Beyond the supplementary budget: how the South African government will respond to its worsening economic and fiscal position
26 June 2020
In his supplementary budget on 24 June, Finance Minister Tito Mboweni announced the following numbers:
The government expects economic growth of -7.2% for 2020/21
It expects to spend R1 809.2bn in 2020/21
It expects revenue of R1 099.5bn in 2020/21
It therefore expects a main budget balance of -R709.7bn in 2020 or over -14.6% of GDP
The consolidated budget balance is -R761.7bn or -15.7% of GDP
It expects a debt to GDP ratio of 81.8% in 2020/21, rising to 82% by 2021/22.
Debt service costs amount to R236.4 bn (13.1% of expenditure)
Put differently, the government expects to borrow in the region of 42% of what it plans to spend in 2020. The finances of a country are no different to those of a household. If your household had to borrow 42% of the funds it expected to spend in a year it would quickly get into very deep trouble.
The government is therefore in an impossible position and the question is where to from here? Consider also that Treasury growth forecasts have tended to be off by around 50% over the past decade and if that margin of error holds true South Africa is in for a growth contraction deeper than -10%.
Consider further that countries with competitive economies, deep savings pools, may be able to endure a sharp growth contraction and deficit increases over the short term. South Africa does not have this luxury.
There are five options as we see it:
The first option is policy reform in order to increase South Africa’s investment competitiveness. We have long advised clients that this is unlikely given ideological hostility to reform from within the government and the ANC. When we are asked why Mr Rampahosa’s government has not moved more swiftly towards reform our answer, deceptive in its simplicity, is that it is not a reformist government. That remains the case and there are very few reform-minded thinkers in either the ANC or the Cabinet. In the absence of reformers, reform remains unlikely.
The second option is austerity. The government could cut its suit to fit its cloth, and continue to cut wasteful state expenditure, shut down scores of state-owned entities, and retrench a proportion of civil servants. We doubt the government will pursue austerity with any vigour. The reason is again practical and deceptive in its simplicity. Cadre deployment is a centerpiece of government policy. But cadre deployment does not work if you retrench the cadres.
The consequences would be to stoke political divisions within the ANC, that it might not survive. Austerity is not a solution to a low growth problem born of bad policy. The only solution is policy reform, but the ANC remains averse to this.
The third option for the government is to borrow the money it needs. This approach was really the firmest policy indication to emerge from the supplementary budget. The media has made much of loans from international institutions (both those controlled by Western governments and those commanded by China and Russia). But the amounts being negotiated here are a piddle relative to the deficit. Currently R73bn (US$ 4.2bn) is being negotiated with the IMF, and a R17bn (US$ 1bn) facility has been approved by the New Development Bank (Aka the ‘BRICS bank’). Collectively, this amounts to only around 10% of the deficit.
The Minister made much of the importance of South Africa borrowing only on the condition that it retained fiscal and policy sovereignty. It is fantasy however to think, given the amounts that will later have to be borrowed, that South Africa can set conditions for lenders.
For a time, the government will continue to issue debt, but as the risk premium on that debt rises the costs of borrowing will rise as well. In time it may issue this debt to itself – essentially printing money – but the consequences would be cataclysmic and would bankrupt the country in short order while crashing the currency. The government will also be forced to borrow more in foreign currency, exposing itself to ghastly implications should the currency devalue sharply as it will in the absence of reform.
The fourth option the government could pursue is to take the money it needs from within the country by expropriating various commercial and financial assets. It has made significant policy headway in this direction and the idea enjoys some support within the ANC and the Cabinet. But the consequences would be immediate and the value in the assets the government seeks to seize would evaporate the second of the seizing.
The fifth option for the government is to raise taxes. It intends to do this, but the effect would be to fundamentally undermine future revenues (due to tax avoidance and capital flight), thus further eroding the growth outlook.
In summary, we think that you should expect the following response from the government:
Occasional statements of concern at the economic and fiscal position
No firm or coherent policy response to sufficient to shore up domestic competitiveness in parallel with a series of policy responses assured to undermine that competitiveness
Increased debt issuance
Borrowing from foreign institutions
Dabbling in the seizure of pension funds and other privately held assets
Dabbling in QE
It is an approach that will rapidly weaken the economic and fiscal position and in turn trigger an increase in internal political instability and protest action, in response to which we anticipate some quite mad policy and political utterances – utterances that will reflect a government out of its depth and unable to respond effectively to events around it. The negative political and economic spiral set in motion at the ANC’s policy conference in Polokwane will accelerate.
If we are right that the government has no intention of moving swiftly and firmly towards reform, then this spiral can only be interrupted by an external event. That could take several forms. One would be a defeat of that government in an election. A second could be an internal putsch within the ruling party. The third could be a velvet revolution. A fourth could be a new external global shock triggering any of the above inflection events. Until such an inflection point is reached, South Africa’s political and economic standing in the world will continue to deteriorate.
Frans Cronje is the Director of the Centre For Risk Analysis (CRA), a think tank in Johannesburg. David Ansara is Chief Operating Officer. This analysis was adapted from the CRA’s latest report. This and other reports are available exclusively to CRA subscribers. For more information visit www.cra-sa.com