South Africans are at their limit

As the government scrambles to find additional revenue to fund the 2025 budget, economists warn that turning to taxes could backfire.

This is because the country’s tax base is already heavily burdened by taxes, and trying to extract any more may push them over the edge – or rather, over the curve.

The Laffer Curve is an economic theory that describes the relationship between tax rates and tax revenue.

It was proposed by economist Arthur Laffer, who suggested that there is an optimal tax rate that maximizes government revenue without discouraging productivity, investment, and economic growth.

The central idea is that increasing tax rates beyond a certain threshold can lead to diminishing returns; higher taxes may disincentivize work, entrepreneurship, and investment, ultimately reducing the overall tax base.

South Africa is already heavily reliant on a very small tax base to fund the country’s needs.

The shelved 2025 budget review revealed that just under 980,000 South Africans, or 1.5% of the population, pay 60.9% of all personal income tax,

Narrowing it down even further, around 235,000 people pay a third of all income tax.

According to Aluma Capital chief economist Frederick Mitchell, any move by the National Treasury to hike taxes to try and extract even more from these individuals should be approached with extreme caution.

He said that the Laffer Curve is highly relevant in the context of the next Budget date, set for 12 March 2025.

This is especially because political battle lines are being drawn within the Government of National Unity (GNU).

“The ANC does not want to cut spending, and the DA does not want another increase in taxes, but a compromise will have to be found somewhere before the 12th of March,” he said.

However, whatever the politics, it is clear that a balance between taxing and cutting spending has to be reached. But raising taxes risks falling foul of the Laffer Curve.

“Considering South Africa’s small and heavily burdened tax base, any discussion of tax increases—particularly on Value Added Tax (VAT)—needs to be approached with caution,” Mitchell said.

“Raising VAT could further strain households and businesses already grappling with high living costs.”

However, Finance Minister Enoch Godongwana has made it clear that trade-offs will have to come from somewhere. If not a VAT hike, then something else will have to give.

Mitchell said that an additional tax burden would reduce disposable household incomes, decrease consumer spending, and ultimately stall economic recovery, undermining any potential benefits from increased revenue.

Other economists have warned of other knock-on effects, including those that are not so quickly measured in the economy.

These include the long-term impact on interest rates, and how the economic environment might deter future investment.

How to save the budget

Mitchell said there are alternatives to simply hiking taxes or making drastic cuts.

He noted that investing more in efficient and effective tax collection could boost the country’s revenue without raising tax rates.

From the expenditure side, the state simply needs to be more diligent about its spending and eliminate wasteful and fruitless expenditures and corruption.

This could free up resources for vital public services without imposing further burdens on taxpayers, he said.

“Investing in growth strategies is also essential. By creating an environment conducive to business development and job creation, the government can gradually expand the tax base,” Mitchell said.

“Supporting small and medium enterprises (SMEs) and encouraging foreign investment can lead to increased employment and higher incomes, making it easier to manage existing debts without imposing additional tax pressures.”

The DA – firmly opposed to any tax hikes in the budget – presented its alternatives on how to solve the finance problem, broadly aligning with Mitchell’s views.

The party suggested that National Treasury:

• Cut excessive spending budgets for non-core expenses in departments.
• Implement a hiring freeze on all non-essential government positions for 12 months.
• Reprioritise budget allocations to benefit essential services.
• Conduct an emergency spending review to weed out wasteful expenditure.
• Boost tax compliance.
• Sell under-utilised land owned by the state.