Main Budget 2017 Preview

David Maynier MP, Shadow Minister of Finance &

Alf Lees MP, Deputy Shadow Finance Minister

We need a Comprehensive Spending Review

We propose implementing a Comprehensive Spending Review which would require National Treasury, working together with national departments, provinces, municipalities and state-owned entities, to review the composition of spending, the efficiency of spending, and future spending priorities with a view to reprioritizing expenditure over the medium term between 2017/18 and 2019/20. We have to reprioritize expenditure to fund programmes to provide opportunities for the “lost generation”, which includes millions of young people who do not have jobs, or have given up looking for jobs, in South Africa.

1. Introduction

The Minister of Finance, Pravin Gordhan, will table the main budget later this week in Parliament. The fact is that a staggering 8.9 million people, many of whom are young people, do not have jobs, or have given up looking for jobs, and live without dignity, independence, and freedom in South Africa. However, the minister’s hands are effectively tied behind his back: he has very little “political space”, “fiscal space” and “policy space” to deal with the economic crisis in South Africa.

2. The minister has been “contained”…

“Political Space”: The minister has very little “political space” in which to manoeuvre: First, a political campaign, by President Jacob Zuma and his allies inside and outside the ruling party, against the minister has resulted in persistent rumours of a cabinet reshuffle, creating the impression that the minister is about to be substituted. Second, the implementation of the structural reforms to boost economic growth and create jobs has been centralized in the Presidency under the Department of Planning, Monitoring and Evaluation. Third, the implementation of state-owned enterprise reform has also been centralized in the Presidency, under the Presidential State-Owned Companies Coordinating Council. And finally, the management of big fiscal risks, such as the nuclear build programme, has been warehoused in the Department of Energy, under Eskom and the South African Nuclear Energy Corporation.

“Fiscal Space”: The minister has very little “fiscal space” in which to manoeuvre: First, economic growth, forecast at 1.3% for 2017, is likely to be revised down, closer to 1.1% in line with the South African Reserve Bank’s forecast, and is significantly lower than the 5.4% envisaged in the National Development Plan. Second, despite fiscal consolidation and efforts to maintain a prudent fiscal path, there has been constant “fiscal slippage” with the national debt now only expected to stabilize at R2.6 trillion, or 47.9% of GDP, in 2019/20. Third, there is significant financial risk, in the form of government guarantees, to the tune of R469.9 billion, to state-owned enterprises, including “zombie” state-owned enterprises such as South African Airways, which now faces a monster fine of R1.16 billion. And finally, additional spending pressures loom in the form of the public sector wage bill, post-school education and national health insurance.

“Policy Space”: The minister has very little “policy space” in which to manoeuvre given the fact that the minister’s drive to pursue “inclusive economic growth”, by restoring investor confidence and boosting private sector investment, is now competing with, and is in danger of being extinguished by, a new approach to the economic crisis, which is “radical economic transformation”, driven by President Jacob Zuma.

Worse, the announcement that disgraced former Eskom group chief executive, Brian Molefe, will soon be warming a parliamentary bench was a planned “political hit”. The Guptas must be delighted because if the State of Capture report is anything to go by the National Treasury, the Public Investment Corporation and South African Airways will effectively be on “speed dial”. The bottom line is that appointing Brian Molefe to any position in the “finance family” would be a clear-and-present danger to the institutional independence of National Treasury and the Public Investment Corporation, and it would be bad for South Africa.

What all this means in the end is that the minister is effectively being “contained” and confined to “balancing the books”, with a view to avoiding a ratings downgrade, when he tables the budget later this week in Parliament.

3. Economic growth is stagnant…

The medium-term budget policy statement, delivered on 26 October 2016, promised “balanced consolidation”, with a mix of tax increases and expenditure cuts, which would require a total adjustment of R48 billion, including tax increases of R28 billion and expenditure cuts of R20 billion, in 2017/18. However, since then the outlook for economic growth, revenue, expenditure, the fiscal deficit, and debt has deteriorated for 2017/18.

