Cape Town Round Table: 6 February 2018 - The Budget, Growth & Debt - Beyond The Political Noise: Structural Change Is Urgently Needed

South Africa’s political outlook is more positive than it was before the ANC elective conference in December, and some tangible changes have already emerged, including the new Eskom Board and South Africa’s warm reception in snowy Davos. South Africa’s deteriorating economic situation has often been attributed to political failures. Zuma’s exit was a necessary condition for economic progress. But it is by no means sufficient. Massive economic challenges remain, regardless of who is President, and South Africa’s economic recovery requires far more than a change in political leadership.

The Cape Town Round Table looked at these challenges and what will be needed to overcome them.

An indication of the economic headwind facing South Africa is that in January 2018, the International Monetary Fund forecast that the country would achieve 0,9% growth in both 2018 and 2019[1], lower than the October 2017 forecasts by 0.2% in 2018 and 0.7% in 2019. The World Bank January 2018 forecast was 1.1% in 2018 and 1.7% in 2019. In July 2017, the OECD projected a growth rate of 1.2% in 2018. The forecast in the October 2017 Medium Term Budget Policy Statement was 1.1% in 2018 and 1.5% in 2019. No-one expects economic growth to exceed population growth of 1.2% (as estimated by the United Nations) in 2018, and it may well be that the position will not change in 2019 either.

The risks to the South African economy are numerous. Firstly, the rising debt to GDP ratio, which is creeping towards the 70% mark that the IMF warns developing countries should not surpass. South African debt is currently projected to approach the 60% of GDP mark in 2020/2021, up 10% points from 2016/2017. Debt servicing costs eroding the government’s ability to fund economic growth generating programmes[2]. These debt levels do not include government guarantees for State Owned Enterprise debt, with direct and indirect Eskom guarantees alone running to R550 billion. There was a general feeling at the Round Table that the lack of growth-promoting structural reform at microeconomic level over the past 25 years has hindered South Africa’s economy and that the country has not taken the wealth of advice offered to it on this issue.

It follows that:

• The 2018 Budget, due to be presented on 21 February, should be an austerity budget with cuts to government expenditure as it was projected in the October 2017 Medium Term Budget Policy Statement, and increases in taxation. The rash promises made to university students in December 2017 only complicate the situation. Should the Budget be badly received, pressure on the economy will worsen. And there will be little room for a change in fiscal stance in the 2019 Budget.
• A firmer grip on public sector wages is needed. Compared with 2010, real public sector wages were 12.6% higher in the second quarter of 2017, compared with a 5.2% increase in the private sector. Expenditure ceilings will simply mean that employment in the public sector declines to the extent that wage increases rise above inflation. To a considerable extent this has happened. Public sector employment in the second quarter of 2017 was 8% lower than the peak reached three years earlier[3].
• A new president and Cabinet will need to stabilise the fiscal position, and then work hard to raise the potential growth rate from below 2% – the speed limit at which the economy can grow. If government does not pay much more attention to structural reform in support of growth than it has done between 1994 and now, real GDP per capita will continue to decline, or at best stagnate. A necessary first step is the reduction in rent being extracted by the public sector. It will not be straightforward to form the necessary political will in the face of political divisions and factionalism within the ruling party. But sustaining investor and market sentiment will require decisive action and the articulation of a new vision for the South African economy.

The Round Table did, however, suggest solutions to overcoming our current economic challenges. Panellists spoke of changing the culture of government in relation to spending, particularly on current expenditure. They also pointed to the need to rebuild financial management and control at departmental level, severely undermined over the past few years. Policy certainty could contribute a great deal, provided that it stimulates, rather than discourages, private sector growth.

In the longer term, public sector investment and policy should focus on reliable water and energy supplies, building infrastructure (with a particular focus on urban and ICT infrastructure), and skills development, which will be particularly important in light of the rise of automation and the changing nature of work.

While a change of political leadership will help, these changes require a substantial shift in the way that government does business, in stark contrast to the culture that has emerged over the past decade. This will take stricter regulation and oversight. There will also be complex political negotiations, with the public service wage negotiations a prime example.

Difficult trade-offs will have to be made in terms of where the state allocates its already constrained financial resources, with political pressures being weighed up against long term economic considerations. Furthermore, there will need to be a fundamental overhaul of the way that state owned enterprises operate, with new business models, along with a committed anti-corruption drive. Positive sentiment can only go so far without tangible and decisive action.

Rafael Friedman
Researcher
rafael@hsf.org.za