NENE TO THE RESCUE?
GDP, debt projections will be focus of ratings agencies as minister presents mini budget
THE NATIONAL Budget and medium-term budget policy statements (mini budget) are about economic growth. The mini budget for 2015/2016, which Finance Minister Nhlanhla Nene delivers this afternoon is no exception.
Among the wide range of rolling, threeyear projections the government makes – commonly known as “medium-term estimates” – projections for gross domestic product (GDP) will dominate the attention of market observers and rating agencies alike.
Unlike economists in the private sector, who can change forecasts as frequently as the need arises, the Treasury only has two opportunities to adjust its projections – in February, when a Budget Review is unveiled, and in October, when the mini budget is announced.
In view of the latest downward revisions in GDP growth by the SA Reserve Bank (Sarb), the International Monetary Fund and the World Bank, to about 1.5 percent for 2015, the Treasury is under pressure to follow the trend in marking the growth estimate for this year lower.
Stability ratios
The effect this will have on a wide range of key financial stability ratios is obvious. At the time of the Budget Review in February, the Treasury estimated GDP could grow by 2.0 percent this year.
In view of the impact electricity outages have had on the broader economy, sporadic strike action in the supply sectors, a sharp slowdown in the Chinese economy and the knock-on impact this has had on commodity markets, these factors have collectively stacked the odds in favour of the Treasury also trimming its GDP for the year to about 1.5 percent.
All things remaining equal, assess- ments made at the time of the Budget Review in February are likely to shift the profile weaker in data such as the public debt ratio, from about 43 percent of GDP for the current fiscal year to slightly less than 50 percent of GDP.
Medium-term estimates on this indicator may be aggravated by the additional funding a growing list of cash-strapped utilities may need.
As its biggest shareholder, the government must, for example, meet the financing requirement of a state-owned enterprise like Eskom.
It is therefore not inconceivable that the debt ratio will creep higher.
So the challenge for the finance minister will be to curtail debt levels rising any higher than 60 percent of GDP, a level referred to as a debt trap, at which the government would have to raise additional debt in order to meet interest payments on its existing debt.
It will, however, not be only the public debt estimates that receive attention, but a host of other key variables, like the fiscal deficit, interest on servicing debt, the public-sector borrowing requirement and the current account deficit, all of which are referenced against GDP. These are generally expected to be revised weaker.
Fiscal strait-jacket
Mini budgets are normally not platforms on which shifts in fiscal policy are announced. They generally mark halfway points in a current fiscal year and, as such, provide updates on expenditure and revenue collection. But they do signal changes which are more comprehensively dealt with in the Budget Review, held in February of the following year.
Hikes in personal income tax which started in the current fiscal year, may help overcome the fiscal slippage that major credit rating agencies have been concerned about. Over time, however, this will weaken the consumption side of the economy, put pressure on the outlook towards economic growth and perversely weaken the tax base.
In turn, weakness in the tax base may weaken the ability of the Treasury to provide welfare and social dependency grants to the about 17.8 million people it has estimated will receive such assistance over its three-year, medium-term estimates.
The caveat in numbers like these is that amounts need to be adjusted year in and year out, by a factor linked to the official consumer price index (CPI) inflation rate. In this economic environment, that can be done only by higher adjustments in taxation. Speculation persists, therefore, that an increase in VAT could be on the cards.
While the mini budget may not be the platform on which to announce sweeping changes, they can, and often do, signal changes in forthcoming Budget Reviews.
The Treasury is probably finding it easier to hike taxes than to find political buyin from ministers to restrain expenditure in their portfolios. In addition, the second half of a fiscal year is notorious for expenditure accelerating as the government portfolios reach a stage in the fiscal year when they forfeit the budget allocations that are not spent.
Markets will look to the Treasury for guidance on its development policy, which must be revived to lean against contagion from slower Chinese growth
As with exchange controls, inflation targeting is also a policy formulated by the government, and implemented by the Reserve Bank. At a time when the economy is struggling to maintain traction, and finds itself straight-jacketed by the inflation-targeting mechanism, changes to the mechanism can be opened for debate.
The mechanism was last changed in 2008, when it was made more flexible by considering variables other than inflation.
As it currently exists, it makes no allowance for higher administered prices, or any exogenous factor policy makers have little to no control over, such as the impact higher adjustments in electricity prices the Sarb must inevitably respond to.
The time has possibly come to consider widening the designated target range to 3-7 percent, helping the Sarb to maintain a steady hold on interest rates. Without such a change, interest rates are likely to remain volatile, and favour the upside, at a time when the economy is battling stagflationary forces.
Chinese factor
To its credit, South Africa embarked on an infrastructural spending programme in 2000, under former President Thabo Mbeki. This was borne out of necessity, to meet the demands of an economy growing much faster than policy makers expected.
Next week, markets will again look to the Treasury for guidance, on its counter cyclical infrastructural development spending programme, which needs to be revived, and which will assist the economy to lean against the winds of contagion blowing from slower growth in the Chinese economy.
Reuters carried a report in recent weeks, suggesting that Transnet could be cutting back some R200 billion from its capital expenditure programme over the following three years.
Such is the effect slower Chinese growth is having on commodity markets, and, in this case, demand for South African iron ore. Whichever way one looks at it, smaller spending estimates by the transport utility will affect gross domestic expenditure of the public corporations , and further assist in adversely affecting growth in GDP, precisely at a time when greater amounts need to be spent by the general government and the public corporations. While the cost to the local economy may be loss of jobs, a positive effect may be that capital expenditure – especially if it has a high import content – may assist the balance of payments.
On a much more negative note, less capital expenditure will retard the progress of the economy becoming more efficient. The goals embodied in the National Development Plan thus become ambitious, especially in so far as GDP and employment targets are concerned. They make it difficult to achieve the ultimate goals of the government’s blueprint for the broader economy – dealing with high levels of unemployment, income inequality and poverty.
While the minister could make a good argument to meet his financing requirements by reinvigorating a drive to sell noncore assets, resistance he may face from alliance partners in the government suggests any drive could be delayed until the new Budget is unveiled next year.