## South Africa: The Financial Sector-Sovereign Nexus ## Source details **Canonical URL:** [South Africa: The Financial Sector-Sovereign Nexus](https://www.imf.org/-/media/files/publications/wp/2022/english/wpiea2022051-print-pdf.pdf) ## Other formats - [Markdown version](/-/media/files/publications/wp/2022/english/wpiea2022051-print-pdf.pdf.md) - [Structured JSON version](/-/media/files/publications/wp/2022/english/wpiea2022051-print-pdf.pdf.json) --- ### Introduction and context - Rising sovereign debt after the COVID-19 pandemic increased attention to the financial sector–sovereign nexus in South Africa. - Pandemic-related support measures increased the stock of sovereign debt and worsened indicators of sovereign risk. - Higher sovereign debt tightened the nexus between the sovereign and the domestic financial system (banks, pension funds, insurance companies, and mutual funds), amid reduced purchases and greater disposals of sovereign debt by nonresident investors. - The nexus operates via direct channels (public debt acquisition by the financial sector) and indirect channels (financial institutions’ exposure to domestic economic activity). ### Historical and cross-country background - Rapid increases in the financial sector–sovereign nexus have been a global concern since the late-2000s. - During the Global Financial Crisis in the late-2000s, public debt-to-GDP rose across many countries, especially in the European periphery, and peripheral European banks absorbed sizeable amounts of domestic sovereign debt, increasing “home bias.” - Entrenchment of the bank–sovereign nexus raised concerns about banking sector health through: - rising asset quality problems, including valuation losses on bank holdings of sovereign debt; and - sovereign contingent liabilities as governments provided guarantees or other support to banking systems. ### Key findings from the paper - The financial sector–sovereign nexus in South Africa is relatively moderate at present but carries risks going forward. - A large domestic investor base could help keep sovereign bond yields relatively stable. - Continued increases in sovereign exposures could: - crowd out lending to the private sector; and - cap private investment. - If fiscal risks increase further, sovereign exposures could weaken financial institutions’ balance sheets. - Fiscal consolidation is identified as the first line of defense. ### Indicators of rising sovereign risks (Box 1) - External versus fiscal risk overview: - Sovereign CDS in US dollar terms does not suggest particularly elevated external risk but may not fully capture fiscal risks. - Sovereign CDS spread movements: - Rose to around 430 basis points in 2015–16. - Rose to around 530 basis points in 2020 during COVID-19-related global market turmoil. - Has been trading at around the upper end of the “normal” range relative to its 2010–19 performance (200–300 basis points). - Debt-to-GDP ratio is around 70 percent (reflecting the recent GDP revision), significantly above its previous peak of around 45 percent registered in the 1990s. - Local currency sovereign term premia remain at around their historical high. - Local-currency sovereign risk indicators (elevated): - Swap spread (fixed leg of interest rate swaps minus maturity-matching sovereign yield): - Typically positive; in South Africa it has been negative (sovereign yields > swap rates). - Swap spread narrowed in absolute terms from around –370 basis points during the worst of the COVID-19 market turmoil to around –200 basis points in early-December 2021. - Remains wider in absolute terms than previous levels of around –100 basis points and far outside the “normal” range. - Local currency sovereign risk premium (LCSRP): - LCSRP is the local currency sovereign yield spread to the “local currency US sovereign yield”. - The estimated LCSRP is comparable to previous highs including the one registered in 2015–16. - Actual yield differential versus implied counterpart: - The implied counterpart is the sum of: the US yield, South Africa’s sovereign CDS spread (in US dollars), and long-term inflation expectation differentials between South Africa and the US. - The actual yield differential moderated from more than 460 basis points in the spring of 2020 to around 350 basis points. - The measure remains significantly above previous highs of around 100 basis points and the upper end of the “normal” range based on historical performance of around 70 basis points. - Prior to the COVID-19 pandemic, this indicator had already widened as the Eskom situation started to worsen. ### Bank and nonbank holdings of government securities (key statistics) - HQLA and bank roles: - The largest six banks, on average, hold close to 90 percent of HQLA in Level 1 unencumbered assets (mainly domestic government securities and central bank reserves). - Top-6 banks (“top 6”) holdings (percent of assets): - 1990s: 6–8 percent. - Early-2008: nearly 4 percent. - End-2011: around 8 percent of assets (bonds representing around 60 percent of those holdings). - January 2021: somewhat above 12 percent of assets (increase driven mainly by bond holdings; bonds’ share of total holdings rose to 75 percent). - “Other banks” holdings (percent of assets): - Early-2008: