Finance Minister Tito Mboweni had just one card up his sleeve when he delivered the 2020 Budget Speech: cutting the public sector wage bill by R160 billion over three years. Time will tell if it’s an ace or the joker.
This will require a review of the 2018 collective bargaining agreement with regard to public service salaries. So prepare for a back-and-forth battle with South Africa’s most powerful trade union, Cosatu, which issued a statement following the speech rejecting Mboweni’s stance.
This is both a bold and a high-risk move by the finance minister, with everything riding on government’s ability to negotiate wage freezes. It may prove sufficient to appease Moody’s rating agency, but we have seen this movie before and even with a successful wage freeze the all-important debt-to-GDP number will not alter notably over the medium-term framework, meaning that one wrong move and the ratio will increase.
At 71.6% the debt-to-GDP number is still high, but far better than the sharp slide to 80% we had been warned of in the October 2019 Medium-Term Budget Policy Statement (MTBPS) – although it shows little potential to flatten out in the near future. Furthermore, debt service costs still absorb around 15% of the main budget and this figure is growing, which remains a concern. Total consolidated government spending is due to grow at a rate of 5.1% annually, from R1.95 trillion in 2020/21 to R2.14 trillion in 2022/23, mainly as a result of debt-service costs.
In light of these figures, the R60 billion set aside for Eskom and South African Airways (SAA) hurts. This despite assurances that government will do “whatever it takes” to ensure a stable electricity supply, will implement the Integrated Resource Plan of 2019, allow municipalities in good financial standing to buy electricity from independent power producers, and support the business rescue operation currently underway at SAA.
While the brief mention of a new R30 billion South African Sovereign Wealth Fund and a state bank to operate in the retail space may well have been included to placate political agendas, their inclusion – let alone financing – remains unclear and at this point unrealistic given the current fiscal state.
In addition, little detail was given on plans to phase out the formal process of emigration through the South African Reserve Bank (SARB) – although an increase in the exempt amount for foreign remuneration to R1.25 million is notable. Plans to change the trigger to enable withdrawals from retirement funds without formal emigration also require fleshing out, and more clarity is needed on indications that there might be further changes to legislation affecting the funding of trusts and exemptions on certain foreign dividends. In all instances we will be monitoring the release of further details and will communicate with you accordingly.
POSITIVES AND NEGATIVES
While Budget 2020 did leave some crucial questions up in the air, there were important positives to take from the speech, including a more realistic economic growth forecast of 0.9% for 2020, rising to 1.3% and 1.6% over the next three years. Other positives included the willingness to take on the massive wage bill drain, continued support for inflation targeting and an independent SARB, a notable focus on cutting wasteful expenditure and addressing the severe youth unemployment problem. The focus on community and social development remain critical given South Africa’s social compact.
While Budget 2020 is certainly more reform-orientated and positive than the October MTBPS, it is one thing to put numbers on the table and quite another to act on them. Treasury itself highlighted the following as major risks to the fiscal outlook:
- Persistently weak economic growth.
- Insufficient progress on Eskom reforms and financial position, as well as those of other financially-distressed state-owned enterprises (SOEs).
- Outcomes of the renegotiation of the existing wage agreement and the next round of talks.
- The growing liabilities in the Road Accident Fund.
Each one of these factors has the potential to derail the fiscal framework over the next three years and, make no mistake, the underlying risks are substantial.
THE DOWNGRADE QUESTION
Where this leaves South Africa in terms of a downgrade to non-investment grade remains to be seen, but it is unlikely that Moody’s will tip a reform-minded government over the edge. However, if government does not start cutting back on the wage bill by October, and economic growth does not begin to come through, then the risk of a downgrade remains very much on the table. Action in the next few months is crucial, otherwise we are just kicking the downgrade can down the road until November.
While all eyes have been on Moody’s up to this point, a deeper look at the numbers may well spark additional action from either Standard & Poor’s or Fitch. After all, while the plan may look good on paper, South Africa’s track record when it comes to implementation is far from encouraging.
TAX: HOW BUDGET 2020 IMPACTS YOU
Unlike Budget 2019, this year saw an above-inflation adjustment of both tax brackets and rebates in excess of current inflation. As Mboweni mentioned during his speech, this amounted to some real personal income tax relief for individuals, although a vital opportunity was missed to build in any sort of financial cushion with the potential to offset challenges arising from the public sector wage bill negotiations.
Broadly speaking, concerns around pushing taxpayers too far and risking a backlash appeared to carry weight with the minister, who opted not to adjust the capital gains inclusion rate or tax pension funds. Even a focus on corporate tax appeared to be more in line with creating more businesses to tax, rather than increasing taxes on existing concerns.
From a consumer perspective, notable changes included:
- An increase in the annual tax free savings account contribution limit, to R36 000 per annum.
- Properties costing R1 million or less will no longer be subject to transfer duty.
- A 16c per litre increase in the general fuel levy on 1 April 2020.
- A 9c per litre hike in the Road Accident Fund levy on 1 April 2020.
- Increased “sin taxes” on tobacco and alcohol, with duties on spirits increasing by R2.89 a bottle, a 23g cigar costing an additional R6.73 and a bottle of wine rising in price by 14c.
- Rise in the plastic bag levy by 25c per bag.
IN SUMMARY
While the market’s initial reaction appeared to be supportive of government showing some muscle, execution and deliverables are now centre stage. They are, to put it bluntly, non-negotiables. From the potentially explosive negotiations with trade unions to the ongoing efforts to rehabilitate South Africa’s failing SOEs, the challenge is considerable.
Mboweni has come to the table with one card up his sleeve and little else to fall back on.
This situation will do little to erase the uncertainty or volatility in the South African market, a fact of which Citadel has been well aware in our assessment of the ongoing risk factors both at home and abroad. We remain well-prepared for any risk eventuality and highly vigilant in this uncertain environment. Opportunities do still exist. As the impact of Budget 2020 unfolds in the weeks and months to come, we will continue to monitor developments impacting your portfolio to ensure that your wealth is managed prudently and effectively.