A tempting windfall could be the test of Godongwana’s fiscal prudence

A new finance minister was always going to result in a lot of questions from financial markets. The key question is whether the change means that President Cyril Ramaphosa is edging away from the 2021 budget’s commitment to rein in spending.

Sep 1, 2021

5 minutes

Nazmeera Moola
Sisamkele Kobus
A new finance minister was always going to result in a lot of questions from financial markets. The key question is whether the change means that President Cyril Ramaphosa is edging away from the 2021 budget’s commitment to rein in spending.

A new finance minister was always going to result in a lot of questions from financial markets. Markets quite liked Tito Mboweni. He was trying to hold the line on fiscal discipline and limiting transfers to underperforming state-owned enterprises (SOEs).

After a decade of Jacob Zuma justifying spending on wages and SOEs, this was rather refreshing. Therefore, the market’s key question is whether the change means that President Cyril Ramaphosa is edging away from the 2021 budget’s commitment to rein in spending.

This question is becoming pertinent as it appears there is growing (temporary) room to increase spending. Five months into the current fiscal year, it has become clear that government revenues are going to be ahead of the February 2021 projections. In fact, we estimate that they will be around R130bn ahead of expectations — almost 10% higher than forecast.

That is great news for SA’s debt metrics and has helped to keep the lid on borrowing costs.

The main reasons are bumper commodity prices, driven by the flood of cheap liquidity provided by developed world central banks, and the sharp bounce back in growth as economies have reopened. As a result, SA’s mining companies added an extra R20bn to the fiscus in the year that ended March 31. In addition, they are projected to add an extra R77bn this year in direct taxes. Add in higher VAT payments as they increase investment spending, and the number grows bigger. That is great news for SA’s debt metrics and has helped to keep the lid on borrowing costs. Unfortunately, this is a cyclical uptick. When commodity prices fall, this extra R100bn per year will disappear.

Windfalls should be invested, saved, or used to pay down debt.

Therefore, it is crucial that SA does not commit to structurally higher spending as a result of this cyclical increase in revenues. Windfalls should be invested, saved, or used to pay down debt. Investing in productive capacity can have long-term benefits by raising the future growth rate, and thus the future tax base. There are long-term benefits to investing in water infrastructure, investing in the grid expansion needed for renewable energy connections, supporting municipal infrastructure, or dealing with the disaster that is the N2 through Somerset West.

If instead the windfall is used as justification to make structural spending commitments, when commodity prices fall spending will remain elevated as revenues collapse. The result will be a very large budget deficit that we may not be able to fund. Structural spending involves such items as wages and social welfare grants. Aside from 2020 (where the increase is still being litigated before the courts), SA has a very poor history of controlling wage increases.

It is inexplicable how teachers who didn’t work for at least a quarter of last year and police officers who didn’t show up for days in KwaZulu-Natal deserve an above inflation increase.

In fact, the much-lauded 2021 increase of 1.5% amounted to a far higher increase of 4.9% in the wage bill if the monthly gratuity is taken into account. At a time when private sector wages have gone backwards and many private sector employees have lost jobs, it is inexplicable how teachers who didn’t work for at least a quarter of last year and police officers who didn’t show up for days in KwaZulu-Natal deserve an above inflation increase.

Part of the problem is the lack of differentiation in the public service. We can’t provide a separate increase or bonus for hard-working nurses and doctors, or the teachers and police officers who are committed to their jobs. It is one size fits all.

The social relief of distress (SRD) grant has seen a very large takeup since its introduction last year. In a country with SA’s levels of unemployment and poverty, which have been exacerbated by Covid-19, it seems sensible and humane to retain the grant of R350 a month. Assuming a takeup by 9.7-million people, this equates to a cost of R41bn per year.

Both of these issues are emotive — therefore the easy option for the politicians would be to fund wage increases and a permanent SRD grant from the cyclical windfall. That would work in the short term — and be a disaster on a two- to three-year view once the Chinese slowdown and US Federal Reserve tightening push commodity prices down. More difficult choices are required. If the SRD grant costs R41bn per year, this equates to 6.1% of this year’s government wage bill. Let us phrase that differently: a 6.1% reduction in the public sector wage bill would fund the SRD for 9.7 million people.

February’s Budget Review pointed out that SA spends 14.8% of GDP on government wages. This compares with Mexico and Germany at around 8%, Poland at 10% and France and Canada at 12%. It is not sustainable — especially given the poor average level of service delivery. The more sustainable way to fund the SRD (or to convert it into a jobseeker’s allowance) would be to control public sector wages. If they had remained flat this year, that would have covered 80% of the costs of the SRD.

For long-term fiscal sustainability, finance minister Enoch Godongwana will have to make those difficult calls. He won’t be loved by either the unions or his colleagues in the cabinet if he holds the line on spending.

A further factor is the decision to redeploy Ayanda Dlodlo back to public service & administration. Fresh out of the KwaZulu-Natal riots, she does not engender a high degree of confidence. While public service and administration is not a well-loved portfolio because the minister, whoever it is, inevitably ends up in conflict with the unions, it is a critical position given the importance of next year’s wage settlement.

The appointment of Mondli Gungubele as minister in the presidency is promising. The key criticism of Ramaphosa ’s government has been the lack of delivery on the reform agenda. (We still await the delivery of mineral resources & energy minister Gwede Mantashe’s electricity self-generation regulations next week). Gungubele was known for strong delivery when he was mayor of Ekurhuleni — let us hope he can bring the same imperative to delivering reforms. The reshuffle will have long-term implications for fiscal sustainability. Until evidence emerges to the contrary, markets will worry that Godongwana will be less fiscally conservative. He has a window of opportunity to dispel those concerns.

He has long been involved in the economic policy discourse in SA. He is known for being a deep thinker on key issues, with pragmatic, generally investment friendly approaches to key issues such as land reform and prescribed assets. Let’s watch this space.

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Authored by

Nazmeera Moola
Head of SA Investments
Sisamkele Kobus
Analyst

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