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Fiscal consolidation a positive but expenditure risks remain

11 November 2021 Old Mutual Investment Group

The South African investment community breathed a collective sigh of relief this afternoon, as Finance Minister Enoch Godongwana delivered a positive 2021 Medium Term Budget Policy Statement (MTBPS) that placed an emphasis on strong fiscal consolidation.

“The Minister’s statement of an ‘unflinching commitment to fiscal sustainability’ is encouraging, as well as the promise of faster implementation of structural reforms listed as one of government’s imperatives,” says Johann Els, chief economist at Old Mutual Investment Group (OMIG).

According to Els, the Minister delivered a strong fiscal consolidation message, while pointing out the need for economic policy reform to attain higher growth, which is seen as critical to address a range of social ills. Many of the fiscal improvements forecast in the run-up to the 2021 MTBPS have come to fruition, and with an estimated R120 billion in revenue overruns for 2021/22.

“Treasury appears to be taking a conservative approach to this revenue windfall and will manage its future spending aggressively to deliver a primary surplus by the 2024/25 period,” says Els.

This is an important milestone because government’s accounts will effectively be ‘in the green’ after servicing its significant interest repayments.

However, Els has reservations around expenditure risks ahead.

The 2021/22 revenue will be used to defer tax hikes and to reduce the budget deficit; but these successes could be undone if efforts to rein in expenditure items such as public sector wages and social grants fail. “The Minister is making a strong effort to contain wage bill growth; this shows positive intent but does introduce certain risk to the equation,” says Els, adding that fiscal consolidation will bring an end to years of above-inflation public sector wage growth.

Assuming no new wage agreement is reached between unions and government, the cash gratuity of R1000 after tax that was paid in 2020/21, will continue in 2022/23. But even so, the 2022/23 public sector wage budget will only grow by 1.5%.

It seems, however, that government is leaning towards a redirection of future taxation windfalls to social projects. Els said that the proposed basic income grant (BIG) and / or an extension of the Covid-19 social relief grant could reappear in the February 2022 budget speech, subject to ongoing fiscal improvement.

The Minister implied this by restating government’s commitment to “supporting low-income households, particularly given the severe impact of the COVID-19 pandemic”.

However, the Minister promised to set aside additional resources for social relief “in a manner that does not depart from the strategy of stabilising government debt”. The source of such funds will be future revenue overruns and reallocation from other expenditure lines.

“Any future expansion of the social security system must meet tests of sustainability and effectiveness, including being fully and appropriately financed on the one hand, and evaluated against government’s pre-existing priorities, on the other,” stresses Els.

Structural reforms are still vague in the South African policy landscape; but some promises were made that could put the business community more at ease, according to Els. Top among these is government’s intention to diversify energy generation to alleviate electricity supply shortages, including taking additional steps towards a competitive energy market.

Other quick wins include the releasing of broadband spectrum, with an auction process starting on 1 March 2022; the opening of third-party access to the freight rail network by the end of 2022 to increase capacity; and starting an e-Visa system rollout by Q2 2022.

“Government must follow through on these structural reforms, including accelerating infrastructure investment and reviewing the skilled migration regime, because any delays in implementation present significant negative fiscal risks,” says Els.

All-in-all, he expects financial markets to welcome the 2021 MTBPS for its strong emphasis on fiscal consolidation; an ongoing commitment to policy reform; and the containment of additional expenditures on state-owned enterprises, social grants and wage bill growth. Economists, meanwhile, will be applauding the revised deficit path and ongoing debt stabilisation.

And finally, citizens will celebrate the fact that no tax increases were announced at this stage.

“One of the most heartening moments from the 2021 MTBPS presentation was the Minister’s undertaking to ‘shift expenditure away from consumption and crisis response, towards growth-enhancing investment,” concludes Els.

“This was among many comments that contributed to this year’s policy statement being an improvement on the 2020 medium-term Budget.”

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