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The fraying of the thin tight rope

24 October 2016 Jonathan Faurie

The South African economy is facing a crucial period; a period that many feel will see the frailty of government policy and a downgrade to junk status a reality rather than a possibility.

This is being compounded by a trifecta of challenges, the recent spate of violent protests surrounding the FeesMustFall movement is threatening to dissuade foreign investment, there is increased pressure on government to live up to promises made 22 years ago, and there is the ever pressing possible court case involving Finance Minister Pravin Gordhan.

As Gordhan approaches the release of the Medium Term Budget Policy Statement (MTBS) on Wednesday, what can he do – if anything – to avoid the country falling off the precipice into the abyss?

All fall down?

Despite Gordhan’s issues with President Jacob Zuma, it is important that he puts on a brave face and presents a united front when delivering the MTBS. Anything short of a strong mini budget will set alarm bells ringing and will bring the wrecking ball down on the dry wall protecting the finance ministry.

Needless to say, this will be a closely watched mini budget.

A report to the media by Standard Chartered said that plans to tackle public sector compensation from the 2017 financial year were particularly well received. In the post-global financial crisis years, increased spending on public sector compensation was a big driver for fiscal consolidation. The public sector compensation plans outlined in February 2016 were therefore seen as an important political statement by the Treasury on its fiscal consolidation intent. Can this continue next year?

Standard Chartered went on to add that while other details on what might drive future consolidation were left relatively vague, narrower deficits would be achieved through a mix of a yet unidentified revenue and expenditure.

South Africa’s room to manoeuvre is narrowing.

Stopping a downward slide

In a report to the media, Global Credit Ratings CEO, Marc Joffe pointed out that persistent budget deficits since 2008 have necessitated the need for government to continue funding the shortfall through raising new debt each year. This is one of the challenges which needs to be overcome post haste.

“In February, Gordhan said it was a central objective to stabilise debt as a percentage of GDP. Through reduced spending, he projected net national debt to stabilise at 46.2% of GDP in 2017/18 and to decline after that,” said Joffe.

He added that higher debt levels can make it more difficult for the government to raise funds. As the debt to GDP ratio continues to increase, creditors (and rating agencies) become concerned about a country’s ability to repay its debt, demanding higher interest rates to compensate for the higher risk.

Important risk factor

According to credit rating agency Standard and Poors, one of the factors that will contribute towards a downgrade to junk status will be whether there is a weakening of institutions due to political interference that would affect the government’s policy framework. 

The mini-budget will be an important window into whether this framework is weak. “While a good budget will provide some comfort regarding these two factors, the budget in itself cannot save South Africa. A good budget will be necessary but possibly not sufficient to avert a downgrade if there is deterioration in the factors cited,” said Nazmeera Moola, Co-Head of Fixed Income, Investec Asset Management. 

She adds that the single most important feature of the budget we would like to see is commitment to the expenditure ceiling, the element most within the control of Government. They committed to containing expenditure in the February budget and we cannot see slippage on that score.

Secondly, we need clarity on the profile of the budget deficit – specifically the primary deficit (the government deficit before interest payments) – over the next three years. The consolidated primary deficit was forecast and to move into a small surplus in the current financial year but given that revenues are running behind targets we may see some slippage into a small deficit. This will be acceptable on the condition that South Africa moves into primary surplus in the next financial year. 

Editor’s Thoughts:
If anything, the FeesMustFall protest is an indication of the pressure that government is under. Will they manage their finances responsibly enough to keep us out of junk status and provide some money to abate the anger of restless students? Time will tell. Please comment below, interact with us on Twitter at @fanews_online or email me your thoughts jonathan@fanews.co.za.

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