Scep­ti­cism is grow­ing over SA’S abil­ity to im­ple­ment the Na­tional Trea­sury’s ag­gres­sive debt sta­bil­i­sa­tion plan. A sov­er­eign debt cri­sis is now a real risk

Financial Mail - - FEATURE - Claire Bis­seker bis­sek­erc@fm.co.za Philippe Burger

The debt sta­bil­i­sa­tion path out­lined in fi­nance min­is­ter Tito Mboweni’s sup­ple­men­tary bud­get, and to which the cab­i­net has agreed, ex­ceeds the de­mands typ­i­cally made in In­ter­na­tional Mon­e­tary Fund (IMF) ad­just­ment pro­grammes and is sim­ply not fea­si­ble.

This is the con­clu­sion of an anal­y­sis by Univer­sity of the Free State eco­nomics pro­fes­sor Philippe Burger. It adds to the cho­rus of voices ar­gu­ing that Mboweni’s plan is too ag­gres­sive to be cred­i­ble and is un­likely to be achieved.

The centrepiec­e of the bud­get is to get debt to sta­bilise at less than 90% of GDP in three years. To achieve this will re­quire a R250bn ad­just­ment, mainly through cut­ting ex­pen­di­ture, in com­bi­na­tion with deep eco­nomic re­forms to reignite growth.

It’s a very tall or­der. To put the R250bn in per­spec­tive, all SA’S fis­cal con­sol­i­da­tion ef­forts since 2014 have shaved just R70bn off ex­pen­di­ture. It would also re­quire SA to run a pri­mary bud­get sur­plus, which is some­thing it has not achieved since 2008, when there had been a long com­mod­ity boom.

Given that SA is in the grip of the worst re­ces­sion since the 1930s — one that is set to per­ma­nently scar the econ­omy — there is deep scep­ti­cism about whether such ex­ten­sive cuts are po­lit­i­cally or eco­nom­i­cally fea­si­ble.

Both Moody’s and Fitch have se­ri­ous reser­va­tions about the plan. Fitch, which in

April cut SA’S for­eign cur­rency rat­ing again, tak­ing it two notches into junk ter­ri­tory with a neg­a­tive out­look, has even hinted that a fur­ther down­grade could be on the cards.

It notes that “pow­er­ful trade unions and deep di­vi­sions within the gov­ern­ing ANC” present a sig­nif­i­cant hur­dle to the planned ex­pen­di­ture cuts, which it be­lieves are “un­likely to be achieved”. For in­stance, it points out that the gov­ern­ment still hasn’t man­aged to reach agree­ment with unions on the wage bill sav­ings in­cluded in the Fe­bru­ary bud­get.

Burger’s anal­y­sis shows that not even the IMF would be likely to im­pose such an ag­gres­sive fis­cal con­sol­i­da­tion plan on SA. He be­lieves that get­ting the debt ra­tio to sta­bilise any­where be­low 100% will be “too tough a path to walk”, and that SA is likely to be stuck with an ex­tremely high debt ra­tio for at least the next 10 to 15 years — a pre­dic­tion that comes with wor­ry­ing eco­nomic im­pli­ca­tions.

Mboweni pre­sented just two pos­si­ble sce­nar­ios in the sup­ple­men­tary bud­get — an ac­tive and a pas­sive one — show­ing what could hap­pen to SA’S debt ra­tio af­ter the Covid-19 cri­sis with or with­out in­ter­ven­tion.

The pas­sive sce­nario is sim­ply a con­tin­u­a­tion of SA’S cur­rent, un­sus­tain­able fis­cal tra­jec­tory, as­sum­ing no fur­ther ad­just­ments are made. It shows the debt bur­den spi­ralling in­ex­orably up­wards to 140% of GDP by 2028/2029. Ac­cord­ing to Mboweni, this would de­press growth, invit­ing a sov­er­eign debt cri­sis that would un­ravel all the so­cial gains SA has made over the past 26 years.