marginally below 5 percent. - January 2021: nearly 25 percent of assets (increase due mainly to T-bill holdings; T-bills’ share of total securities holdings around 70 percent). - Nonbank financial institutions: - 1990s: close to 35 percent of assets in government securities. - 2000s: around 15 percent. - Mid-2020: rose moderately to 17 percent (due mainly to holdings by “other financial institutions (OFIs)” including mutual funds and collective investment schemes). - Cross-country position: - As of September 2020, South African bank holdings of government bonds were somewhat below the cross-country median of 129 countries, but above the levels in Brazil, Mexico, and Turkey. - South African nonbanks were positioned somewhat below the cross-country median of 62 countries, similar to Turkey and above Mexico. - Holdings relative to stock of bonds outstanding: - Banks increased their share of the total stock during the COVID-19 pandemic but remain below the EME median. - Nonbanks remain in the top quartile. - Nonresident holdings rose from around the median in the early-2000s to the top quartile in the mid-2010s and have remained there even after nonresidents sold government bonds during the COVID-19 pandemic. ### Implications, vulnerabilities, and stress-test findings - Funding cost and valuation effects: - Cost of funding for the sovereign and the economy could increase if banks demand higher yields to hold sovereign debt. - Banks increase holdings when valuation becomes attractive; if risks on bank balance sheets rise, banks would seek higher yields to hold government bonds. - Bank behavior and regulatory responses: - IRB banks have been increasing risk weights for sovereign exposure up to 10 percent in line with the rising public debt ratio and weakening sovereign credit ratings. - Larger banks mark to market roughly one half of their government bond holdings. - Stress-test and sensitivity findings: - FSAP stress tests warn about vulnerability of banks to weakening sovereign credit quality. - Widening of external sovereign credit spreads by 200 basis points would lead to a fall in the aggregate capital ratio by about 3 percentage points. - Potential for larger valuation losses: - Sovereign bond valuations could become more volatile, potentially increasing the risk of large valuation losses that could compress profitability and capitalization for banks that mark holdings to market. ### Channels of spillovers and feedback loops - Exposure channel: - Falling sovereign bond prices reduce the value of collateral and could raise bank wholesale funding costs and pressure profitability and capital. - Macroeconomic channel: - Higher public deficits and debt can raise sovereign and domestic interest rates, adversely impacting bank balance sheets. - Since 2010, six successive foreign currency sovereign downgrades by the main three rating agencies to below investment grade have been matched by downgrades of banks’ credit ratings. - Safety net channel: - Government contingent liabilities and backstops in case of banking problems can worsen sovereign credit perception, increasing sovereign funding costs and reducing bank profits. - Spillbacks from the banking sector: - Direct effect: government interventions to manage banking crises turn contingent liabilities into real liabilities, worsening the debt outlook. - Indirect effect: banking-sector developments affect growth, primary balance, and interest rates, amplifying fiscal cycles. - Home bias and fiscal consolidation: - Banks’ home bias in sovereign debt holdings tends to delay fiscal consolidation. - Illustration: a relatively high degree of banking sector home bias (relative to the sample median) is associated with a substantially weaker primary fiscal balance when public debt is 80 percent of GDP (noting South Africa’s debt was 69 percent of GDP in 2020). ### Policy implications and priorities (Box 1 and Box 2) - First line of defense: fiscal consolidation to keep the supply of sovereign debt in check. - Important policy measures include: - Finalizing the Financial Sector Laws Amendment Bill (FSLAB) to improve the bank resolution framework and introduce a deposit guarantee scheme. - Monitoring and addressing the exposure, macroeconomic, and safety net linkages between the sovereign and financial sector. - Considering implications of higher risk weights and potential need for banks to increase capital buffers in response to elevated sovereign risk premia. - Regulatory measures should be carefully calibrated to avoid unintended pro-cyclical consequences. ### Feedback of bank and sovereign risks (Box 2) - Increased correlation between bank and sovereign credit risk: - Two-year moving correlation between the sovereign and ten banks (from CreditEdge) has increased. - Daily CDS spreads estimated from the expected default frequency (EDF) were used; dispersion tightened as small banks’ correlation with the sovereign moved from negative or small positives to levels comparable with large banks’ correlation. - Fiscal cost of banking crises: empirical evidence - Median output losses from banking crises: - 35 percent of GDP in high-income countries. - 14 percent of GDP in low- and middle-income countries. - Median increase in public