By Russell Lamberti, Head Strategist: ETM Macro Advisors
In our preview piece, we suggested five key things to focus on in assessing the medium-term budget. Now that finance minister Mboweni has delivered the fiscal update in parliament, let us see what we learnt in these focus areas.
1) Is there any explicit recognition of the intolerability of the budget deficit and a credible, significant plan to at least reduce it below R100 billion next fiscal year?
We saw, once again, a complacent finance minister propose that South African citizens and capital markets tolerate expanding deficits. Not only does National Treasury show no commitment to getting the deficit below R100 billion, but it is also happy to run larger deficits. Not only will deficits get bigger, but older government bonds are coming due that will have to be paid back in full, causing the need to issue more bonds to repay them, or rolling the loans. This all means – and it is an important headline from this medium-term budget – that government’s borrowing requirement will rise by a further R85 billion next fiscal year (+37%) to R315 billion.
2) Is there likely to be further tax increases or tax relief? (the minister won’t announce firm tax proposals but may allude to tax policy for February 2019)
To fund government’s unquenchable spending habit, more taxes look to be coming in 2019. There was no recognition of the desperate need for tax relief. While National Treasury doesn’t envisage raising the main avenues of taxation like VAT, income and corporate tax rates, it stated it would adjust tax brackets, most likely to allow for bracket creep, which puts some taxpayers in higher tax brackets even if they just get inflation-linked salary increases. The carbon tax is still being strongly considered.
But most alarming for its sheer deafness to the plight of South Africans is that there was an explicit commitment in the medium-term budget to applying “further large increases to the fuel levy in each of the next three years.”
The ANC government will not relinquish its taxation stranglehold even in the slightest.
3) Is there a conservative appraisal of current tax revenue growth and a recognition that local and global economic forces may cause 2019 and 2020 revenue forecasts to be too optimistic?
National Treasury runs macroeconomic scenarios. In its worst-case scenario (Scenario B below), it envisages a global recession in which South Africa’s national deficit spirals quickly upward. What is interesting though is that it doesn’t seem as if this distinctly plausible risk is factored into the core budgeted forecasts. The scenario is also telling of the state’s chronic spending addiction because it seems that this worst-case scenario foresees no notable expenditure reduction, even though tax revenues would be collapsing!
Is any sort of SOE privatisation proposed?
There was no explicit talk of privatising SOEs, and the government remains committed to tax-funded bailouts of these dysfunctional companies. But both the finance minister in his speech and the official MTBPS report alluded to needing to make “difficult decisions” in reforming state-owned enterprises. Mboweni emphasised and even slowly repeated that SOEs needed to be “reconfigured” and that in doing so there should be no “holy cows.” Given that the holy cows at SOEs are “privatisation” and “retrenchments”, this may allude to some break-up plans for the smaller entities like SAA. We await further news on this but must remain sceptical given the cryptic rhetoric and lack of firm, specific proposals to fix these broken, wealth guzzling companies.
Overall: Key to assessing the medium-term budget is whether the Ramaphosa administration has any meaningful desire to reduce the size and scope of the state fundamentally.
The short answer is no. The budget shows little change in tone around reducing the reach and power of the state in the economic system.
The was some rhetoric around “encouraging private-sector investment”, but on deeper analysis, this seems to refer to co-opting private companies to fund public infrastructure through the establishment of an Infrastructure Fund announced recently by president Ramaphosa. Although this smacks of more immense opportunities for state-corporate cronyism, we can see the potential insofar as the state allows private firms to freely run with projects with a viable expected rate of return. In outlining an infrastructure framework, the medium-term budget report has this interesting little paragraph on page 4:
“Can the project be fully privately funded? Many large infrastructure projects are commercially sustainable. Rather than commit scarce public resources, government will remove regulatory impediments that stand in the way of projects in sectors such as housing, telecommunications and transport (airports, for example).”
Unfortunately, while this sounds promising and may be so in certain instances, it lacks a commitment to freeing the economy more broadly and allowing companies to discover investment opportunities from demand and supply signals in free markets for private property. Instead, the state will direct where and how capital is spent. Also, it still envisages tackling projects of questionable or no commercial justification, and we know from solid academic literature on public infrastructure spending that most state infrastructure projects make losses and are an immense fiscal and economic drain.
What did we learn in the 2018 medium-term budget?
- We learned – or rather had confirmed – that Tito Mboweni is not a transformative finance minister and that deficits are set to rise, not fall. This was a very poor medium-term budget.
- We learned that taxes aren’t growing as quickly as it appeared due to an underestimation of forthcoming VAT rebates, partly due to a fragile economy where more businesses are making losses.
- We learned that the tax burden will rise in 2019 and that the state has no plans to cut spending in times of fiscal trouble.
- We learned that Mboweni is not shy to use strong language against corruption and that he maintains that the Reserve Bank should be independent and keep inflation low. But we also know that this is precisely what he has been hired to do – restore credibility to the National Democratic Revolution and get the ANC’s grand state-building strategy back on track. Unfortunately, this amounts to feeding the flames of fiscal and macroeconomic decay.
- We learned that core ANC policy has not really changed, and we think it is now safe to say that it can’t change and won’t change under president Ramaphosa. The medium term budget report contained most of the usual ANC buzzwords and phrases like urgently needing to “change the underlying structure of the economy” and “addressing distorted patterns of ownership”, while remaining intentionally vague on land expropriation without compensation. There was a seemingly approving nod to proposed legislation to reduce the severity of industrial strike action, so perhaps even the ANC is getting tired of union dysfunction.
Lastly, we learned that the state does not have a viable contingency plan if the global economy declines and global financial conditions worsen. South Africa is a fragile boat in a big global ocean, and the state appears to think reality will never bite. But it will.