In his supplementary budget on 24 June, Finance Minister Tito Mboweni painted a dire picture of South Africa’s public finances in the wake of the Covid-19 crisis and the government-imposed lockdown.
The minister’s growth projection was an eye-watering -7,25% for 2020/21. If that seems like a daunting number, bear in mind that National Treasury’s economic growth forecasts for South Africa have tended to be off by around 50% over the past decade. If that margin of error holds true again, growth could easily translate into a figure south of -10%.
Despite these record-low growth levels, government continues to spend beyond its means. Treasury expects national expenditure to increase to R1 809.2-billion in 2020/21, while revenues will collapse to R1 099.5-billion.
This will amount to a main budget balance of -R709.7-billion or over -14.6% of GDP. The consolidated budget balance, an expanded measure of state expenditure, is set to increase to -R761.7-billion or -15.7% of GDP.
In order to finance the ever-expanding deficit, government borrowing will increase. Mboweni expects a debt-to-GDP ratio of 81.8% in 2020/21, rising to 82% by 2021/22. Debt service costs will amount to R236.4-billion, or 13.1% of total expenditure.
Overall, we think the outlook presented by the minister was too optimistic given the limited prospects for policy reform. Indeed, even his ‘passive’ debt scenario (which he discounted and said was presented ‘only for illustrative purposes’) seemed somewhat optimistic in our view (it assumes, for example, that ‘growth recovers but remains low’).
Our expectation is that even though the Cabinet has nominally endorsed the ‘active’ debt scenario it will not support the policies necessary to achieve it. We have seen such a disconnect between policy goals and actions time and again in government policy over the past three years.
The risk therefore is that markets and analysts have assigned too much credibility to Mboweni’s ‘active scenario’ and that future debt, growth, and jobs indicators will shock markets and the currency into sharp retractions.
Limited options in the absence of structural reform
That Mboweni provided almost no detail on structural reform reflects that the government has no appetite for such reform. Instead, he dwelt on three measures: austerity, tax increases and borrowing. As we argued in this week’s Risk Alert, none of these options provide a route to growth and can collectively at best slow the march of the debt curve.
The first option is to cut state expenditure through an austerity programme. While this may narrow the deficit somewhat, austerity is unlikely to undo the effects of a decade of low growth born of bad policy. Critically, austerity measures will also undermine the cadre deployment and tenderpreneur networks that are so important for maintaining internal unity in the ANC. Substantive austerity measures will therefore be rejected by the party.
On extra taxation, the tax-to-GDP ratio pre-Covid-19 had already reached an all-time high point and South Africa has arguably for years been beyond the point of diminishing returns on the Laffer curve. Despite this, the finance minister indicated that an additional R40-billion in tax measures over the next four years will be announced in the 2021 Budget.
That leaves the third option of borrowing more. But turning to borrowing because you are unable to reform policies that undermine growth is futile. The costs of borrowing will increase while the share of debt that is denominated in foreign currency also increases. Funding from international financial institutions such as the International Monetary Fund or the New Development Bank will not be enough to fill the gap.
As the futility of the above three options materialises, a short-term risk is that the government grabs various financial and other assets under its expropriation without compensation provisions.
In response to questions from Parliament's finance and appropriations committees, Mboweni endorsed a proposed amendment to Regulation 28 of the Pension Funds Act to “provide guidance” to pension funds to invest in infrastructure projects. This would effectively open the way to a prescribed assets programme, compelling pension holders to finance the country’s consistently failing state-owned enterprises.
As for the argument that fiscal pressure will breed reform, we see little evidence of that. Government and ANC officials continue to be averse to hard reforms to labour and empowerment policy and the securing of property rights.
The likelihood now is that events will simply be allowed to overwhelm the government, and the economy will teeter on the edge of a sovereign debt crisis − perhaps for a considerable time, held up by vast global cash supplies − before being toppled into such a crisis by some unknown future global or domestic shock.
South Africans might well ponder the exchange between leading characters in Ernest Hemingway’s novel The Sun Also Rises.
“How did you go bankrupt?” the first asks.
“Two ways,” the other replies. “Gradually and then suddenly.”
Frans Cronje is the Director of the Centre For Risk Analysis (CRA), a think tank in Johannesburg. David Ansara is Chief Operating Officer. This analysis was adapted from the CRA’s latest report. This and other reports are available exclusively to CRA subscribers. For more information visit www.cra-sa.com