Revision of Economic Outlook

The Treasury has revised its growth outlook for the medium term and seems to be on the conservative side, when compared with the market and IHS Global Insight's medium-term projections. The Treasury expects average growth of 1.4% over the 2009–12 period compared with our expectation of 2.0% average growth. The difference lies primarily in Treasury expectations of higher inflation, where the stellar electricity tariff hikes most probably have already been incorporated, compared with those of IHS Global Insight. We will adjust our inflation forecast only if the allotted tariff increases exceed the current assumed 25% hikes in electricity prices in our model.

Income Projections Lower

Companies tax, value-added tax (VAT) receipts, and customs and excise duties are expected to be 21 billion rand (US$2.1 billion), 31 billion rand, and 9 billion rand lower than in fiscal 2009/10 and will add to a lower estimate for consolidated budget revenue of 658 billion rand. This will bring revenue as a percentage of GDP to 27.3%. Over the medium term, however, revenue is expected to increase to 921.3 billion rand by 2012/13, bringing it to 29.6% as a share of GDP.

Expenditure Projections Increase

Consolidated government expenditure, on the other hand, will rise from 715 billion rand in 2008/09 to 841.4 billion rand in 2009/10, which represents a jump of 4.2 percentage points to 35% as a share of GDP. Areas contributing to the increased government spending include 12 billion rand for higher salary adjustments, 589 million rand for the establishment of new departments and the appointment of additional ministers, 200 million rand for the South African Broadcasting Corporation, and 900 million for the increased uptake in antiretroviral treatment.

The longer term spending priorities were defined as:

• Expanding employment and safeguarding social security;
• Improving the quality of education and skills development;
• Enhancing the quality of healthcare;
• Rolling out a comprehensive rural development strategy;
• Creating a built environment to support economic growth; and
• Fighting crime.

Expenditure estimates are expected to rise to 1.05 trillion rand by 2012/13, slowing to 33.8% as a percentage of GDP. Finance Minister Pravin Gordhan, throughout his speech, emphasised the need to increase efforts to save on current spending and to increase efficiency.

Borrowing Requirement to Shoot Up

The net result of a decline in revenue and increased spending brings the consolidated budget deficit to 184 billion rand in 2009/10 or 7.6% of GDP. Including the borrowing requirements of the parastatals, such as Eskom, and municipalities, the overall public sector's borrowing requirement will amount to 285 billion rand, compared with only 89 billion in the previous fiscal year or 11.8% of GDP. The government will finance this through an increase in debt. Government debt will thus increase from 22.6% in 2008/9 to 41.1% in 2012/13. Interest on state debt will increase from 54 billion rand to 100 billion rand in 2012/13. Foreign debt, however, remains a small share of the government's total net loan debt at around 5% of GDP. Foreign loans will thus stay small (less than 10% of total financing), while the bulk will be financed through domestic long-term loans (more than 70% of total financing).

Policy Stance Unchanged, But Measures to Weaken Rand Introduced

The minister restated the country's commitment to inflation targeting and a floating exchange rate, albeit leaving the door open for debate. In an obvious attempt to lower the currency's value to more competitive levels he announced new measures to relax exchange controls. These measures included removing a 180-day time limit during which local companies were required to convert foreign-exchange earnings into rand, allowing South African companies to open foreign bank accounts without prior approval, allowing local firms to invest up to 500 million rand anywhere offshore without prior approval, and doubling the foreign capital allowance for residents to 4 million rand. The minister also urged the South African Reserve Bank to not hesitate to continue accumulating reserves at the present level of the rand.

Outlook and Implications

In a volatile and uncertain financial environment, the finance minister delivered a responsible, counter-cyclical Medium-Term Budget Policy Statement. In our view there was no indication of a more populist approach. Spending priorities involve stimulating longer term growth potential by way of focusing on capital expenditure and skills development while allowing expenditure growth to stabilise over the period. Of concern, however, is the increase in the structural balance to 5.7% of GDP in 2009/10 signalling a permanent increase in certain spending areas, which will have to be addressed. This will necessitate the increase in revenue, which will point to an increase in taxes of some sort in the South African economy. It is our view that introducing new taxes like environmental taxes will not be sufficient to lower the structural balance and that personal tax rates are likely to rise in further. The government's increased financing needs are bound to add to upward pressure on interest rates, especially as growth picks up and the private sector returns to the market for financing. The doubling of government debt is a source of concern and government efforts to manage this and to reduce the fiscal deficit will be monitored closely, when assessing the country's sovereign risk. With no indication of a diversion from the current policy stance and intentions to lower the deficit to around 4.2% by 2012/13, we do not envisage a ratings change at this stage, especially since foreign debt is expected to stay contained. The future growth pattern in the economy, the country's current-account stance, and the government's success in raising the financing it needs will be carefully monitored.

Global Insight (Reino Unido)