Manuel announces counter-cyclical Budget revision

13th November 2003

Finance Minister Trevor Manuel yesterday provided the clearest signal yet that government remained committed to a counter-cyclical, growth-oriented fiscal framework for the medium term, when he announced that the main budget deficit would rise to 3,2% of gross domestic product (GDP) next year.

He also used the occasion of the release of the medium-term expenditure framework (MTEF) to reaffirm government’s commitment to the roll-out of social and economic infrastructure through an expanded national public works programme as well as through increased government and parastatal investment.

An increase in the deficit ratio was viewed as particularly significant as previously government has attempted to keep it below the three per cent level as part of its sound fiscal management philosophy – remaining below the three per cent threshold is also a requirement for members of the European Union, where fiscal prudence is viewed as critical for sustainability.

Despite an expectation of a downturn in economic growth, which will put pressure on the revenues government can expect to raise, Manuel described the MTEF as a growth-oriented fiscal approach that affirmed government commitment to long-term sustainability.

Governments the world over employ counter-cyclical approaches in times of economic downturn, where they use fiscal policy to boost overall economic demand.

The employment of such an approach in South Africa comes against a backdrop of a slowdown in global economic activity as well as slower-than-expected recovery in world markets.

It also follows government commitments to growth and development made earlier this year at the Growth and Development Summit.

Indeed, in his address to parliament, Manuel explicitly stated that “this is a growth-oriented fiscal framework that affirms Government's commitment to long-term sustainability – reflected in the continued declining cost of servicing debt as a share of GDP”.

“It is a framework that provides for strong growth in infrastructure investment by national and provincial government, while also accommodating the increasing capital requirements in the years ahead of the major parastatals, including Eskom, Transnet and its subsidiaries and our larger water utilities,” the minister explained.

This said, Manuel still emphasised that the consolidated national deficit, which takes into account projected surpluses on the social security funds, is expected to remain below three per cent of GDP over the MTEF period.

Meanwhile, Sapa reports that national revenue is expected to fall by R5-billion this fiscal year (2003/04), due to poor economic growth and low profits in the export industry, according to Finance Minister Trevor Manuel's Medium Term Budget Policy Statement (MTBPS).

Revenue trends for the first six months of this fiscal year have lead to the main Budget revenue being revised down by R4,6-billion, to R299,9-billion.

The medium term estimates for 2004/05 and the following two fiscal years are R325,7-billion, R357,8-billion and R391-billion respectively.

The total tax revenue for the current year is revised down by R6,3-million.

The medium term estimates for 2004/05 and 2005/06 show total tax revenue are also revised down by R5,5-million and R6,2-million respectively.

Main budget revenue as a percentage of Gross Domestic Product (GDP) is estimated to remain stable at 24.8 percent of GDP over the medium term.

The MTBPS says further income tax cuts should be possible in the coming year.

"Personal income tax relief to compensate for the effect of inflation should again be possible, and various technical refinements of the capital gains system and the world wide income tax regime will be proposed".

Due to lower than expected profits - particularly in export sectors such as mining - income tax on companies will generate R4-billion less in revenue.

Secondary income tax on companies will also generate R1-billion less revenue than originally forecast.

In line with the stronger rand, the value of imports will decline for this fiscal year, resulting in a lower than budgeted revenue collection of R1,9-billion from custom duties.

Although estimates for gross tax revenue has fallen, departmental revenue is revised upwards by R1,7-billion.

"This is mainly due to higher than budgeted revenue from administrative cellular licence fees and higher than estimated dividends from Eskom," the reports states.

Government will continue to review taxation of retirement funds and alternative savings instruments into next year.

Since 2002, government has reduced the rate of tax on retirement funds from 25 to 18%.

The MTBPS says that in the new year, government will implement measures to promote a culture of savings.

"The question, for example, of whether incentives in the pension area stimulate overall savings into different investment alternatives is being examined".

There will be a review of convertible share/debt instruments next year, as it had become apparent that derivatives and mixed financial instruments were being used to avoid paying taxes.

Sapa continues that national transfers to provinces will grow by 5,6% in real terms in 2004/05, and at an annual average rate of 4,3% over the next three years.

This is according to the Medium Term Budget Policy Statement (MTBPS) tabled by Finance Minister Trevor Manuel in Parliament yesterday.

An additional allocation of R19,9-billion will be used by provinces mainly for social security grants, support material for school pupils, the provision of antiretroviral treatment, and for infrastructure spending.

