Praise for Pravin, but things are look­ing bleak for the econ­omy

Only faster eco­nomic growth can take the pres­sure off SA’s strained public fi­nances and over­bur­dened tax­pay­ers

Financial Mail - Investors Monthly - - Special Report - Claire Bis­seker bis­sek­

SA’s lethar­gic growth rate has placed im­mense pres­sure on the coun­try’s public fi­nances, re­sult­ing in a R30bn rev­enue short­fall that has forced trea­sury to dou­ble down on mea­sures to curb the build-up of debt.

The past year is the first since 2009/2010 that tax rev­enues have not kept pace with eco­nomic growth. This has cre­ated a huge hole in the bud­get and cast a cloud over the fu­ture pace of rev­enue col­lec­tion.

But such is the es­teem in which fi­nance min­is­ter Pravin Gord­han is held that he re­ceived a stand­ing ovation be­fore and af­ter de­liv­er­ing his bud­get speech in par­lia­ment.

Praise even came from op­po­site sides of the ide­o­log­i­cal di­vide. Julius Malema’s EFF loved Gord­han’s mes­sage of eco­nomic trans­for­ma­tion, while the rat­ing agen­cies were com­forted by the bud­get’s ad­her­ence to fis­cal dis­ci­pline.

But all the cheer­ing should not dis­tract from the fact that the 2017 bud­get re­veals just how fis­cally con­strained SA has be­come. Most alarm­ing is that the buoy­ancy of tax rev­enue (its re­spon­sive­ness to eco­nomic growth) has nose­dived over the past year — and it ap­pears that trea­sury is un­sure why.

To ac­com­mo­date the rev­enue slow­down — SA’s steep­est de­cline since the global fi­nan­cial cri­sis — the ex­pen­di­ture ceil­ing will be re­duced by R26bn over the next two fis­cal years while taxes will be raised by R28bn in 2017/2018.

Since these ad­just­ments were an­nounced in the Oc­to­ber medium-term bud­get pol­icy state­ment, there are no new shocks for the mar­kets to di­gest from the bud­get, other than the form that the new tax mea­sures will take.

This in­cludes the cre­ation of a new top per­sonal in­come tax bracket of 45% for tax­able in­comes over R1.5m/year, very lit­tle re­lief for fis­cal drag, and an in­crease in the div­i­dend with­hold­ing tax rate from 15% to 20%.

In­vestec As­set Man­age­ment’s Nazmeera Moola says as there were only 75,000 in­di­vid­u­als earn­ing above R1.5m in 2015, this mea­sure is likely to raise only about R4.4bn for the fis­cus. Trea­sury’s of­fi­cial doc­u­ments put this num­ber slightly higher, at 103,000 peo­ple. Either way, with the base small at the high end of in­come dis­tri­bu­tion, the room for fur­ther tax hikes is very small.

By con­trast, the “lim­ited ad­just­ment” for bracket creep will rake in an ad­di­tional R12.1bn.

“The up­shot is that ev­ery sin­gle in­come tax­payer is af­fected and pay­ing the price of SA’s slow growth and in­ef­fi­cient ex­pen­di­ture,” says Moola. “This will cer­tainly con­strain con­sump­tion growth in 2017.”

The Bud­get Re­view con­cedes that con­tin­u­ing to raise the per­sonal in­come tax bur­den could have neg­a­tive con­se­quences for growth and in­vest­ment. It also ap­pears to pre­pare the ground for a Vat hike down the line.

“If growth does not ac­cel­er­ate over the medium term, it may be nec­es­sary to ad­just con­sump­tion taxes,” the Bud­get

Re­view says. “The least eco­nom­i­cally dam­ag­ing means of do­ing so would be to in­crease the Vat rate, which is low by global stan­dards.”

As ever, the bud­get hangs to­gether be­cause it as­sumes an au­to­matic up­swing in eco­nomic growth in the fu­ture.

Trea­sury has not changed its forecast that eco­nomic growth will re­cover from about 0.5% in 2016 to 1.3% this year, 2% in 2018 and 2.2% in 2019. This is only slightly more op­ti­mistic than the pre­vail­ing Reuters con­sen­sus.

But even with faster growth and pro­jected fis­cal con­sol­i­da­tion of R154bn (from 2015/2016 to 2018/2019), trea­sury hasn’t been able to avoid a small amount of fis­cal slip­page.

The con­sol­i­dated bud­get deficit is still in­tended to come in at -3.4% of GDP in the 2016/2017 fis­cal year, as an­nounced in Oc­to­ber, nar­row­ing to -3.1% next year. But net loan debt will now sta­bilise at 48.2% in 2020/2021 – a year later, and 0.3 of a per­cent­age point higher than be­fore.

The goal of achiev­ing a pri­mary sur­plus has also been pushed out a year to 2018/2019. In gen­eral, when the pri­mary bal­ance (rev­enue mi­nus non­in­ter­est spend­ing) is in sur­plus, the debt-to-GDP ra­tio can be ex­pected to fall.

Moola says: “While there will be some dis­ap­point­ment in the rev­enue slip­page and in­creased is­suance, we be­lieve the bud­get should be enough to re­tain SA’s credit rat­ing through June 2017 — pro­vided there are no ma­jor per­son­nel changes at the fi­nance de­part­ment and that growth con­tin­ues to im­prove as forecast.”

Michael Sachs, head of trea­sury’s bud­get of­fice, stresses that SA’s un­der­ly­ing fis­cal fun­da­men­tals have steadily im­proved. For a start, the pri­mary deficit halves as a share of GDP in the cur­rent year, and will even move into sur­plus over the medium term.

