Government spending cuts crucial to budget
The government is not sticking to the budgeted pace of spending, which is galloping well ahead of the Treasury’s aim
When finance minister Enoch Godongwana delivers the budget on February 21, all eyes will be on proposals to address a worsening fiscal situation, low economic growth and runaway government spending.
The budget has been prepared against the backdrop of weaker than expected global and domestic growth, which has slowed revenue growth and widened the budget deficit; continued losses by municipalities and state-owned enterprises (SOEs) such as Transnet and Eskom; and higher borrowing costs as a result of an elevated risk premium and tighter global monetary conditions.
Our estimate of the consolidated budget deficit remains above the National Treasury’s over the medium-term expenditure framework (MTEF) at 5.3% of GDP in financial 2024, but easing to 4.7% by financial 2027 as a result of a larger GDP; though the deficit in nominal terms remains large at R394bn in financial 2026. Consequently, the debt profile will likely rise from 74.7% of GDP in financial 2024 to 78.6% by financial 2027.
On revenue collection, we estimate the out-turn will remain in line with the Treasury’s until financial 2026, when lower buoyancy rates and a lower nominal GDP growth forecast for financial 2027 impede revenue collection.
While we project a R14bn revenue shortfall for financial 2025, this may be partly offset by revenue-raising measures. In financial 2026, we estimate a revenue shortfall of R26bn, mainly due to our nominal GDP growth estimate, which is 70 basis points below the Treasury’s forecast of 6.5%.
Spending is raised by R207bn over the next four years due to a higher wage bill, SOE bailouts, increased debt service costs and rebuilding of reserves. Our interactive cash model suggests the government will run out of cash by January 2025 unless it raises debt issuance or obtains a cash boost.
We view the wage bill forecasts as too low, on the basis of historical wage agreement trends, which saw the Public Servants Association obtain salary increases of 7.5% for financial 2023 and 2024, along with a pay progression of 1.5%. The 2023 medium-term budget policy statement (MTBPS) raised the wage bill alone by a cumulative R43bn over the next three years to account for the new wage agreement.
Spending reshuffling meant that about R111bn was added to expenditure over the MTEF to assist labour-intensive departments such as education, health, police, defence and correctional services to implement the 2023 public service wage agreement. However, the average growth in the wage bill is still too low, in our view, at 3.6% over the MTEF. The Treasury is unlikely to adjust the wage bill to the required level (with 7.5% growth), as this would prove extremely damaging to the budget deficit and debt trajectory. The Treasury will therefore seek to lower the growth in the wage bill by limiting benefits, allowances, bonuses and other forms of compensation.
During an election year — based on South Africa’s last four elections — government spending is usually ramped up, with above-trend expenditure growth recorded across the board.
At the 2023 MTBPS, the Treasury noted spending additions of R128.4bn, including R57.2bn for carry-through costs of the financial 2023 wage increase and R33.6bn to extend the Covid-led social relief of distress grant (SRD) by another year. A provisional allocation of R35.2bn has been set aside for financial 2025 for this grant to preserve the credibility of the fiscal framework. No budgetary allocation was made for the SRD grant for financial 2026; we therefore add R36bn towards our expenditure estimate for financial 2026 as we believe this will be extended indefinitely.
The government is not sticking to the budgeted pace of spending outlined in the MTBPS, with spending growth galloping well ahead of the Treasury’s aim. Departmental spending was up 6.4% year on year to December, despite the Treasury committing to a cut in baseline budgets by R22bn and reducing departmental spending by 2.1% year on year this year. Total spending, which is inclusive of debt servicing costs, provincial allocations and other smaller components such as the skills levy, is up a significant 7% year on year to December 2023. The government has a spending problem on its hands, and our estimates for the expenditure slippage may be optimistic.
The bailout package to Eskom will likely remain unchanged at R254bn over the next three years, of which R44bn has already been disbursed. A task team has been established to monitor compliance with the conditions of the bailout and report quarterly on whether Eskom qualifies for the conversion of the loan to equity.
Discussions are ongoing with Transnet regarding fiscal support, but none has been pencilled in to the expenditure framework in the MTBPS. We estimate a cumulative R66bn increase in expenditure between financial 2024 and financial 2026 as a result of additional SOE bailouts and higher interest costs (and R15bn in financial 2023).
Tax rates are likely to increase at some point during this MTEF unless a commodity boom provides the revenue needed to fund a basic income grant and other “unforeseen” expenditure items such as further SOE bailouts. Alternatively, a cash injection from a non-debt source — the gold & foreign exchange contingency reserve account (GFECRA) — could provide a temporary boost to the fiscus. After the R56.8bn downward revision to tax revenue projections in the MTBPS, revenue estimates look more realistic in the current year.
The 2023 MTBPS mentioned that the minister will announce around R15bn of tax measures in the 2024 budget. While we forecast no material changes to tax policy just yet, we are aware of discussions to raise the VAT rate in the future.
With weak growth and inflation expected to decline over the MTEF, nominal GDP growth is unlikely to be supportive of a fiscal turnaround. Unless we are met with strong growth (for example another commodity boom or substantive structural improvements locally), the fiscus is expected to deteriorate in the absence of any expenditure restraint.
While our estimates point to much larger deficits and a steady increase in the debt-to-GDP ratio over the MTEF, the risk is to the downside — even worse fiscal outcomes due to rising SOE bailout demand, social spending constraining capital investments and revenue collection growth disappointing.
If the Treasury is able to announce a credible spending rationalisation plan for duplicate functions and departments, and a consequent reduction in government spending, this would be a positive and unexpected outcome.
Any cash injection into the fiscus from the GFECRA or from higher tax rates, which would lower the budget deficit and show earlier debt stabilisation, would be positive for the market initially. On the other hand, sharp increases in social spending, the wage bill, debt servicing costs and SOE bailouts, without a plan to fund this additional spending through revenue measures or a cash boost, will be viewed negatively by the market.