South African gold mining companies are the sector most exposed to the risk of further upward pressure on wages following the agreement reached this week between striking workers and the country’s platinum miners, Fitch Ratings says.

Both gold and platinum mining in South Africa are highly labour-intensive, with labour typically accounting for around 40% of total costs. The recent deal, which Anglo American Platinum said would lift total labour costs by 8.4% a year for three years, will therefore continue the trend of eroding profitability seen in recent years. But it is also likely to add to pressure for fresh wage agreements in other areas of the mining industry and provides no guarantee that platinum producers won’t face new demands and supply disruptions before the end of the three-year agreement.

Gold mining companies could face the biggest impact as they are at least as labour-intensive as platinum miners, but less profitable and with higher commodity price risks. This is because platinum is predominantly an industrial metal, notably used in catalytic converters, and southern Africa produces around 70% of the world’s supply. Over the medium term, rising production costs are therefore more likely to feed through into platinum prices than gold, where pricing is influenced far more by its use as an investment or inflation hedge and where South Africa controls an ever-shrinking proportion of global supply.

Gold miners reached a new two-year pay deal in September and a recent court ruling stated that any new strike would therefore be unprotected, meaning the company would theoretically be able to dismiss workers. This is likely to prevent immediate strike action but unprotected strikes are still possible, and pressure for more above-inflation wage hikes is likely to be intense when the current deal ends. Iron ore and coal miners are better positioned because labour only accounts for around 20% of total costs and because of strong local demand for these commodities.

Higher wage demands are also likely to continue in other sectors, including manufacturing, construction, transport and utilities. While the platinum miners’ settlement could be used as a negotiating benchmark by unions in these sectors, labour costs for these companies tend to be a significantly lower proportion of total costs. However, if the length of the platinum miners’ strike – around five months – were also to be repeated in other sectors then the disruption caused would have a much more significant impact. An increase in wage settlement rates would add to the pressures on the Reserve Bank to raise interest rates to control inflation, which is already above the top of its 3% – 6% target band.

From a sovereign perspective, increased strike activity and high wage demands represent negative supply side shocks to the economy. The platinum strike has been highly damaging in terms of the direct short-term impact of GDP, exports and company profits. This was one of the reasons why we lowered our 2014 GDP growth forecast to 1.7% (from 2.8%), and our 2015 forecast to 3% (from 3.5%) when we revised our Outlook on South Africa’s ‘BBB’ sovereign rating to Negative from Stable earlier this month.

In the longer term there is a risk that higher wages and poor labour relations will reduce the incentive for mining companies to invest. Broader perceptions of the business environment in South Africa could also be damaged.

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