debt in the four years after a banking crisis: - A little over 20 percent of GDP in high-income countries. - 16–17 percent of GDP in low- and middle-income countries. - Examples of extreme fiscal costs: - Indonesia’s fiscal costs during the Asian financial crisis reached more than 50 percent of GDP. - Fiscal costs in Iceland and Ireland during the global financial crisis exceeded 30 percent of GDP. - Drivers of fiscal costs: - Higher direct fiscal costs associated with banks that were more leveraged prior to crises, banks reliant on external wholesale funding, and countries that guarantee the entire bank liabilities during a crisis. - Factors associated with lower direct fiscal costs include higher quality of supervision, greater credibility of sufficient government financial safety nets, and swifter government intervention ex post. - Policy trade-offs: guaranteeing liabilities may limit upfront deposit disbursements or debt issuance but tends to raise average direct fiscal costs; concentration limits could create unintended pro-cyclical consequences. - Lessons for South Africa: - South Africa’s banks have strong capital and liquidity buffers and are well regulated; stress tests by the joint IMF–World Bank FSAP show resilience to adverse shocks. - Rising public-sector fiscal deficits and debt amid an increase in sovereign risk premia could raise concerns about banks’ increasing holdings of domestic sovereign debt. - Protracted weak macroeconomic conditions could challenge the domestic banking system if sovereign risk and bank exposures reinforce each other. ### Carefully calibrated regulatory measures discussed during the 2021 FSAP - Increasing risk weights on sovereign bond holdings: - IRB banks have already increased risk weights on holdings of domestic sovereign debt and therefore hold more capital against them. - Under national discretion, a (relatively low) risk weight may be applied to domestic sovereign debt denominated and funded in domestic currency while being mindful of potential pro-cyclical effects. - Applying Pillar 1 or 2 capital surcharges: - Surcharges could be applied on holdings of domestic sovereign bonds only above certain thresholds and calibrated to reflect perceived risks while limiting unintended side-effects. - Introducing a quantitative measure to reduce concentration: - Putting a cap on concentration could create “cliff effects” if bank holdings approach or exceed limits, prompting rapid shedding of “excess” bond holdings. - Process and implementation considerations: - Measures need to be gradually introduced, carefully calibrated, and clearly communicated. - Measures could best be introduced after the ongoing normalization of the COVID-19-related prudential requirements has been completed. - A reasonable transition period is needed to give banks time to adjust their balance sheets; announcing envisaged near-term measures with the applicable transition period would help prevent further intensification of the nexus and smooth adjustment. ### Summary and way forward - The financial sector–sovereign nexus in South Africa is relatively moderate at present, but risks will increase without fiscal consolidation and structural reforms. - Regulatory options can be explored but need support from fiscal consolidation to reduce government debt supply and structural reforms to durably boost growth. - Since the onset of the COVID-19 pandemic, financial institutions in many EMEs have increased holdings of domestic sovereign debt, tightening the linkage between financial system health and sovereign debt levels. *Source: IMF Working Paper — South Africa: The Financial Sector-Sovereign Nexus (Working Paper No. WP/22/51).* ### References ............................................................................................................. ### South Africa: The Financial Sector-Sovereign Nexus ### Introduction and context - Rising sovereign debt in the wake of the COVID-19 pandemic increased attention to the financial sector–sovereign nexus in South Africa. - Pandemic-related support measures increased the stock of sovereign debt and worsened indicators of sovereign risk (see Box 1 and Figure 1). - The higher sovereign debt tightened the nexus between the sovereign and the domestic financial system (banks, pension funds, insurance companies, and mutual funds), particularly amid reduced purchases and greater disposals of sovereign debt by nonresident investors. - The nexus has both direct channels (public debt acquisition by the financial sector) and indirect channels (financial institutions’ exposure to domestic economic activity). ### Historical and cross-country background - Rapid increases in the financial sector–sovereign nexus have been a global concern since the late-2000s. - During the Global Financial Crisis in the late-2000s, public debt-to-GDP rose across many countries, especially in the European periphery, and peripheral European banks absorbed sizeable amounts of domestic sovereign debt, increasing “home bias.” - Entrenchment of the bank–sovereign nexus led to concerns about banking sector health through: - rising asset quality problems, including valuation losses on bank holdings of sovereign debt; and - sovereign contingent liabilities