Growth: The economic growth rate forecast at 1.3% for 2017 is likely to be revised down to 1.1% in line with the forecast by the South African Reserve Bank. The “free fall” in economic growth is illustrated by the fact that projections for economic growth for 2017 have decreased from 3% (Main Budget 2015), through 1.7% (Main Budget 2016) to 1.3% (Medium-Term Budget 2016), and is now likely to be 1.1% (Main Budget 2017).

Revenue: Total consolidated revenue of R1.4 trillion, or 30.1% of GDP, was budgeted for 2017/18. However, the lower-than-projected economic growth is likely to result in lower- than-expected revenue in 2017/18. The revenue shortfall, assuming a tax buoyancy rate of 1.43%, could be as much as R3.6 billion, in 2017/18.

Expenditure: Total consolidated expenditure of R1.5 trillion, or 33.3% of GDP, was budgeted for 2017/18. The expenditure ceiling has been set at R1.2 trillion for 2017/18. However, new spending pressures loom, including: higher-than-expected spending on “compensation of employees”, which is budgeted to cost R549.4 billion in 2017/18; and higher-than-expected spending on “post-school education”, which is budgeted to cost R76.6 billion in 2017/18.

Balance: The lower-than-expected revenue, taken together with higher-than-expected expenditure, may result in “fiscal slippage” and push out the fiscal deficit, which is expected to be R147.1, or 3.1% of GDP, in 2017/18.

Debt: This would, in turn, put pressure on net loan debt, which is expected to be R2.2 trillion, or 47% of GDP, and consequently debt service costs, which are expected to be R163.6 billion in 2017/18, and risk compromising government’s key “fiscal objective”, which is to stabilize net loan debt at 47.9% of GDP in 2019/20. Debt service costs are now the fastest growing expenditure item and will cost a staggering R541.6 billion between 2017/18 and 2019/20.

To put debt service costs in perspective, consider the fact that we will spend more on debt service costs (R541.6 billion) over the medium term than we will spend on, for example, police services (R298.4 billion) and post-school education (R247.1 billion) between 2017/18 and 2019/20.

4. So there’s been “fiscal slippage”…

The fact is that because of the failure to implement structural reform, to restore investor confidence and boost private sector investment, the economic growth rate for 2017 has consistently been revised down from 3% (Main Budget 2015) through 1.3% (Medium-Term Budget 2016), and is likely to be revised down further to 1.1% (Main Budget 2017).

This has major implications because as former Minister of Finance Nhlanhla Nene liked to say: “Without economic growth, revenue will not increase. Without revenue growth, expenditure cannot increase.”

There has been “fiscal slippage” because of lower-than-expected economic growth: during the medium-term budget policy statement the fiscal deficit was revised up by R11.8 billion and national debt was revised up by R13 billion for 2017/18.

And because of lower-than-expected economic growth, there is a risk of further “fiscal slippage”, which may require a further adjustment to the budget, beyond the R48 billion adjustment, announced during the medium-term budget policy statement, for 2017/18.

5. Which means taxes will increase…

The minister is, therefore, drowning in “red ink” and will have to hold the “fiscal line” and “balance the books” by announcing a combination of direct and indirect tax increases aimed at raising at least R28 billion in 2017/18.

Personal Income Tax: We believe the minister may raise personal income tax, which raised R428.5 billion, or 37% of tax revenue, in 2016/17. We expect the minister to either (1) raise the personal income tax rate by about 1%; (2) provide limited or no relief for “fiscal drag”, which could raise between R7 billion and R13 billion; or (3) create a new upper tax bracket, and a higher marginal tax rate of say 43%, for individuals earning a taxable income of more than R1.5 million per year, which could raise about R5 billion in 2017/18.

General Fuel Levy: The minister may also increase the fuel levy, currently charged at R2.85 per litre, which raised R64.2 billion, or 6% of tax revenue, in 2016/17. An increase in the fuel levy of, for example, 50c per litre could raise about R11.3 billion in 2017/18.

