a Fed hike, a slump in China and commodity prices, local politics and the risk of a sub-investment rating downgrade. The domestic concerns have escalated amid speculation of a Cabinet reshuffle at the National Treasury.
Real GDP growth returned to positive territory in first quarter of 2016, rising to 2.8% y/y from 1.9% in fourth quarter of 2015. The pick-up was driven by a 4.4% y/y increase in non-mining private sector GDP as a result of improvements in the supply of electricity and water and a positive spillover from the nascent mining sector recovery to related sectors such as logistics, excavation and manufacturing. We expect economic growth of 3.1% in 2016 and to average 4% over the next three financial years. Our forecast is premised on a steady recovery in the diamond industry, increased fiscal investment under the government’s Economic Stimulus Package and the 11th National Development Plan. Household consumption leads growth at 45% of total GDP and is on a declining trend due to rising unemployment and eroded purchasing power. Diversification remains elusive as export concentration remains heavily tilted to diamonds at over 80%, despite the services sector having led growth by over 50% in the past decade.
There are downward pressures to our inflation forecast of 3.3% in 2016, mainly because food inflation continues to tick up slowly at a year-on-year rate of 2.7%, compared to 1.0% in July 2015. This is below expectations given drought pressures and lower food produce across the region — food inflation in South Africa printed higher than 10% in recent months. This softer food inflation trend suggests limited opportunistic pricing at a retail level. Therefore volatility in food inflation should be expected in the coming months as stores adjust their margins to gain market share.
A benign outlook for inflation and a relatively stable real effective exchange rate (REER) led the Bank of Botswana to cut rates to 5.5% in August. We have subsequently changed our rate forecast from 5.75% to 5.50% for the rest of 2016 as the central bank is expected to remain accommodative through to 2017, with very little room for easing. Given that inflation remains stable while credit growth and confidence surveys remain low, the central bank will continue to focus on supporting economic growth. The weak rand throughout 1H16 could also be playing a critical part in the slower increase in food inflation. Competition pressures are forcing stores to contain price volatilities by transferring the currency benefit to consumers in order to protect market share. There is also evidence of bargaining power of consumers given the widening gap between food inflation and restaurant inflation. The latter usually echoes food inflation, but has decreased to 3.9% in July compared to 5.4% at the same time last year. This indicates that both the supply-side effects (i.e. higher food prices vs. a weaker rand) and demand-pull pressures (bargaining power of consumers and lower wage and employment growth) are resulting in lower food and headline inflation.
We now see limited room for further easing in the short term, given risks to portfolio outflows in a low interest rate environment as well as concerns over interest rate differentials, mostly with South Africa whose repo rate is at 7%.
The economic outlook for Angola remains bleak. The continued contraction of the oil sector has meant that the contribution of net exports to GDP is decreasing. Under a flexible exchange rate mechanism, the currency would weaken, enhancing export competitiveness. The decision to keep the kwanza artificially strong has short-circuited this adjustment mechanism, causing the economy to effectively stall.
Inflation rose to 35.3% y/y in July from 31.8% in June. With imports being 34% of GDP, inflation is extremely susceptible to currency weakness. The gap between the official rate and the parallel market rate has increased rapidly this year, resulting in a sharp increase in inflation as goods are generally sold at the shadow rate. Additionally, household disposable income has been shrinking as a direct result of inflation, which is now at decadal highs and shows little sign of abating. Monetary policy has attempted to subdue inflation by raising rates — this has not proved to be effective but once it starts to feed through it should begin to slow credit growth. Our view is for inflation to average 29% this year and marginally moderate to 26% next year.
The attempt by the National Bank of Angola (BNA) to suppress inflationary pressures by raising interest rates hasn’t been very successful. Inflation has increased by 21 percentage points since the end of last year despite a 500 basis points rise in the policy rate in 2016. The unresponsiveness of inflation to increases in the policy rate is unsurprising given that the bulk of the pressure is cost and not demand related.
Between November 2015 and June this year, the Angolan government borrowed in excess of US$11bn from various agencies, the bulk being Chinese entities. The borrowing spree now places Angola’s public debt (ex-Sonangol) at US$47.9bn — 38 percentage points above the 20% regional average of oil exporters. Given the extreme dependence of Angola on oil revenues, another tumble in oil prices could trigger a series of debt defaults leading to a fiscal crisis. Aggregate demand has been slow to respond as it takes approximately eight months for a change in the rediscount rate to be fully passed on to the overnight rate and a further six months from a change in the overnight rate to lending rates. Such a slow transmission mechanism makes the use of interest rates in this environment largely unfruitful. However, given the limited tools the BNA has at its disposal to fight inflation, we expect the central bank will continue raising rates in response to rising inflation. We forecast a further 100bp increase before the year ends, bringing the cumulative hikes to 600bp in 2016. With such a huge debt overhang, it is unsurprising that ratings agencies have all downgraded the oil-exporting giant, with the latest being Standard & Poor’s agency. The agency revised the sovereign’s outlook to negative but affirmed Angola’s B+ long-term foreign currency rating, which is four steps below investment grade. It cited a widening fiscal deficit and a weak economic growth profile, largely due to soft oil prices, as reasons for the downgrade. The trigger for a revision back to stable is an improvement in economic growth and a marked strengthening in the country’s external and fiscal accounts, which seems unlikely under current circumstances.