South Africa faces chronic slowly worsening budget crisis

The South African National Treasury did an excellent job in the 2021 Medium Term Fiscal Policy Statement balancing the fiscal and political pressures placed on it by economic stagnation and inconsistent government policy. Capital markets applauded for two reasons. First, the revenue figures were significantly better than those presented in the February 2021 budget. This created potential fiscal space of around 132 billion rand in the current year and 64 and 59 billion rand respectively. over the next two years.

Second, Finance Minister Enoch Godongwana has resisted political pressure for substantial commitments to permanent increases in spending. About R60 billion (or 1% of GDP) was added to the spending cap in 2021 and R30 billion in each of the following two years, less than half the value of the improved revenue. The Treasury has also been cautious in its projections for economic growth and fiscal dynamism, leaving substantial room for higher revenues and a lower deficit. Fiscal dynamism is a measure of the relationship between total tax revenue collected and economic growth.

The increase in spending is dominated by three elements: salary increases for civil servants, the extension of the social relief allowance and the public works program of President Cyril Ramaphosa. While the Treasury has presented each of these items as temporary, they in all likelihood represent permanent increases in spending. Instead of admitting this reality in advance, the fiscal framework foresees large reserves of unallocated funds.

By withholding some of the increased spending in reserve, the Treasury has deftly provided space for political leaders to make choices and face real compromises while simultaneously clarifying the Treasury’s own view of the budget constraints in which this debate should take place.

Cabinet caught in the headlights

An improvement in the fiscal outlook that takes spending pressures into account is encouraging, but there are two caveats. First, the country’s chronic public finance situation continues to worsen. This can be seen in several metrics. Growth remains well below interest rates and GDP per capita is expected to continue to stagnate. Debt servicing costs crowd out social spending.

Amounts owed by provincial governments to suppliers (primarily for essential medical products) are increasing at a rapid rate. Most municipalities are in financial difficulty, with uncollected revenues reaching 232 billion rand. The local government tax crisis is fueling the bankruptcy of public services, and they show no sign of slowing down.

As long as Cabinet seems caught in the spotlight, unable to deliver a program to overcome severe operational and financial crises in the provision of municipal services, electricity, water, road construction and passenger rail transportation, statements that “there will be no bailout” make postures. The ongoing destruction of value must be reflected somewhere in the national balance sheet, even if it is not counted in the budget.

Second, the Treasury’s strategy to overcome this chronic fiscal crisis rests on very uncertain political and economic foundations. The proposed strategy is a profound shock to public spending executed over the next two years – 2022 to 2023. In real terms, basic spending is expected to contract by 4% each year. This equates to a reduction in real per capita spending of more than 10%.

The 2021 medium-term fiscal policy statement tells us that following this short and sharp shock to public consumption, the period of fiscal consolidation will be over. After posting a primary surplus, the national debt will stabilize and spending increases will resume on a cautious path.

Credibility of the fiscal framework

This strategy depends on a sharp fall in the real incomes of civil servants and a fall in public employment. But the plan to keep the pay improvements this year has not worked. Civil servants negotiated an effective increase in the average salary of more than 5%. This corresponds to inflation. In addition, the workforce has increased during the COVID-19 crisis, particularly in the health sector.

The idea that civil servants will accept the budgeted 1.5% salary increases in 2022 and 2023 might be a good negotiating tactic, but weakens the credibility of the fiscal framework.

This year, South Africa is recovering from the COVID-19 shock and its economy is supported by a commodity boom. Public spending has also increased, albeit at a very slow pace, providing some support to aggregate demand. Over the next two years, on the other hand, the Treasury offers a significant negative fiscal stimulus. In their forecasts, a pick-up in investment and sustained household demand will offset this fiscal contraction, leading to an expansion in domestic spending.

But if these compensatory forces disappoint, the proposed fiscal shock could be procyclical, slowing growth and increasing unemployment. This would be the case if, for example, the resumption of capital formation fails or if global developments (such as a deceleration in China and a tightening of global monetary policy) turn out to be more unfavorable than one might think. currently.

It is true that a debt crisis and the associated high interest rates are holding back South African growth and underscoring the need for fiscal consolidation. But it is also true that significant and sustained consolidation – which reduces public deficits and debt accumulation – will hamper recovery.

Consolidation as proposed in the medium-term fiscal policy statement will also have problematic consequences for supply and long-term growth. These depend on an effective supply of basic education, criminal justice and health care. The deeper and more intense the contraction in spending, the more lasting it will mark these services. Civil service reform is absolutely necessary to improve value for money, and it could well be argued that increased spending will not generate better social outcomes if the civil service remains inefficient. But that doesn’t say anything about the impact of the spending cuts.

The past decade of sharp spending cuts show that those with organized interests in the distribution of rents through the budget – public sector unions, corporate interests and politicians – are quite capable of defending their rights. slice of the pie and pass the real costs. spending constraints on the voiceless or unorganized. The temptation to engage in bogus savings, temporary measures and unsustainable spending cuts will be huge over the next two years.

In theory, one could envisage a consolidation “favorable to growth” of the economy and which limits the permanent damage of austerity on public services. But neither the Treasury nor any other part of the government has suggested such a program. So it would probably be safe to assume that it doesn’t exist. The fiscal instrument the Treasury uses is blunt, the capacity of public administrators to deal with the coup is weaker than ever, and the unintended consequences will be widespread and debilitating.

The Minister of Finance is proposing a decisive correction of course in the budgetary accounts, followed by a regular trajectory of prudence in spending. In the context facing South Africa, it makes sense that the Treasury offers this clear and bright solution. This will help negotiate the tough choices the government will face over the next two years. These choices include issues that President Ramaphosa continues to hedge his bets on for obvious political reasons – the public sector wage deal, the permanent extension of basic income support to working-age adults, and the resolution of the operational and financial crisis of public services. .

The outcome should lie somewhere between the Treasury’s negotiating position and the imperatives that will define political choices. These choices will emerge as various factions scramble for supremacy in the 2022 ANC elective conference and 2024 general election. The most likely prospects remain the continuation of the current trajectory of economic stagnation and slow escalation. of South Africa’s chronic fiscal crisis.

__ A version of this article, MTBPS clears fiscal space but it’s still a path through a swamp, was first published by Econ3x3 .__

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