Budget 2023
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In the jaws of defeat

With dysfunctional politics driving SA to the brink of economic collapse, tough measures are needed, writes Nazmeera Moola.

IT is time for hard decisions.

The Medium-term Budget Policy Statement, presented by Finance Minister Malusi Gigaba on Wednesday, starkly laid out the challenges South Africa is facing. Given the plethora of negative news it contained, it was hardly surprising that both the rand and bond market sold off.

The headlines were horrible, pronouncing that the expenditure ceiling was breached, there was no primary surplus, and debt and guarantees combined were above 60% of GDP.

Unfortunately, the policy statement was not just market negative to South Africans; the rating agencies will also react negatively to it, and there is a strong likelihood that S&P Global will downgrade our domestic credit rating in November.

Remember, S&P Global and Moody’s are still rating the rand-denominated debt at investment grade.

S&P Global has cited two key considerations for its credit rating for South Africa.

Firstly, it needs to see fiscal consolidation over the medium term. Unfortunately, Gigaba’s policy statement produces no evidence of this, as debt to GDP continues to rise over the period.

Secondly, S&P Global wants the certainty that state-owned enterprises (SEOs) do not present a major risk to the sovereign balance sheet. This requires a governance overhaul at Eskom. Gigaba’s speech promises this, but hard progress is required.

The two key points of focus for Moody’s have been adherence to the expenditure ceiling, which has now been breached, and the need to see a plan to significantly raise South Africa’s growth rate.

Is there a way to navigate out of the mess?

We believe there are some decisive short- and long-term actions that can be taken that would go some way towards appeasing the rating agencies.

Over the very short term, we need commitment to plugging the R3.9 billion breach in the expenditure ceiling caused by the bailouts at SAA and the SA Post Office.

Deputy Telecommunications Minister Stella Ndabeni-Abrahams needs to ensure that, as has been indicated, a portion of government’s Telkom shares are disposed of as soon as possible to repair the breach.

We also need to see the appointment of a new, credible board at Eskom. Public Enterprises Minister Lynne Brown has promised that this will happen by the end of November.

Sooner would be better to buy time with rating agencies.

Over the longer term, there are three critical areas that need to be addressed to stabilise the budget.

Firstly, expenditure needs to be reined in. The starting point is public sector wages.

There are two problems relating to public sector wages: the persistently high above-inflation wage increases and the dramatic growth in senior management positions – particularly among teachers, nurses and police, where the average annual growth in the number of employees in the four highest job categories since 2008 has been 20% per annum.

In the 2014 medium-term budget, National Treasury pencilled in a wage increase for the next three years that was equivalent to inflation, assuming that the rest of government were on board.

It turned out that Zuma, along with the then minister of public service and administration, was not, and the wage increase granted in May 2015 was significantly higher than had been budgeted for.

This time around, the situation is dire enough that a wage freeze may be required. Job shedding in some areas may also be required.

Secondly, governance at SEOs needs to improve quickly to help stabilise the finances at these entities. After years of mismanagement, several SEOs are facing liquidity and/or solvency issues. Most notable of these is Eskom, which has used R250 billion in government guarantees and has another R100 billion unused.

Until the governance of SEOs is resolved, the problems of corruption, instability at management level and opaque targets will continue.

Finally, government needs to boost South Africa’s growth rate. This is the critical issue that needs resolution as higher growth solves many problems.

The divergence between the performance of the global economy and the local one over the past two years is entirely the result of South Africa’s dysfunctional political environment.

As part of his mid-term budget address, Gigaba said: “Demonstrative actions that build business and consumer confidence can encourage global and domestic investment, broaden private-sector activity and boost competitiveness.”

This is exactly what is needed to encourage businesses to invest and consumers to spend.

In contrast, there have been many recent actions by Cabinet ministers that exacerbate the lack of confidence – including a mining charter that stunts future investment, the touting of an unaffordable nuclear plan and little demonstrable commitment to resolving governance at Eskom.

Read together, the policy statement and Gigaba’s budget speech starkly lay out the choices South Africa faces. Without hard political decisions, our gross debt-to-GDP ratio will breach 60% in four years. The net debt-to-GDP will breach 55% in three years. Add in guarantees to net debt, and the total is more than 60% in two years.

Previously, National Treasury attempted to lead the rest of government by pre-announcing measures that it believed were important to enable fiscal consolidation and higher growth. In contrast, this policy statement acknowledges that Treasury is powerless to make the hard decisions required.

These decisions need to be made by the broader Cabinet. It is a high-risk strategy that markets and the rating agencies could dislike intensely. However, it is a fair reflection of the current political environment.

If South Africa’s growth rate averaged 2.5% in 2018 and 2019, and 3% thereafter, net debt to GDP plus guarantees would stabilise at just below 60% of GDP.

On the other hand, if growth were to contract by 2% in 2018 – plausible if the ANC electoral conference produces a negative outcome – the debt ratios would breach 60% next year.

In 2017, South Africa’s political dysfunctionality has coincided with the single largest inflow into emerging market bond funds in history – $65 billion (R922.9 billion) since the start of the year, and still counting.

A portion of these inflows have found their way into South Africa, thus funding the growing budget deficit. If these flows start to slow – not dry up, just slow – the effect on South Africa’s ability to fund its budget deficit will be dramatic.

It is time for government to make hard decisions. Does it want to take short-term pain to stabilise our finances for the long term, or will it be seeking a bailout from the International Monetary Fund in the next three years?

* Moola is the co-head of fixed income at Investec Asset Management.

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