Budget 2023: Fiscal consolidation momentum is set to wane

By Arthur Kamp, Chief Economist at Sanlam Investments

The National Treasury is likely to reveal a slightly smaller Main Budget deficit for the current fiscal year 2022/23 relative to the estimate of – 4.9% of GDP published in its October 2022 Medium Term Budget Policy Statement (MTBPS) respectively.  However, that is where the good news ends.

Over the medium term, it seems most unlikely that the National Treasury will be able to map a path to a smaller Main Budget deficit of -3.3% of GDP by 2025/26 as projected in the 2022 MTBPS, given lower GDP growth momentum and ever-growing expenditure demands.

To start, there is a strong case to be made for extension of the social relief of distress grant beyond the current fiscal year, while also adjusting the grant for inflation.

Further, in addition to expected tax relief for installation of solar panels by businesses and households, the Treasury may also support Eskom in purchasing fuel to run its open-cycle gas turbines (OCGTs) to partially alleviate electricity loadshedding during peak hours. Considering that two of the larger OCGT facilities, Ankerlig and Gourikwa, use hundreds of thousands of litres of diesel per hour, the fiscal transfer will need to be substantial to make a significant difference on a sustained basis.

At the same time, in the 2022 MTBPS the Treasury stated its intention to take over between one- and two-thirds of Eskom’s debt of around R400 billion. This planned financial assistance could also take the form of a series of annual fiscal transfers, bearing in mind the Treasury has already planned transfers to Eskom amounting to a cumulative R66 billion over the next three fiscal years.

The latter, forms part of a package of transfers to Eskom announced in 1999 amounting to R224.6 billion of which R158.6 billion has already been transferred between 2019/20 and 2022/23. It is unlikely to end there. In addition to Eskom, financial problems are building elsewhere in the state-owned company space, which risks higher fiscal transfers in future.

Moreover, future wage negotiations remain a risk to the medium-term projections for government employee compensation. The average annual increase in the consolidated wage bill for the next three years is a mere 3.4% per year in current prices, which implies a marked decline in wages in real terms, given a reasonable expectation for inflation of, say, 5% per year. That will be hard for workers to accept.

Given all the moving parts it is difficult to get an accurate handle on the likely future path for the budget deficit and debt level. However, considering the above it is unlikely the Treasury can show a meaningful improvement in the budget deficit, which could drift sideways at around-5% of GDP over the medium term. At the same time, the debt ratio can be expected to grind higher towards around 75% of GDP by 2024/25.

It should be pointed out the 2022 MTBPS includes a contingency reserve and an unallocated reserve amounting to a cumulative R106.6 billion. In addition to reprioritization of expenditure and rationalization, this could alleviate some pressure. Also, the government’s cash balance amounted to R289.96 billion at end January 2023. The latter could be employed to reduce debt issuance to a degree.

However, the underlying trends drive long-run fiscal outcomes are currently not favourable. Ultimately, until GDP and employment growth lift meaningfully the Treasury can be expected to battle to make the fiscal math add-up. To be clear, the Treasury’s intent is in the right place. In this Budget it is likely to continue mapping a path to debt stabilization and ultimately a lower debt ratio beyond the medium term. However, the track record in sticking to the fiscal consolidation path is patchy.

As it stands, the inability to deliver sufficient electricity supply continuously and the implied deterioration in trend economic growth and per capita incomes is likely to prompt S&P to reassess its positive outlook on South Africa’s sovereign credit rating.

In the end, even though SARS has reported a substantial improvement in tax compliance, which, for example, yielded more than R200 billion in revenue in 2021/22, one will only feel comfortable with South Africa’s fiscal path once trend real GDP growth lifts to at least 3% and the ailing financial position of state-owned companies is fixed.