By Andrew Manners
Considered a darling among investors in Sub-Saharan Africa not long ago, the fortunes of South Africa’s economy have faded in the past 18 months, with slumping commodity prices and a slowdown in China dimming the hopes of even the most bullish investors. In December last year, all three major credit rating agencies downgraded their outlook. Consequently, Africa’s second-largest economy now teeters close to junk status.
Investors, meanwhile, have been left cold by the country’s listless growth and continued obstacles to doing business there. 2015 saw many run for the hills; capital flight soared while the UNCTAD, an UN group, claims foreign direct investment fell 74% last year.
Things look little better for investors in 2016, with a raft of troubling laws on the horizon. Earlier this year, in fact, the bungled implementation of a contentious new investment framework raised the specter of further risks for investors. With little explanation offered by the Zuma government, many fear a shift toward greater nationalization. These risks, as well as a potential credit ratings downgrade in 2016, mean investors will continue to shy away from South Africa. For a state that lauds its investment credentials, relying on foreign capital for much of its growth, the outlook is bleak.
Protection of investment act
Last year, the South African government announced a new framework for investors. The legal framework, called The Protection of Investment Act, will supplant the Bilateral Investment Treaties (BITs) first introduced by President Mandela in the mid-1990s as a means of reconnecting post-apartheid South Africa with global capital flows. In the still-shaky political environment of the late 1990s, BITs were crucial in attracting foreign investment. The wide protection offered by these treaties against nationalization and expropriation, two problems sweeping Africa at the time, saw foreign firms flock to South Africa.
Yet, despite their success, the South African Department of Trade now says the protections were cast too wide, leaving Pretoria open to unjust arbitration and millions of rands in fines. Like Indonesia and Venezuela, two other emerging markets, South Africa is currently in the process of revoking its BITs. Officials firmly maintain that the Investment Act, set to replace the BITs this year, will offer the strongest possible protection pursuant with international norms and the South African Constitution.
However, such assurances have done little to appease investor fears. David Thomas, a writer for African Business, claims that “analysts remain concerned that the new bill is part of a confused policy agenda which leaves the government incapable of effectively communicating its goals and reassuring concerned investors.” Even if the Act alone does not alter the status quo, the worry is it will pave the way for other contentious laws going forward. In light of this, the government’s vocal concerns about arbitration and fines have come to be viewed by some as a baleful pretext for greater government meddling.
Nationalization and expropriation
Recent developments suggest investors have some cause for concern. Robert Besseling, Executive Director at EXX Africa, a consultancy, warns “there are various… bills which are waiting for this Investment Bill to be finalized.” “It’s essentially these bills,” he says, “that are increasing the risk for foreign investors.” Of these, a pending amendment to the 2002 Mineral and Petroleum Resources Development Act is the most worrying. If passed, the law would permit the government to take a 20% stake in all new oil and gas investments and allow the government to acquire an unspecified additional share at an “agreed price”.
The Expropriation Act announced will also irk investors. The 2015 Act aims to bring an earlier 1975 Bill in line with South Africa’s constitution and raises the possibility of the government expropriating land when in the “public interest”. Both Acts, meanwhile, will be subject to a new arbitration processes, adding an additional layer of uncertainty for firms accustomed to the current legal procedures.
Still, a complete overhaul of government policy – towards total nationalization – appears remote at this stage. Mr. Zuma might well be attempting to swing the balance of power back in the government’s favor, but even he would acknowledge the economic ruin and investor flight that would follow a wide program of nationalization and expropriation. And investors can take some comfort in the fact that the Expropriation Act is subject to the South African Constitution, which prohibits expropriation except where there is just and equitable payment based on investment use and fair market price.
Challenging times ahead
The problem for South Africa, though, is that the new framework could scarcely come at a worse time. With the country facing unprecedented political and economic challenges, much-needed investment could soon dry up. Politically, the President’s blunders have weakened the government’s legitimacy and are undermining its ability to govern. Zuma’s dubious cabinet appointments and misappropriation of millions in public funds, in particular, have tarnished his image, resulting in no-confidence motions and attempts to impeach him.
On 1 April, Zuma said he will pay back $16 million in public funds which he used to upgrade his lavish mansion, and leaders of his party, the ANC, used the opportunity to reaffirm their support for their beleaguered President. However, the ANC remains divided. Factional fighting continues, with members voicing different ideological views on certain issues, including investment policy. This makes it virtually impossible for investors to assess the government’s policy agenda, particularly if the government cannot clearly communicate its goals.
The country’s economic fortunes are just as dire, too. In February the World Bank downgraded South Africa’s projected growth to 0.8% in 2016, down from 1.3% in 2015 and its lowest rate since 2009. That is well below the 4.5% average expected in Sub-Saharan Africa this year. And as debts continue to mount, a further ratings downgrades – possibly toward to junk status – now looks likely. As it stands now, only S & P has the country one notch above junk, meaning Fitch and Moody’s would have to downgrade by two notches for the country to lose its investment grade status.
But any downgrade, even that not resulting in junk, would result in a panicked sell-off by conservative investors, while prospective investors would almost certainly look elsewhere. For a country considered a bright star in Sub-Saharan Africa not long ago, these are worrying developments.
This piece was first published by Global Risk Insights