This im­prove­ment in the pri­mary deficit is a clear state­ment of in­tent, says San­lam In­vest­ment econ­o­mist Arthur Kamp. “It is also a re­mark­able achieve­ment in a low-growth en­vi­ron­ment with an ex­ces­sive un­em­ploy­ment rate and ris­ing de­mands on state re­sources.” But Kamp points out that an ideal, last­ing fis­cal ad­just­ment is one where a gov­ern­ment cuts con­sump­tion spend­ing, boosts in­fra­struc­ture in­vest­ment and lim­its tax in­creases to taxes on con­sump­tion.

“We’re not do­ing any of that,” he says. “If you in­crease the div­i­dend with­hold­ing tax, you re­duce the re­turn on sav­ings and, in an econ­omy with a dearth of sav­ings,

you frus­trate growth.”

North-West Univer­sity Busi­ness School econ­o­mist Ray­mond Par­sons makes a sim­i­lar point, ar­gu­ing that about two-thirds of the fis­cal con­sol­i­da­tion ap­pears to be com­ing from tax mea­sures and only a third from spend­ing re­straint. Par­sons warns that un­less re­newed growth boosts tax rev­enues, a more ag­gres­sive tax pol­icy could ul­ti­mately prove self-de­feat­ing.

Of course, part of the prob­lem is that the SA Rev­enue Ser­vice (Sars) has fallen far short of its col­lec­tion tar­gets. Gord­han ad­mit­ted dur­ing a pre­bud­get press brief­ing — from which Sars com­mis­sioner Tom Moy­ane was no­tably ab­sent — that he was wor­ried about the shape of rev­enue col­lec­tion.

Gord­han said he had met Sars se­nior ex­ec­u­tives four times in re­cent weeks to dis­cuss tax ad­min­is­tra­tion. While the lack of trust be­tween Gord­han and Moy­ane is a mat­ter of public record, the feud hasn’t ap­peared to af­fect rev­enue col­lec­tion — un­til now.

The Bud­get Re­view states ex­plic­itly that given ris­ing public con­cerns about cor­rup­tion, wastage and in­ef­fi­cien­cies in ser­vice de­liv­ery, cit­i­zens’ will­ing­ness to con­trib­ute tax can’t be taken for granted.

Re­spond­ing to spec­u­la­tion that either he or his deputy, Mce­bisi Jonas, may soon be re­placed, Gord­han said: “It is in the in­ter­ests of a gen­er­a­tion of South Africans to come that you don’t mess with the na­tional trea­sury and Sars.

“It can take many years to build a solid in­sti­tu­tion, but it takes very lit­tle time to mess it up.”

Asked to com­ment on the pos­si­bil­ity of Brian Molefe, the dis­graced former CEO of Eskom, as a po­ten­tial replacement, Jonas said “po­lit­i­cal de­ploy­ments that fly against all ra­tio­nal think­ing” had com­pli­cated the task of grow­ing the econ­omy.

Be­sides the height­ened un­cer­tainty around rev­enue col­lec­tion, the Bud­get

Re­view cites sev­eral other risks to SA’s public fi­nances. These in­clude:

Pol­icy changes made with­out con­sid­er­a­tion of the bud­getary con­se­quences, like those re­lated to higher ed­u­ca­tion;

In­fra­struc­ture projects that are poorly de­signed and not ef­fec­tively de­liv­ered;

Fi­nan­cial im­bal­ances re­lated to wa­ter and elec­tric­ity charges;

The public-sec­tor wage bill in­creas­ingly crowd­ing out other ar­eas of spend­ing;

The risks posed by mis­man­aged state com­pa­nies; and Ris­ing debt ser­vice costs. Debt ser­vice costs will climb from R146bn now to R197bn by 2019/2020. These costs re­main the fastest-grow­ing item in the bud­get, di­vert­ing crit­i­cal re­sources from front­line ser­vices. In fact, for ev­ery R1 col­lected in tax, 13c must be di­verted to ser­vice debt.

To rein in debt and ac­com­mo­date new pri­or­i­ties, such as higher ed­u­ca­tion, large ad­just­ments have been made to spend­ing plans.

Na­tional, pro­vin­cial and lo­cal gov­ern­ment must to­gether take a com­bined hair­cut of R18.4bn, or 0.4%, off base­line bud­gets over the medium term.

But af­ter the deaths of more than 100 psy­chi­atric pa­tients as a re­sult of cost-cut­ting by the Gaut­eng health de­part­ment, trea­sury is painfully aware of the bud­get ex­e­cu­tion risks as it ex­pects de­part­ments to make do with less.

“As much as we be­lieve there’s waste and in­ef­fi­ciency that can be cor­rected in re­sponse to pres­sure, that doesn’t mean that wrong de­ci­sions won’t be made,” says Sachs.

“If they plan with care, they can avoid se­ri­ously com­pro­mis­ing ser­vice de­liv­ery. But if they are rash and de­ter­mined to pro­tect the wrong things, they can make mis­takes.”

With the sys­tem un­der im­mense pres­sure, SA’s fis­cal po­si­tion will not im­prove sig­nif­i­cantly un­less growth can be reignited be­yond 2%.

SA needs to de­velop “a na­tional ob­ses­sion” with growth, Gord­han ex­horted. And not just any growth, but in­clu­sive, trans­for­ma­tive growth that has the broad­en­ing of eco­nomic op­por­tu­ni­ties as its main goal.

The Bud­get Re­view is care­ful to make a dis­tinc­tion be­tween nar­row trans­for­ma­tion that ben­e­fits only a well­con­nected elite, and the cre­ation of jobs and op­por­tu­ni­ties that would lift the masses out of poverty.

“Growth with­out trans­for­ma­tion would only re­in­force the in­equitable pat­terns of wealth in­her­ited from the past,” it says. But, it adds, “trans­for­ma­tion with­out eco­nomic growth would be nar­row and un­sus­tain­able”.

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