The ac­tive sce­nario, which would in­volve a dras­tic fis­cal ad­just­ment, has the debt bur­den peak­ing at 87.4% in 2023/2024, af­ter which it grad­u­ally falls back to­wards 70% by the end of the decade (see graph).

Given th­ese two choices, the cab­i­net has duly en­dorsed the ac­tive sce­nario. Mboweni has un­der­taken to re­veal the pre­cise bud­get cuts and eco­nomic re­forms re­quired to achieve it in his medium-term bud­get pol­icy state­ment in Oc­to­ber.

The prob­lem is that the cab­i­net is likely un­aware of just what it has agreed to and, any­way, has a poor track record of stick­ing to fis­cal or sav­ings tar­gets im­posed by the Na­tional Trea­sury. Given the choice be­tween cough­ing up or star­ing down strik­ing pub­lic sec­tor work­ers and deny­ing bailouts to delin­quent state-owned en­ter­prises, it has nearly al­ways cho­sen the eas­ier op­tion. Mboweni’s bud­get shows there are no easy op­tions left if SA wants to avoid a debt cri­sis.

How­ever, achiev­ing the ac­tive sce­nario will re­quire SA to turn the pri­mary deficit of 9.7% of GDP which SA is run­ning be­cause of the pan­demic into a pri­mary sur­plus vir­tu­ally overnight.

Over the past decade, SA has run an av­er­age pri­mary deficit of 1.6% an­nu­ally and, in Fe­bru­ary, it aban­doned the tar­get of achiev­ing a pri­mary bud­get bal­ance (ex­clud

Fis­cal pol­icy has run out of bul­lets

ing Eskom sup­port) by 2023/2024.

The pri­mary bal­ance is the dif­fer­ence be­tween rev­enue and non­in­ter­est ex­pen­di­ture. This means that SA, a heav­ily in­debted coun­try where the real eco­nomic growth rate (about 1%) is far lower than the real rate of in­ter­est on debt (about 5%), has to run pri­mary sur­pluses to pre­vent debt from con­tin­u­ally ris­ing.

The sup­ple­men­tary bud­get seems at odds with this re­quire­ment. It al­lows SA to keep run­ning pri­mary deficits for the next two fis­cal years. At the same time, it projects that the debt bur­den will re­main flat at about 82% this year and next, only in­creas­ing to 86% in 2022/2023.

By con­trast, Burger shows a 2% pri­mary sur­plus will be re­quired as early as next year to achieve the ac­tive sce­nario. And he shows that even in a nor­mal year, with­out the ex­cep­tional im­pact of the Covid-19 cri­sis on the pri­mary bal­ance in 2020/2021, SA would have needed to make an ad­just­ment equal to 3.6% of GDP to move from a 1.6% deficit to the 2% sur­plus.

This is close to the av­er­age ad­just­ment of 4% seen across most IMF ad­just­ment pro­grammes.

This is all well and good, though the cab­i­net will prob­a­bly be shocked to dis­cover it has just agreed to terms not dis­sim­i­lar to those that might be im­posed un­der an IMF struc­tural ad­just­ment pro­gramme.

But to keep SA on the ac­tive-sce­nario path, Burger es­ti­mates that the pri­mary sur­plus will have to rise to 7% over the com­ing five years, as­sum­ing in­fla­tion of 4% and a 9.2% nom­i­nal in­ter­est rate — and that eco­nomic growth im­proves in line with Mboweni’s pro­jec­tions, reaches 2.5% by 2026/2027 and stays there.

This would far ex­ceed re­quire­ments of typ­i­cal

IMF ad­just­ment pro­grammes and is, he be­lieves, “sim­ply not po­lit­i­cally or eco­nom­i­cally sus­tain­able”.

More­over, he says:

“Even though a re­duc­tion in gov­ern­ment ex­pen­di­ture might in gen­eral re­lease re­sources for in­vest­ment and be sup­port­ive of eco­nomic growth, this large an ad­just­ment might dampen eco­nomic growth merely by be­ing a drag on ag­gre­gate de­mand.