Wealth Taxes: We believe the minister may raise “wealth taxes” such as Dividends Tax, Capital Gains Tax and Transfer Duties in 2017/18.

Excise Duties: The minister may also introduce above inflation increases in “sin taxes” especially on alcohol and tobacco products in 2017/18.

Special Voluntary Disclosure Programme: The minister will also rely on the Special Voluntary Disclosure Programme, designed to allow tax dodgers with unauthorized offshore assets or income to regularize their tax affairs in 2017/18.

Sugar Tax: We also believe the minister will introduce a “sugar tax” in 2017/18. However, we do not expect the minister:

- to raise Corporate Income Tax (28%), which raised R200.8 billion, or 17% of tax revenue in 2016/17, because it would be detrimental to economic growth; or

- to raise Value Added Tax (14%), which raised R293.3 billion, or 25% of tax revenue in 2016/17, because it is considered to be a regressive tax and is strongly opposed by Cosatu.

What this means is that whether you are rich, and taxed directly, or whether you are poor, and taxed indirectly, the minister is going to reach into your pocket and help himself to at least R28 billion to plug the fiscal hole in 2017/18.

6. But there are other options...

What we know is that last year the minister reached into your left pocket and helped himself to R18.1 billion. And this year the minister will reach into your right pocket and help himself to at least R28 billion. And if that is not bad enough, President Jacob Zuma and his cronies, inside and outside the ruling party, are reaching into your back pocket helping themselves to billions of rands.

However, there are alternatives to tax increases, which are not likely to find their way into the budget, but could generate the revenue required to plug the R28 billion fiscal hole in the budget for 2017/18, including boosting economic growth, selling assets, cutting spending and eliminating waste.

Boosting Growth: The minister warned that “decisive action” is needed to implement the structural reforms necessary to boost economic growth in South Africa. With “decisive action” to boost economic growth, government could raise significant amounts of additional revenue in 2017/18. To illustrate the effect of economic growth on revenue, consider that an increase of 1% in GDP could raise R18.2 billion in additional revenue, assuming a tax buoyancy rate of 1.43%, in 2017/18.

Selling Assets: The former Minister of Finance, Nhlanhla Nene, began a process of selling non-strategic assets, and made a good start by selling government’s stake in Vodacom, which raised R25.4 billion in revenue in 2015/16. However, the process of selling non-strategic assets appears to have been abandoned. The fact is that substantial revenue could be raised by:

- selling assets by privatizing or part-privatizing some of the 215 Schedule 1, Schedule 2, Schedule 3A and Schedule 3B state-owned entities, which had a net asset value of R1.1 trillion in 2015/16;

- selling assets by privatizing or part-privatizing some of the 112 Schedule 3C and Schedule 3D provincial public entities; and

- selling or leasing “dead capital”, such the 13 043 “underutilized land parcels”, not well located for housing development, and the 1 939 “buildings not being utilized or leased” under the control of the Department of Public Works.

This is in line with the Presidential Review Committee on State-Owned Entities, especially “Recommendation 20”, which recommends more private sector investment in state-owned entities in South Africa.

To illustrate the potential of asset sales to raise revenue, consider the fact that the sale of government’s stake in Telkom alone could raise about R14.7 billion in 2017/18.

Cutting Spending: The minister has cut spending, lowering the expenditure ceiling by R10.3 billion, from R1.24 trillion to R1.22 trillion in 2017/18. However, much more can be done to cut spending, for example, by:

- rationalizing: the national executive and legislative organs, which will cost R13.9 billion in 2017/18; external affairs and foreign aid, which will cost R12 billion in 2017/18; public service, which will cost R549.4 billion in 2017/18; provincial legislatures, which will cost R546.8 million in 2017/18; national non-profit organizations, which cost R2.4 billion in 2015/16; and provincial non-profit organizations, which cost R22.7 billion in 2015/16;

- cutting spending on: “VIP Protection Services”, which will cost R1.3 billion in 2017/18; “International Relations”, which will cost R2.9 billion in 2017/18; “Defence Foreign Relations”, which will cost R225.8 million in 2017/18; “travel and subsistence”, which cost R9.7 billion in 2015/16; “catering, entertainment and venue rental”, which cost R1.93 billion in 2015/16; “consultants”, which cost R5.4 billion”; and “leases on buildings”, which cost R11.3 billion” in 2015/16; and

- cancelling: the capital contribution instalment of about R3.9 billion for the New Development Bank in 2017/18.

