MTBPS 2017: A plea for more time, but no consolidation

The MTBPS 2017 is a plea for more time and support to implement new economic policy. It does not attempt to quantify the potential impact of these interventions. Rather, it shows what the Budget would look like should there be no policy action and/or additional fiscal consolidation.

Without interventions we can expect a materially higher, sustained increase in the gross loan debt ratio to 60.8% of GDP by 2021/22 from 50.7% of GDP at end March 2017. Meanwhile, interest payments will increase persistently from 13.7% of Main Budget Revenue in 2017/18 to 14.9% by 2020/21.

What kind of interventions could avert the above scenario?

The MTBPS 2017 states a team of cabinet ministers will develop proposals to “stabilise the national debt over the medium term.” Further, asset sales are being considered over and above additional fiscal consolidation measures, including expenditure cuts and revenue raising measures, which are mooted for the 2018 Budget.

The MTBPS makes it clear new spending priorities, which could include National Health Insurance (NHI), fee-free higher education, improved early childhood development, accelerated land reform and infrastructure spending, should be financed by structural increases in revenue and reprioritisation of existing expenditure. Hopefully, that implies faster growth and efficient tax collection, rather than new taxes. For example, Treasury is considering adjustments to the medical tax credit to help fund NHI. These credits meant Treasury lost out on R18.5 billion in 2014/15, but they are effective in supporting lower income earners.

The ratio of government expenditure to GDP keeps increasing

At the very least, an announcement of additional fiscal consolidation measures was expected from the Minister. Historically, there has been a place for revenue increases in some fiscal consolidations, but in the end, successful fiscal consolidation usually features expenditure cuts. Although the Treasury sticks to the absolute level of the expenditure ceiling more or less, the ratio of expenditure to GDP keeps increasing (due to weaker GDP figures), which maintains pressure on the Budget balance.

National Treasury has lowered its nominal GDP growth projections over the medium term to plausible levels.

Rescuing SOCs threatens Treasury’s hitherto good expenditure track record

More telling was the absence of meaningful expenditure cuts to adjust to the reality of an underperforming economy. Indeed, the Minister indicated an expected expenditure overshoot of R3.9 billion in the current fiscal year even after absorbing contingency reserves of R6 billion.  Thereafter, expenditure is cut by R7 billion and R15 billion in 2018/19 and 2019/20 respectively, but this merely reflects running down the contingency reserve.  Moreover, the Treasury highlights the risk posed to the ceiling by next year’s public sector wage negotiations and other new spending priorities.

At first glance, the expected expenditure overrun in 2017/18 is surprising, given the marked slowdown in expenditure growth in the first five months of the fiscal year. However, appropriations of R13.7 billion have been included for SAA and the SAPO, a worry in that the goal of Treasury in recent years was to keep the funding of SOCs deficit neutral.  This turns the focus on Eskom’s request for a substantial tariff increase next year, failing which the risk to the Treasury could increase. Meanwhile the Treasury states Denel, South African Express and the South African Broadcasting Corporation are experiencing liquidity difficulties.

The MTBPS numbers no longer reflect an intent to stabilise the debt ratio

Previously, the National Treasury’s positive intent to return government’s finances to a sustainable position was clearly demonstrated by the persistent decrease in the Main budget primary deficit (revenue less non-interest spending). However, the primary deficit increases to -1.2% of GDP in 2017/18.

An improvement is shown to a primary deficit of -0.7% of GDP in 2019/20, but given the gap between the real interest rate on government debt and real GDP growth this is not sufficient to prevent the debt ratio from increasing. Accordingly, government’s gross loan debt increases persistently over the next three years.

Persistent decline in government net worth illustrates the scale of the problem

A return to a sustainable fiscal path requires less consumption spending and more capital expenditure, protection of the government’s balance sheet and alignment of the tax structure with the growth objective (that is increased consumption taxes rather than taxes on income and savings). None of this is evident in the Budget and is reflected in the persistent decline in government’s net worth – a key indicator of an unsustainable fiscal path.

The debt ratio has not been stabilised, the ratio of capital expenditure ratio to GDP is not increasing and the share of government consumption in GDP remains high (reflecting a large wage bill). Specifically, general government fixed capital stock has declined from close to 90% of GDP in the early 1990s to less than 60% of GDP currently, while the debt ratio is currently more than 50% of GDP – similar to the level of the mid-1990s.

Hence, government net worth (measured as capital stock minus liabilities) has been on a persistent deteriorating trend. The general government has borrowed to finance consumption rather than investment.

What does the MTBPS mean for our credit rating?

Attention will no doubt now turn to the rating agencies. Given the macroeconomic outlook for the next two years we think the S&P long-term foreign currency debt rating for South Africa at BB+ (sub-investment grade) seems fair for now. But, the domestic currency rating is more at risk in the absence of additional fiscal consolidation measures.