as governments provided guarantees or other support to banking systems. - The IMF (2015) and Dell’Ariccia et al. (2018) are cited as examining the bank–sovereign linkages and management approaches. ### Key findings from the paper - The financial sector–sovereign nexus in South Africa is relatively moderate at present but carries risks going forward. - A large domestic investor base could help keep sovereign bond yields relatively stable. - Continued increases in sovereign exposures could: - crowd out lending to the private sector; and - cap private investment. - If fiscal risks increase further, sovereign exposures could weaken financial institutions’ balance sheets. - Fiscal consolidation is identified as the first line of defense. ### Policy recommendations and institutional actions - Accelerate implementation of the Financial Sector Laws Amendment Bill (FSLAB), which seeks to reduce fiscal costs in the event of a bank failure. - The Prudential Authority (PA) should continue monitoring the deepening financial sector–sovereign nexus to help maintain financial institutions’ strength, especially given expected challenging macroeconomic conditions. - The paper surveys literature on the fiscal cost of banking crises and underscores the importance of limiting linkages that could make government interventions expensive. *Source: IMF Working Paper — South Africa: The Financial Sector-Sovereign Nexus.* ### Box 1. Indicators of Rising Sovereign Risks in South Africa ### Box 1. Indicators of Rising Sovereign Risks in South Africa ### External versus fiscal risk overview - Commonly used external sovereign risk indicator (sovereign CDS in US dollar terms) does not suggest particularly elevated external risk but may not fully capture fiscal risks. - Sovereign CDS spread movements: - Rose to around 430 basis points in 2015–16 (when Finance Minister Nene left). - Rose to around 530 basis points in 2020 during COVID-19-related global market turmoil. - Has been trading at around the upper end of the “normal” range relative to its 2010–19 performance (200–300 basis points). - Sovereign debt and term premia: - Debt-to-GDP ratio is around 70 percent (reflecting the recent GDP revision), significantly above its previous peak of around 45 percent registered in the 1990s. - Local currency sovereign term premia remain at around their historical high. ### Local-currency sovereign risk indicators (elevated) - Swap spread (fixed leg of interest rate swaps minus maturity-matching sovereign yield): - Typically positive; in South Africa it has been negative (sovereign yields > swap rates) due to high fiscal risks elevating sovereign yields above swap rates. - Swap spread narrowed in absolute terms from around –370 basis points during the worst of the COVID-19 market turmoil to around –200 basis points in early-December 2021. - Remains wider in absolute terms than previous levels of around –100 basis points and far outside the “normal” range based on historical performance. - Local currency sovereign risk premium (LCSRP): - LCSRP is the local currency sovereign yield spread to the “local currency US sovereign yield” (constructed using US sovereign yields in dollars and dollar-rand cross-currency swaps). - The estimated LCSRP is comparable to previous highs including the one registered in 2015–16. - Actual yield differential versus implied counterpart: - The implied counterpart is calculated as the sum of three components: the US yield, South Africa’s sovereign CDS spread (in US dollars), and long-term inflation expectation differentials between South Africa and the US. - The actual yield differential to its implied counterpart moderated from more than 460 basis points in the spring of 2020 to around 350 basis points. - The measure remains significantly above previous highs of around 100 basis points and the upper end of the “normal” range based on historical performance of around 70 basis points. - Prior to the COVID-19 pandemic, this indicator had already widened as the Eskom situation started to worsen. ### Bank and nonbank holdings of government securities (key statistics) - HQLA and bank roles: - The largest six banks, on average, hold close to 90 percent of HQLA in Level 1 unencumbered assets (mainly domestic government securities and central bank reserves). - Top-6 banks (“top 6”) holdings (percent of assets): - 1990s: 6–8 percent. - Early-2008: nearly 4 percent. - End-2011: around 8 percent of assets (bonds representing around 60 percent of those holdings). - January 2021: somewhat above 12 percent of assets (increase driven mainly by bond holdings; bonds’ share of total holdings rose to 75 percent). - “Other banks” holdings (percent of assets): - Early-2008: marginally below 5 percent. - January 2021: nearly 25 percent of assets (increase due mainly to T-bill holdings; T-bills’ share of total securities holdings around 70 percent). - Nonbank financial institutions: - 1990s: close to 35 percent of assets in government securities. - 2000s: around 15 percent. - Mid-2020: rose moderately to 17 percent (due mainly to holdings by “other financial institutions (OFIs)” including mutual funds and collective investment schemes). - Cross-country position: - As of September 2020, South African bank