Eliminating Waste: The fact is that “irregular expenditure”, defined as expenditure that “is not incurred in the manner prescribed by legislation”, increased from R26 billion in 2014/15 to R46 billion in 2015/16. And “fruitless and wasteful expenditure”, defined as expenditure “made in vain and that could have been avoided had reasonable care been taken”, increased from R1.04 billion in 2014/15 to R1.36 billion in 2015/16. We have to eliminate corruption by implementing what the Auditor-General, Kimi Makwetu, calls a “less tolerant approach”, and ensuring that there is “consequence management” for officials who do not comply with the Public Finance Management Act (No. 1 of 1999).

7. So what we need is a spending review…

The minister employs a fragmented arsenal of “fiscal tools” to contain spending, including an expenditure ceiling, cost containment measures, procurement reform, and performance and expenditure reviews.

However, the expenditure ceiling, which is the foundation of our fiscal credibility, is a blunt instrument and often results in perverse outcomes, including the reprioritization of expenditure in favour of administrative posts, rather than front-line professional posts; the cost containment measures are important, and send the right fiscal message, but are largely “fiscal spin” because they target a small proportion of expenditure; procurement reform, especially the review of contracts entered into by state-owned entities, is resisted; and performance and expenditure reviews are normally confined to reviews of specified programmes, and appear to gather dust in National Treasury.

***

We need to do things differently and so we will propose implementing a Comprehensive Spending Review aimed at all three spheres of government and state-owned entities. A Comprehensive Spending Review would require National Treasury, working together with national departments, provinces, municipalities and state-owned entities, to review the composition of spending, the efficiency of spending, and future spending priorities with a view to reducing and reprioritizing expenditure in the medium term between 2017/18 and 2019/20.

***

The National Treasury conducts select performance and expenditure reviews from time to time including reviews of spending on foreign missions, land distribution and road maintenance.

However, a Comprehensive Spending Review would be different: National Treasury, working together with national departments, provinces, municipalities and state-owned entities, would review the composition of spending, efficiency of spending and future spending priorities, with a view to reducing expenditure and reprioritizing expenditure over the medium term between 2017/18 and 2019/20.

Savings identified as a result of the Comprehensive Spending Review should be used to hold the fiscal line, fund further investment in infrastructure and fund programmes to provide opportunities for the millions of young people who do not have jobs, or have given up looking for jobs, in South Africa.

The Comprehensive Spending Review model has proved to be successful in inter alia Australia (Comprehensive Spending Review 2010), Canada (Strategic and Operating Review 2011) and the United Kingdom (Comprehensive Spend Review 2010).

8. Conclusion

Whether you are rich, and taxed directly, or whether you are poor, and taxed indirectly, the minister is going to reach into your pocket on budget day and help himself to at least R28 billion to plug the fiscal hole in 2017/18. Whether you have a high-paying job and drive to work, or you have a low-paying job and take a bus to work, or even if you have no job and take a taxi to look for work, you will be paying more because of tax increases in 2017/18. However, there are alternatives to tax increases, including boosting economic growth, selling assets, cutting spending and eliminating waste.

And that is why we propose implementing a Comprehensive Spending Review that would require National Treasury, working together with national departments, provinces, municipalities and state-owned entities, to review the composition of spending, the efficiency of spending, and future spending priorities with a view to reprioritizing expenditure over the medium term between 2017/18 and 2019/20. In the end, we have to reprioritize expenditure to fund programmes to provide opportunities for the “lost generation”, which includes millions of young people who do not have jobs, or have given up looking for jobs, in South Africa.

Issued by the DA, 20 February 2016