This, in turn, might ren­der the pol­icy self-de­feat­ing.”

To find a more re­al­is­tic ad­just­ment path, Burger con­sid­ered what would be re­quired to get

What it means: To un­lock IMF fund­ing, Mboweni is propos­ing a fis­cal ad­just­ment that’s even larger than most typ­i­cal IMF pro­grammes

debt to sta­bilise at 100% of GDP. The “sta­bil­ity sce­nario” (the blue line in the graphs) demon­strates this path, based on the same macroe­co­nomic as­sump­tions as be­fore.

Un­der this sce­nario, the pri­mary bal­ance would need to im­prove to only 2.5% of GDP by 2026/2027 and stay there. Though more re­al­is­tic, Burger thinks this sce­nario would still re­quire tough ac­tion and com­mit­ment from the gov­ern­ment.

Fi­nally, he posits a “con­sol­i­da­tion sce­nario” (the green line) which shows that once the debt ra­tio reaches 100% SA would have to achieve 3.5% real GDP growth rates, some­thing not seen since the mid-2000s, and sus­tain

4.5% pri­mary sur­pluses, to get it back to the 60% debt level bud­geted for be­fore the pan­demic.

Burger’s con­clu­sion is that af­ter a decade of un­sus­tain­able fis­cal pol­icy, fol­lowed by the pan­demic, it is un­likely that SA’S debt ra­tio can be sta­bilised at any level be­low 100%, as do­ing so will sim­ply re­quire too ag­gres­sive an ad­just­ment.

But even if the gov­ern­ment chooses a less am­bi­tious op­tion and suc­ceeds in sta­bil­is­ing the debt ra­tio at 100%, it is un­likely that it will get the ra­tio to fall sig­nif­i­cantly from that level. In short, SA is likely to re­main stuck with an ex­tremely high debt ra­tio for at least the next 10 to 15 years.

Burger iden­ti­fies three chief im­pli­ca­tions


from his study. The first is that the gov­ern­ment will have lit­tle room to bor­row to fi­nance Pres­i­dent Cyril Ramaphosa’s big in­fra­struc­ture push.

This means his post-covid in­vest­ment-driven growth strat­egy will re­quire a strong pub­licpri­vate part­ner­ship model, where the pri­vate sec­tor builds, op­er­ates and fi­nances more than 15% of all pub­lic in­fra­struc­ture, com­pared with about 2% now.

Sec­ond, there will be lit­tle room for fis­cal pol­icy to play a coun­ter­cycli­cal role to soften the im­pact of fu­ture re­ces­sions.

“Fis­cal pol­icy has run out of bul­lets,” he says. “If SA man­ages to sta­bilise the debt ra­tio at a high level, just pre­vent­ing fu­ture re­ces­sions from caus­ing it to spi­ral out of con­trol again will take care­ful plan­ning.”

Third, the full bur­den of coun­ter­cycli­cal pol­icy will fall to mon­e­tary pol­icy. How­ever, the Re­serve Bank will be lim­ited in the ex­tent to which it can ease mon­e­tary pol­icy by the high­risk pre­mium at­tached to SA’S high debt ra­tio and junk credit rat­ings.

The deep irony of SA’S sit­u­a­tion is that the rea­son Mboweni is bud­get­ing so ag­gres­sively for debt sta­bil­i­sa­tion is that he needs to un­lock bil­lions in low-cost loans from the IMF and other mul­ti­lat­eral fun­ders, and they can­not, by law, lend to fis­cally un­sus­tain­able en­ti­ties.

The bottom line is that SA has left it too late to get its house in or­der; af­ter years of liv­ing large, the de­gree of fis­cal aus­ter­ity re­quired to sta­bilise the debt ra­tio has be­come so huge it could throw the econ­omy into re­verse, and ul­ti­mately prove self-de­feat­ing.

Mboweni is right: SA’S “fis­cal reck­on­ing” has fi­nally ar­rived.

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