South Africa’s current fiscal path is unsustainable, says Arthur Kamp, economist at Sanlam Investments.
According to the Kamp, the announced bailout of state-owned companies and continued weak income growth has, effectively, severely dimmed the hope of fiscal consolidation in 2019/20 and 2020/21.
A main budget deficit of close to 6% of GDP is now expected in both years on current information. That compares with budgeted deficits of 4.7% of GDP in 2019/20 and 4.5% of GDP in 2020/21.
At the same time, the government debt ratio is forecast to continue climbing well above 60% of GDP over the medium term, he said.
“South Africa is at the point where non-interest spending must be constrained to accommodate interest payments.
“In the fiscal year ending March 2008, interest payments on government debt amounted to around 2.5% of GDP. In the current fiscal year ending March 2019, interest payments are forecast to amount to more than R200 billion, which is close to 4% of GDP (or 14.7% of total main budget revenue).”
Kamp said that if the real interest rate paid on government debt continues to exceed the real growth rate of the economy, then, increasingly, interest payments will be funded by increases in debt – unless the government can cut back expenditure in other areas.
What can be done?
Kamp said that the best possible solution would be to grow the economy.
Given this is not likely to occur within the required timeframe, the government must also consider other alternatives, he said.
“The Treasury has indicated additional tax-raising measures will be implemented in next year’s budget. But there is limited scope to do so.
“Corporate profits, as recorded in South Africa’s national accounts, are depressed. Also, the level of tax on the income and wealth of individuals relative to household income is at its highest level ever. And, a VAT rate hike would be unpalatable.”
“We could also sell assets, which would likely be warmly received by market participants. However, whereas privatisation can lift efficiency, it is often a stopgap measure that does not alter the underlying problem.”
Running out of time
While these all remain options, Kamp said that attention should switch to government expenditure. However, he noted that this cannot occur in isolation.
“Simultaneously, we will need to find a way to encouraging private sector fixed investment to sustain growth,” he said.
“The bottom line, however, is South Africa’s government spending must reflect the reality of a low potential growth rate. This will be difficult.”
Kamp said that government’s consolidated budget shows expected total expenditure of R1 826.6 billion in 2019/20.
He added that interest payments cannot be cut – and because of the high unemployment rate of 29%, it is also not feasible to cut social protection.
He added that upward pressure seems likely on health expenditure (expected at R223 billion in the current fiscal year) and continued support for Eskom (R49 billion in 2019/20, R56 billion in 2020/21 and R23 billion in 2021/22) .
“This leaves a ‘balance’ of R1 145 billion on which expenditure cuts are likely to be focused,” he said.
“To put this in perspective, an improvement in the primary budget balance of 1% of GDP is equivalent to R50 billion.
“Despite these difficulties, though, looking ahead over the Medium-Term Expenditure Framework, one looks to the Treasury to deliver expenditure cuts relative to the current baseline, with the focus on consumption spending rather than capital expenditure when the Medium-Term Budget Policy Statement is read in October 2019.
“Fiscal policy cannot be allowed to continue drifting in the wrong direction. The only plausible option is to tackle the problem now, before it becomes insurmountable.”