#BUDGET2017 – Still at the crossroads

“Gordhan maps out a path for growth”, By Arthur Kamp, Investment Economist at Sanlam Investments

A credible path to stabilising government debt

There were no surprises in Budget 2017, relative to pre-Budget expectations, which maps out a credible path to the stabilisation of the government debt ratio over the medium term. Importantly, government revenue is projected to exceed non-interest spending on the Main Budget by 2018/19.

The consolidated budget deficit narrows from -3.4% of GDP in 2016/17 to -2.6% of GDP in 2019/20, while gross loan debt, which investors must fund, is expected to peak at 52.9% of GDP in 2018/19. Meanwhile, the net debt ratio (gross loan debt adjusted for government’s cash balances) is expected to increase to 48.1% of GDP by 2019/20 from 45.5% of GDP at the end of the current tax year. The importance of stabilising the debt position is illustrated by the continued sharp increase in Main Budget debt service costs on this debt from R146.3 billion in 2016/17 to R162.4 billion in 2017/18. This is absorbing scarce resources, which could be used for development expenditure.

We need to cut spending and increase taxes

The Minister needs to cut spending and increase taxes to stabilise the debt position. Revenue raising measures are budgeted to amount to a material R28 billion in 2017/18 (0.6% of current personal total disposable income) and a further R15 billion in 2018/19. The introduction of a new top marginal tax bracket speaks to one of the key underlying themes contained in the Budget, namely addressing inequality.  However, the bulk of taxpayers will be hit as the Minister nets R12.1 billion by only partially compensating for fiscal drag in the amount of R2.5 billion, whereas full relief through the adjustment of tax brackets would have amounted to R14.6 billion.

Increase in dividend withholding tax

Moreover, although the Minister proposes an increase in the annual tax free savings account allowance from R30 000 to R33 000, which is welcome, the increase in withholding tax on dividends to 20% reduces the return on savings, which is not ideal in an economy with a dearth of domestic savings to fund investment.

Increase in income, fuel and sin taxes

Total proposed tax increases on income and wealth (accumulated savings) in the form of personal income tax and withholding tax on dividends amount to R 23.338 billion in 2017/18, while R0.448 billion in relief is granted on transfer duties on property. Proposed indirect taxes, which theoretically, discourage consumption and promote savings amount to R5.133 billion in the tax year ahead.  This includes a whopping 39 cents per litre increase in the taxes on fuel (a 30 c per litre increase in the general fuel levy plus a 9 cents per litre increase in the RAF levy), as well as increases totalling R1.936 billion in excise duties on tobacco products and alcoholic beverages.

Hence, the tax system has been increasingly skewed towards direct taxes which discourage work, saving and investment.

Containing government expenditure

Meanwhile, the National Treasury is building an impressive track record in containing government expenditure. Although the Minister announced spending cuts of R26 billion over the next two years, this amount is over and above the R25 billion of expenditure cuts announced for 2017/18 and 2018/19 when the Budget was read in February 2016. Hence, cumulative expenditure cutting measures announced relative to the original 2016 Budget expenditure projections amount to R51 billion over the next two years.

A credible budget, but long-term fiscal sustainability remains questionable

Overall, the Minister has delivered a credible Budget, but questions remain around long-term fiscal sustainability. There is no room for a downturn in growth (indeed the budget relies on a sustained economic upswing) and there is no room for spending on NHI (although the Minister indicated a review of medical tax credits to possibly help with funding down the line).

Also, the public sector borrowing requirement (consolidated government plus local authorities plus state-owned companies) is large at a projected 5.3% of GDP in 2017/18 (5.8% of GDP in 2016/17). Moreover, government’s contingent liabilities continue to increase as government’s exposure to debt guarantees is estimated at R308.3 billion at end fiscal year 2016/17 (materially higher than the R255.8 billion as at end fiscal year 2015/16). Of this amount, exposure to Eskom is the largest at R218.2 billion, followed by SANRAL at R30.1 billion and the Trans-Caledon Tunnel Authority at R20.7 billion.

As Minister Gordhan notes, we are at the crossroads. We have been here for quite some time. The right direction from here is decisive implementation of economic reform measures to lift potential GDP growth materially.