High credit costs threaten economic growth in South Africa, warns Moody's

High credit costs are emerging as a formidable barrier to economic growth in South Africa, despite the country’s entrenched banking sector relying heavily on deposits for funding.

This stark warning from Moody's Ratings on Monday highlights the critical role domestic and international funding play in bolstering the economy, with a particular emphasis on the pressures created by rising interest rates.

Lucie Villa, senior vice president for Moody’s, explained that the South African Reserve Bank (Sarb) repo rate directly impacts the cost of savings and term deposits.

The Sarb’s repo rate “influences the cost of savings and term deposits, as well as money market rates” for institutional deposits.

“South African banks depend heavily on deposits for funding. This includes deposits from companies and households, and deposits raised from institutions, which are more sensitive to interest rate changes,” explained Villa.

Funding costs for South African banks had risen in tandem with the increase in the Sarb repo rate, which peaked at 8.25% between May 2023 and August 2024, before the central bank started cutting its policy rate a year ago.

Moody’s now believes that "without improvements, South Africa risks continuing a negative spiral in which high interest rates aimed at attracting inflows amid subdued growth limit domestic investment and further hinder” economic prospects.

Despite advanced financial markets, South Africa is deemed as having “higher debt costs” than its emerging market peers.

This comes as major economies in Sub-Saharan Africa face significant development funding needs. Access to much needed funding is now being hindered by limited equity and high debt costs, despite gradually improved access to external and domestic funding.

According to Moody’s, structural weaknesses persist in South Africa, Nigeria and Kenya, keeping debt costs high and requiring time to resolve.

Positively though, South Africa's developed financial markets remain a key strength notwithstanding the country's chronic economic and fiscal issues.

Financial markets in South African were “crucial to providing debt financing from the relatively large pool of domestic savings and also to attracting foreign” investment.

Diverse investment products and deep financial markets were helping to anchor borrowing costs and extend the local currency yield curve.

However, South Africa's foreign currency borrowing costs remain influenced by its relative creditworthiness, which partly reflects the persistent credit constraint of high public sector indebtedness including contingent liabilities from State-Owned Enterprises.

“South African companies have ample access to local currency debt markets, a “result of a long history of local market borrowing and a broad investor base, including domestic banks, pension funds” and insurance companies.

Nonetheless, access to foreign currency debt markets is limited to a select group of companies, typically those that export internationally or are industry leaders such as consumer internet group Prosus, chemicals and energy company Sasol and business services provider, Bidvest.

“As such, although borrowing in foreign currency is cheaper, companies issue fewer foreign currency bonds than local currency debt,” noted Moody’s.

Advisory group, Serrari, recently noted that the number of outstanding bank and retail loans in SA rose by 3.5% year-on-year in the second quarter to June. This marked “the most substantial growth since the pandemic disrupted South Africa’s credit” markets.

“Most of this growth in account volumes stemmed fromunsecured loans, which saw a year-on-year growth of 5.8%, reflecting consumers’ ongoing reliance on credit to bridge cost-of-living gaps,” said Montel Kamau, financial analyst with Serrari.

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