Over the past few years, the three major sovereign credit ratings agencies – S&P Global Ratings, Fitch and Moody’s Investors Service – have all urged and prompted South Africa to pursue a path of fiscal consolidation amid rising expenditure. In successive budgets, National Treasury has made repeated undertakings to observe strict fiscal discipline through fiscal consolidation.
The February 2018 budget was no different, and this is likely to remain the case when new Finance Minister Tito Mboweni delivers the Medium-Term Budget Policy Statement (MTBPS) next Wednesday.
Our collective attention will be focused on what shape and form fiscal consolidation will take against the backdrop of an increasingly constrained fiscal space, as South Africa’s fiscal room has become narrower and narrower with each budget cycle. It is in this context that it is Business Unity South Africa’s (BUSA’s) considered view that fiscal consolidation must strike a balance between generating greater efficiencies in both expenditure and tax collection, implementing growth-enhancing reforms as well by generally reducing expenditure.
On expenditure, the continued growth in public sector wages at a rate exceeding increases in productivity, revenue growth and consumer price inflation, is a major red flag. The current growth trend in the public wage bill will necessitate exceeding the medium-term expenditure framework by R30bn. Finding R30bn will, in turn, necessitate either increasing taxes or reducing expenditure elsewhere – either option is likely to prove difficult for the fiscus to absorb.
It has long been proposed by business that the privatisation or outright closure of under-performing SOEs of questionable socio-economic benefit, as well as the mothballing of underperforming government programmes could stem fiscal leakage and yield considerable savings for the fiscus.
In addition, tackling corruption, rationalising government departments, the government effecting timely payment for services rendered, improving designation (including enforcement) with a view to enhancing fiscal health and economic performance would go a long way in curbing rising expenditure.
On the one hand, Minister Mboweni will need to contend with demands for greater social spending, while on the other will need to grapple with managing the country’s shrinking tax base more efficiently whilst convincing lenders of South Africa’s commitment to fiscal discipline.
SOEs remain a major concern and pose the biggest risk to fiscal sustainability. The multi billion-rand losses recorded by SOEs, as well as the failure of a number of SOEs to table their 2017/18 annual reports, as stipulated in the Public Finance Management Act, point to serious concerns around governance.
Left unchecked, further Treasury bailouts are likely, placing further pressure on the fiscus over the medium term.
While Eskom’s leadership has changed, the fundamentals underlying its deteriorating balance sheet remain: the power utility has limited scope to grow sales in the context of consistently high tariff increases that businesses and consumers can ill-afford – hastening Eskom’s “death spiral” in which ever fewer customers face a progressively higher unit cost for electricity.
With Treasury’s exposure to Eskom in the form of government guarantees totalling R350bn, S&P, Moody’s and Fitch have often singled out Eskom as the biggest risk to South Africa’s sovereign credit rating, a risk acknowledged by Treasury in the 2018 Budget.
The debt-to-GDP ratio will reach unsustainable levels if allowed to deteriorate further. When National Treasury guarantees to SOEs are included in overall government debt, the percentage is in excess of 70% of GDP.
Such high levels of public debt make it difficult to avoid a “debt trap” given South Africa’s weak economic growth rate. Whereas the global growth rate is 3.7%, South Africa’s economy is projected to grow by less than 1% in 2018. With the economy growing at a rate lower than population growth, South Africans are becoming progressively poorer.
Continuation of this trend is likely to place greater demands on the fiscus for increased social spending on programmes such as the National Health Insurance, thereby complicating the task of decreasing debt servicing costs. Currently, 11% of South Africa’s revenue goes towards servicing debt.
The country is in a position where it cannot effect fiscal stimulus and, as such, growth-enhancing reforms must take place within the expenditure framework. This is so because any further deterioration in the debt-to-GDP ratio will likely bring about further sovereign ratings downgrades which would see South Africa automatically exit Citigroup’s World Government Bond Index.
An exit from the index will result in R180bn in capital outflows from the country, with devastating impacts on the economy.
Given this context, deficit-neutral interventions should include:
• Lowering the country risk premium through working towards sovereign ratings upgrades, in part, through reducing government spending
• Providing tax incentives for domestic savings – with focus on long-term savings (especially through fixed-income (debt)/long-term deposit instruments.
• Providing regulatory support/incentives for the financial industry to innovate/improve the savings products that it provides to savers. Some of this innovation could be aligned to the Infrastructure Fund President Cyril Ramaphosa announced in the economic stimulus package.
On the revenue side, balancing the budget will depend on robust tax collections. But tax buoyancy decreased in the previous fiscal year. While preliminary receipts have not yet raised alarm, the reduced GDP growth expectations will affect revenue collection over the medium term. Given the VAT increase in the February budget, excise increases, the health promotion levy, increases in administered prices, declining tax buoyancy, low tax morality and apparent reductions in enforcement capacity at SARS, there is little scope for further tax increases over the medium term.
In terms of tax efficiency, a crackdown on the illicit economy is overdue. Added to this are institutional reforms at the South African Revenue Service such as, but not limited to, the timely repayment of value-added tax (VAT) and personal income tax (PIT) refunds and effective excise collections. Collectively, such measures constitute an obvious cost-free opportunity to relieve overburdened consumers and businesses as well as fiscal pressure.
In recent years, business has been consistent in its messaging that fiscal consolidation – through generating greater efficiencies, creating optimal conditions for growth and by reducing expenditure – holds the most tangible prospect of sustaining the government’s inclusive growth policies. However, continued avoidance of the imperative to manage expenditure, implement growth-enhancing reforms and ensure effective accountability mechanisms in SOEs could result in an extended period of enforced austerity. Such a scenario would ultimately imperil the government’s ability to spend on social programmes, thereby undermining its progressive policy stance.