For every economist who thinks Pravin Gordhan is doing a great job holding the line on fiscal discipline there are two who fear he is not doing enough to safeguard SA’s public finances from the build-up of risks given the low-growth trap the economy is mired in.
Political and trends analyst JP Landman is in the former camp. He points out that since 2013, national treasury has bettered its self-imposed expenditure ceiling every year.
“This demolishes the political myths that treasury does not have the ability to hold the line on expenditure and that populist demands from politicians undermine treasury’s management,” he says.
“I’m not suggesting for a moment it’s not a titanic fight or that treasury doesn’t have to work hard to hold its corner, but the evidence suggests that it is very successful at the effort, contrary to what the mythmakers say.”
Fiscal risks are elevated and SA is failing to take hard decisions
Sanlam Investment’s Arthur Kamp is equally generous, arguing that some of the key building blocks to return SA to fiscal sustainability are falling into place.
He cites the fact that the main budget primary balance (revenue less noninterest spending) has been brought down from a deficit -2.7% of GDP in 2012/2013 to an estimated -0.5% of GDP in 2016/2017 and is projected to move into surplus over the medium term. This will stabilise SA’s debt ratio and is “a remarkable achievement” in a low-growth environment, he says.
So how to reconcile these facts with the scepticism of Nomura’s Peter Attard Montalto, who describes the 2017 budget as “threadbare” and continues to believe that SA is on a path to a junk rating?
Or that of Prof Matthew Lester of Rhodes Business School, who said in his post-budget commentary: “SA is going nowhere slowly ... For the past five years, SA has achieved little more than struggle to contain the fantastic debt trajectory established between 2009 and 2012.”
In technical budget briefings, treasury officials revealed that “there are significant risks building in the fiscal system” and that these have become “more elevated” since the October medium-term budget. And yet treasury chose not to lower its growth forecast or tighten policy further in last week’s budget.
In essence, whether a commentator thinks treasury is skating too close to the edge comes down to their own growth outlook.
For if, as Nomura, Citibank and Momentum Investments contend, Gordhan is being too optimistic in expecting real GDP growth to rebound from 0.5% in 2016 to 2.2% by 2019 and tax buoyancy to remain strong, then budget 2017 does not go far enough. Treasury should be doing more to rein in spending growth, which is budgeted to grow by almost 2% above inflation until 2019/2020.
Treasury’s budget office head, Michael Sachs, agrees that the medium-term growth outlook is a key concern, saying at a post-budget briefing in parliament: “If we continue on a path of 0.5% [real GDP growth] or don’t reach 2% or accelerate towards 3% over time, then we would be very worried.”
This is because treasury’s modelling shows that the current level of public spending is sustainable only if growth returns to its historic average of 3%. However, if growth remains stuck below 2%, a stable debt path will be difficult to sustain at current levels of expenditure, even if no new policy initiatives are taken.
A big part of the problem is that for the past decade, government expenditure has been allowed to grow faster than GDP growth and tax revenue. It has climbed from 24.6% of GDP in 2007 to 30% today.
As a result, SA has reached its fiscal limits and as long as growth fails to recover, the country cannot afford existing levels of expenditure — let alone new policies. But, as ever, the long-term policy aspirations of SA’s politicians far exceed the available resources.
This is what fuels Lester’s concern when he points out that SA has 7m HIV-positive people who are now guaranteed free antiretrovirals irrespective of their CD4 count, or that national health insurance (NHI) is going to cost R72bn annually, by government’s own estimates, if it ever gets off the ground.
To foot the bill for NHI alone, Lester estimates that three different sources of tax will have to be raised – a surcharge on taxable income, a Vat increase and a payroll tax.
“Your long-term trend is ever-increasing tax rates to pay for things like that,” he says.
Attard Montalto makes a similar point, noting that while existing taxes can always be upped, a Vat hike is practically all that is left unused in SA’s fiscal cupboard. However, as it is already earmarked for NHI, “this makes the fiscus’s ability to take future further shocks look somewhat threadbare”, he says.
“Things look OK with the growth recovery pencilled in, but if one considers that the debt-to-GDP [ratio] barely stabilises over [the three-year] horizon in net terms, the workload starts to pile up as one considers [the potential for] growth shocks in the future.”
Whether a commentator thinks treasury is skating too close to the edge comes down to their own growth outlook
There are two obvious areas where the workload has yet to be tackled: the financial mismanagement of state-owned enterprises (SOEs), and the public sector wage bill.
Fitch and Moody’s both expressed concern about the sharp revision upwards of government’s contingent liabilities in the budget as the actual drawdowns by SOEs against government guarantees are rising rapidly. This represents an increasing risk to SA’s position.
Government’s exposure to SOEs is estimated to have climbed by R52.5bn over the past financial year to top R308bn, driven mainly by rising drawdowns by Eskom.
- According to the Budget Review: Eskom is expected to have used up a further R43.6bn of its R350bn guarantee by the end of this month and to draw down R22bn annually over the next three years;.
- SAA has used R3.5bn of a R4.7bn going-concern guarantee with the remainder likely to be used in 2017/2018;
- The SA National Roads Agency used R2.9bn more of its R38.9bn guarantee in 2016/2017 and is expected to use up its guarantee by 2018/2019; and
- The SA Post Office increased its exposure by R2.6bn over the past year, using up nearly all its R4,4bn guarantee.
When contingent liabilities are added, SA’s gross debt is set to climb from 65% to 68% of GDP by 2018/2019. According to IMF studies, 70% is the “high-risk threshold” often associated with debt distress in other countries.
But perhaps the biggest wild card is the coming public sector wage agreement, which will take effect in mid-2018. The outsized 2015 agreement wiped out SA’s contingency reserve and crowded out spending in infrastructure and other areas.
The public service headcount has stabilised at 1.32m but has not fallen despite treasury’s concerted efforts to rein it in. The budget allows for the wage bill to rise by 7.2% a year on average. Anything more generous will put extreme pressure on SA’s public finances.
“We’re still failing to address — because it’s not politically the right thing to do — the hard choices that are needed,” laments Lester. He argues that SA wouldn’t need the R28bn in additional tax revenue in 2017/2018 if it could sort out bribery and corruption, tax evasion, lack of compliance in the grey economy, and restore business confidence.
In the end, SA might be lucky: global growth could firm and civil servants could practise wage restraint. If not, South Africans will find out what real austerity feels like, and it will be a lot more painful than the “lite” version that Gordhan has been peddling up until now.
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