Over the same period, national transfers to local government will rise from R12-billion in 2003/04 to R17,1-billion in 2006/07, representing real growth of 6,9% a year over three years.

This will allow the delivery of free basic services, capacity building and increased investment in infrastructure to be speeded up, as well as increasing employment opportunities at local level.

On provincial government funding, the MTBPS says the main priority in education is to maintain a strong growth in non-personnel spending at schools.

In the health sector, the cost implications of HIV and Aids remains one of the top priorities.

"In addition to the amounts contained in the 2003 MTEF baseline, R1,9-billion is added to the HIV and Aids conditional grant over the next three years to initiate the national antiretroviral treatment programme, and for purchasing medicines and related supplies," the MTBPS says.

R2,5-billion is also set aside over three years for addressing skills shortages in rural areas.

Government is prioritising labour-intensive infrastructure building and maintenance projects, with the share of capital expected to grow over the MTEF, rising from a budgeted amount of about R18-billion in 2003/04 to over R24-billion by 2006/07.

Altogether, transfers from nationally-raised revenue will grow by 4,3% in real terms over the MTEF, from a revised R161,5-billion in the current financial year to R213,3-billion in 2006/07.

The unconditional equitable share makes up 88 percent of these transfers, and the remainder are conditional grants that fund a range of national priority programmes.

Of the R19,9-billion added to the provincial share over the MTEF, R14,1-billion goes into the equitable share, while R5,9-billion is added to conditional grants.

KwaZulu-Natal would continue to get the largest equitable share allocation, followed by the Eastern Cape and Gauteng, while the Northern Cape would get the smallest.

Funding the local government sphere, government has allocated an additional R3,9-billion over three years, aimed at accelerating the delivery of water, electricity, refuse removal and sanitation services to poor households.

"Government is reviewing the fiscal framework for local government with a view to introducing reforms in the 2005 Budget... taking into account the fiscal powers and functions of municipalities in light of the pending Local Government Property Rates Bill, the review of the regional services council levies, and the shifting of electricity distribution functions away from municipalities to regional electricity distributors," the document says.

Sapa goes on to report that after recording a surplus in 2002, South Africa's balance of payments is expected to record a deficit of one percent of Gross Domestic Product (GDP) this year.

This is according to the Medium Term Budget Policy Statement (MTBPS), unveiled by Finance Minister Trevor Manuel.

According to the MTBPS, both the weakness of the international economy and the relative strength of the rand have contributed to lower export earnings in 2003, compared to the previous year.

At the same time, the relatively firm currency and the anticipation of a pick-up in international demand supported growth in domestic expenditure, including strong growth in investment.

"This contributed to an increase in import expenditure over the first half of 2003 of two per cent.

"Weaker exports and steady import growth combined to lower the surplus on the trade account to 2,4%of GDP, from 4,2% in 2002," the document says.

The MTBPS says the rand has shaken off the dampening effect of recent interest cuts, suggesting the currency market is less affected by interest rate differentials than by growth prospects.

Manufactured goods constitute over three-quarters of total imports, with machinery, electrical equipment, vehicles and transport equipment the largest component.

Growth in capital good imports reflects rising business confidence, and provides a basis to meet increasing global demand in the foreseeable future.

"The deficit in manufactured goods trade has risen from R26,5-million in 1995 to R50,1-billion in 2002," the MTBPS says.

The document states that according to 2002 trade data, South African exports to Europe - excluding platinum - accounted for 35,3% of total exports, compared to only 9,1% for the US.

The Africa Growth and Opportunity Act (AGOA) meant 18,6% of South Africa's exports entered the US market without incurring duty.

However, with AGOA expiring in 2008, SA needed to focus on improving the competitiveness of its domestic production, and ensure the investment coming into the country to take advantage of Agoa benefits remained sustainable.

The inflation targeting range will no longer be specified as an annual average, but as a continuous target, according to the Medium Term Budget Policy Statement (MTBPS).

CPIX will no longer be specified to average between three and six per cent annually, but as a continuous target of between three and six per cent until further notice.

The report said the system of an annual average could lead to excessive interest rate volatility and ineffective management of inflation expectations.

Manuel and Mboweni also agreed to reformulate the 'escape clause' in the inflation-targeting framework as an'explanation clause'.

In future, when there is a possibility CPIX will go outside the target range - through, for example, a drought or a crash in the rand - the Reserve Bank will inform the public of the nature of the shock, the anticipated impact on inflation, and the monetary policy committee's response to the problem. – Sapa.