Budget Speech 2021 - Can SA weather the storm?

By Nedgroup Investments

Nicky Weimar, Chief economist at Nedbank, provides an overview of the national budget speech and highlights the key take-outs.

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Where have we come from?
Before delving into 2021, it's essential to understand where we have come from. In October last year's mini-budget we were presented with a bleak story regarding the state and trajectory of South Africa's finances and  economy.

South Africa's fiscal position has deteriorated systematically and persistently since the 1990s. This pattern has been made worse by the Covid-19 pandemic, but the fact remains that it started long before that. Expenditure has consistently outpaced revenue,  and revenue have continued to disappoint over the past few years.

The reality is that South Africa has been on an unsustainable fiscal path for some time, and this didn't happen overnight. This has come about due to the combined effects of years of corruption, state capture and poor policy decisions. This situation is particularly destructive for State-Owned Enterprises (SOEs) - which is a crucial -because SEOs provide the bulk of the country's economic infrastructure.

While we have been living with this constraint for some time, the combination of this with inadequate infrastructure has severely affected government's ability to raise income. We have among the highest port tariffs in the world, even in Africa. This raises the cost of production, undermines company competitiveness and destroys confidence and growth. Lower confidence leads to lower fixed investment, lower growth and ultimately less taxes.

On the other side, there is high unemployment, higher social burden and higher crime levels, corruption and poor decision making. This has led to a situation where almost all of our SOEs are broken and rely on state help to pay the interest on their debt and staff salaries. This adds to the expenditure bill. The unsustainably high civil service bill also continues to be a huge factor adding to this problem.

So what now? Will SA weather the storm?
In certain areas, the budget has turned out to be better than forecast in October. In October, Treasury expected to run a fiscal deficit of 15.7% of GDP, but this figure was slightly reduced in the national budget to 14.7%. The bulk of the difference came from revenue which shrank less than expected following the easing of restriction after Level 5 lockdown. While this fiscal deficit is still an enormous deficit and completely unsustainable, it's a small encouragement that it's not as bad as we thought.

The most encouraging aspect of this budget the clear ambition to reduce debt. Treasury plans to achieve this through revenue bouncing back stronger than expected. There are two reasons for this bounce-back: firstly, the economy has proved more resilient than they thought following the national lockdown, and secondly because conditions seem to be turning around at SARS which is good for South Africa as a whole.

Are these forecasts sustainable?

GDP
We believe that the GDP forecasts for the next few years are realistic and in line with our predictions. They are also hoping that the Reconstruction and Recovery Plan will provide a lift to the growth outlook. While the Reconstruction and Recovery Plan has been highly criticized, it does, crucially, contain the basic elements that South Africa needs in order to unlock greater efficiencies and move forward as an economy. The main barrier to progress on this front is a lack of implementation. Proposals put forward rarely get implemented, and the regulation does not change as it needs to. This is a key element to address.

Revenue
On the revenue side, Treasury is looking for growth of 11.6%. We believe this is achievable. There are higher levels of economic activity and more tax coming in, and it's even quite likely that they will overshoot on this front. This sentiment is what has enabled Treasury to avoid tax increases this year. Having said that, this budget is really a tax neutral budget as the relief due to the adjustment to the tax brackets is balanced by higher indirect taxes.

Expenditure
Expenditure is the problem child in this scenario and assessing the integrity of the forecasts is a challenge. Treasury has illustrated the intention of restraint by aiming to cut exp in nominal terms by 1.6%. In real terms this is a cut of over 5%, which is something the South African government has never achieved - not even in the Manuel years. Achieving and then maintaining this reduction in expenditure will be a big ask. 

The success of meeting this expenditure target depends almost entirely on meeting the goal of containing public sector wage bill to 1.2% over the next two years. This will be a fight, and we do not know if they are going to succeed. 

Infrastructure spending remains at 4.3% of GDP in the new budget. This is extremely low for a country with such dire infrastructure needs, and the collapse in the SOEs is the biggest drag on this spend. Addressing the energy problem is crucial to progress on this front. 
Essentially, the risk to the expenditure estimates is very high, and there is a strong possibility Treasury will overshoot on expenditure. However, because it's also possible they will overshoot the target on the revenue side, there is a chance that they will come close to achieving the deficit targets. 

So, where does that leave us?
The budget has given cause to believe that things might get a little better. South Africa will weather the storm if we stick to these targets - but there are real risks, and it's a daunting prospect and will come at the expense of weak fixed investment activity and 3 years of limited growth and limited job creation.