holdings of government bonds were somewhat below the cross-country median of 129 countries, but above the levels in Brazil, Mexico, and Turkey. - South African nonbanks were positioned somewhat below the cross-country median of 62 countries, similar to Turkey and above Mexico. - Holdings relative to stock of bonds outstanding: - Banks increased their share of the total stock during the COVID-19 pandemic but remain below the EME median. - Nonbanks remain in the top quartile. - Nonresident holdings rose from around the median in the early-2000s to the top quartile in the mid-2010s and have remained there even after nonresidents sold government bonds during the COVID-19 pandemic. ### Implications, vulnerabilities, and stress-test findings - Funding cost and valuation effects: - Cost of funding for the sovereign and the economy could increase if banks demand higher yields to hold sovereign debt. - Banks increase holdings when valuation becomes attractive; if risks on bank balance sheets rise, banks would seek higher yields to hold government bonds. - Bank behavior and regulatory responses: - IRB banks have been increasing risk weights for sovereign exposure up to 10 percent in line with the rising public debt ratio and weakening sovereign credit ratings. - Larger banks mark to market roughly one half of their government bond holdings (Table 1 reference). - Stress-test and sensitivity findings: - FSAP stress tests warn about vulnerability of banks to weakening sovereign credit quality. - Widening of external sovereign credit spreads by 200 basis points would lead to a fall in the aggregate capital ratio by about 3 percentage points. - Potential for larger valuation losses: - Sovereign bond valuations could become more volatile, potentially increasing the risk of large valuation losses that could compress profitability and capitalization for banks that mark holdings to market. ### Channels of spillovers and feedback loops - Exposure channel: - Falling sovereign bond prices reduce the value of collateral and could raise bank wholesale funding costs and pressure profitability and capital. - Macroeconomic channel: - Higher public deficits and debt can raise sovereign and domestic interest rates, adversely impacting bank balance sheets. - Since 2010, six successive foreign currency sovereign downgrades by the main three rating agencies to below investment grade have been matched by downgrades of banks’ credit ratings. - Safety net channel: - Government contingent liabilities and backstops in case of banking problems can worsen sovereign credit perception, increasing sovereign funding costs and reducing bank profits. - Spillbacks from the banking sector: - Direct effect: government interventions to manage banking crises turn contingent liabilities into real liabilities, worsening the debt outlook. - Indirect effect: banking-sector developments affect growth, primary balance, and interest rates, amplifying fiscal cycles. - Home bias and fiscal consolidation: - Banks’ home bias in sovereign debt holdings tends to delay fiscal consolidation. - Illustration: a relatively high degree of banking sector home bias (relative to the sample median) is associated with a substantially weaker primary fiscal balance when public debt is 80 percent of GDP (noting South Africa’s debt was 69 percent of GDP in 2020). ### Policy implications and priorities - Without sufficient fiscal consolidation to keep supply of sovereign debt in check, risks from the sovereign–bank nexus will increase. - Risks will also increase if private investment, demand for bank credit, and broader economic activity remain weak. - Important policy measures include, inter alia: - Finalizing the Financial Sector Laws Amendment Bill (FSLAB) to improve the bank resolution framework and introduce a deposit guarantee scheme. - Monitoring and addressing the exposure, macroeconomic, and safety net linkages between the sovereign and financial sector. - Considering the implications of higher risk weights and potential need for banks to increase capital buffers in response to elevated sovereign risk premia. *Source: IMF Working Paper — Box 1. Indicators of Rising Sovereign Risks in South Africa* ### Box 2. Feedback of Bank and Sovereign Risks in South Africa ### Box 2. Feedback of Bank and Sovereign Risks in South Africa ### Increased correlation between bank and sovereign credit risk - Two-year moving correlation computed between the sovereign and ten banks (for which the indicator is available from CreditEdge) shows the correlation has increased. - Daily CDS spreads estimated from the expected default frequency (EDF) were used to calculate the two-year moving correlation. - Dispersion has tightened over the years, driven mainly by small banks’ correlation with the sovereign moving from either negative or small positives to levels comparable with large banks’ correlation. - Some increases likely reflect perception of higher risk, which tends to push the asset price correlation higher. ### Fiscal cost of banking crises: empirical evidence - Median output losses from banking crises: - 35 percent of GDP in high-income countries. - 14 percent of GDP in low- and middle-income countries. - Median increase in public debt in the four years after a banking crisis: - A little over 20 percent of GDP in high-income countries. - 16–17 percent of GDP in low- and middle-income countries. - Examples of extreme fiscal costs: - Indonesia’s fiscal costs during the Asian financial crisis reached more than 50 percent of GDP. - Fiscal costs in Iceland and Ireland during the global financial crisis exceeded 30 percent of GDP. ### Drivers of fiscal costs of banking crises - Higher direct fiscal costs associated with: - Banks that were more leveraged prior to crises. - Banks reliant on external wholesale funding (higher rollover and solvency risks). - Countries that guarantee the entire bank liabilities during a crisis. - Factors associated with lower direct fiscal costs: - Higher quality of supervision. - Greater credibility of sufficient government financial safety nets (e.g., broad deposit insurance coverage). - Swifter government intervention ex post. - Policy trade-offs: - Guaranteeing liabilities may limit upfront deposit disbursements or debt issuance but tends to raise average direct fiscal costs. - Onerous concentration limits could create unintended pro-cyclical consequences (excessive reduction of liquidity, bond market pressures, other macro-financial dynamics), especially during sharp downturns with declining sovereign bond prices. ### Lessons for South Africa - South Africa’s banks have strong capital and liquidity buffers and are well regulated. - South African banks navigated both the Global Financial Crisis in the late-2000s and the COVID-19 pandemic well. - Stress tests by the joint IMF–World Bank FSAP show resilience to adverse shocks. - Rising public-sector fiscal deficits and debt amid an increase in sovereign risk premia could raise concerns about banks’ increasing holdings of domestic sovereign debt. - Protracted weak macroeconomic conditions could challenge the domestic banking system if sovereign risk and bank exposures reinforce each other. ### Policy implications: mitigating financial sector–sovereign nexus risks - First line of defense: Macroeconomic policies — fiscal consolidation and structural reforms recommended by IMF staff to: - Reduce the supply of sovereign debt. - Boost medium-term growth. - Improve banks’ lending opportunities. - Further strengthen bank capital buffers. - Regulatory measures would be a new approach in South Africa; few countries currently resort to them. - Key principles from the literature: - Finalize the FSLAB, enhance the resolution framework, and introduce a deposit guarantee scheme to strengthen the safety net channel. - Strengthen bank capital, maintain sound fiscal positions, and pursue prudent macro-structural policies to reduce nexus risks. - Avoid measures with unintended pro-cyclical consequences. ### Carefully calibrated regulatory measures discussed during the 2021 FSAP - Increasing risk weights on sovereign bond holdings: - IRB banks have already increased risk weights on holdings of domestic sovereign debt and therefore hold more capital against them. - Under national discretion, a (relatively low) risk weight may be applied to domestic sovereign debt denominated and funded in domestic currency while being mindful of potential pro-cyclical effects. - Applying Pillar 1 or 2 capital surcharges: - Surcharges could be applied on holdings of domestic sovereign bonds only above certain thresholds. - Surcharges would be calibrated to reflect perceived risks and discourage excessive concentration while limiting risks of unintended side-effects (e.g., an overly higher cost of meeting liquidity requirements). - Introducing a quantitative measure to reduce concentration: - Putting a cap on concentration could create “cliff effects” if bank holdings approach or exceed limits, prompting rapid shedding of “excess” bond holdings. ### Process and implementation considerations - Measures need to be gradually introduced, carefully calibrated, and clearly communicated to achieve objectives. - Measures could best be introduced after the ongoing normalization of the COVID-19-related prudential requirements has been completed. - A reasonable transition period is needed to give banks time to adjust their balance sheets. - Announcing envisaged near-term measures with the applicable transition period would help prevent further intensification of the nexus and smooth adjustment. ### Summary and way forward - The financial sector–sovereign nexus is relatively moderate at present, but authorities should continue to monitor risks and analyze potential measures in South Africa. - Regulatory options can be explored but need support from fiscal consolidation to reduce government debt supply and structural reforms to durably boost growth. - Since the onset of the COVID-19 pandemic, financial institutions in many EMEs have increased holdings of domestic sovereign debt, tightening the linkage between financial system health and sovereign debt levels. - The analysis could be broadened to other EMEs to inform authorities and regulators considering measures to address related risks. *Source: Box 2, "Feedback of Bank and Sovereign Risks in South Africa," Working Paper No. WP/22/51.* --- _Source: https://www.imf.org/-/media/files/publications/wp/2022/english/wpiea2022051-print-pdf.pdf_