Listeners to the South African Budget speech on 24th February must have been a little surprised.

Against the backdrop of the Covid-19 pandemic and an expected decline in South African GDP for 2020 of 7.3%, tax concessions were not expected. Yet it was announced that company tax was being reduced by 1% to 27% in 2022 and that an increase in the tax brackets of 5.15% (which is below the current CPI of 3.2%) effectively results in a tax relief of around 2%.

Some may think that Finance Minister, Tito Mboweni, should have kept company tax unchanged, raised tax brackets by the inflation rate and then used the extra revenue to reduce the cost of vaccines and other Covid-19 costs. However, when viewed against the 5-year medium term budget plan, these adjustments are “small potatoes” as there are much bigger issues at stake.

The 5-year plan‍

It’s important to remember that the 2021 Budget should not be viewed in isolation, but as part of the 5-year plan and long-term strategy being implemented by the government.

Additionally, the State of the Nation Address (SONA) should be viewed as a policy statement that dovetails with this 5-year plan. On 11th February 2021, President Cyril Ramaphosa outlined a number of achievements from the past year and summarised his plans to boost the economy, including “massive” spending on infrastructure.

Surely then the 5-year plan must provide revenue to finance the SONA’s “Wishlist” or the whole exercise becomes a political charade? Which then raises the very important question of where will the revenue come from to finance these huge spending projects?

The elephant in the room‍

Looking at the Government’s revenue vs expenses, it’s clear that spending has exceeded income for many years, and this is expected to continue in coming years.

The deficit has been financed by increased borrowings and it’s this increased government borrowing that was the elephant in the room. The current level of debt is close to R4 trillion and is expected to increase to over R5.2 trillion by Feb 2024. Tito Mboweni made a quip in his speech about the fact that there are 12 zeros in a trillion, and, with a current debt of R4 trillion, it’s a huge elephant and it’s still growing!

And with the deficit being exacerbated by Covid-19 in the 2020/21 period, Mr Mboweni clearly stated that increasing government debt results in higher taxes and also means that spending will be redirected from important areas to service the debt.

Why then is he going down the high-risk road of increasing government debt further in coming years?

Going for broke‍

The accepted understanding of the term “going for broke” is going all in or risking everything in an all-out effort.

It would certainly appear that Mr Mboweni is following the Keynesian model of lowering taxes and increasing government spending to revive the economy after a significant shock.

He is not really doing much on lowering taxes but is planning on “massive” spending. Much needed maintenance and improvement in energy, water and roads is necessary to place the economy on a sound footing.

In his SONA, Mr Ramaphosa initiated the rolling back of the government monopoly on energy production. This is a huge step forward for those individuals and companies keen to generate their own energy, an example being the new Ford assembly plant producing Ranger bakkies that is expected to be self-sufficient in energy. This initiative could substantially reduce load shedding, or completely eliminate it in coming years.

South Africa has one of the best roads and rail infrastructures in sub-Saharan Africa and spending in this area will help to keep the country as one of the most attractive entry points into Africa.

The government is also working on other structural changes to aid foreign investment and reduce red tape.

Another huge positive for the economy is the strong recovery in commodity prices since about April 2020. South Africa has substantial natural resources and is primarily a commodity producing and exporting country. The top 5 exports by value are:

• Platinum

• Motor Vehicles and parts

• Iron Ore

• Coal

• Gold

Export earnings for the economy and higher taxes for the fiscus will be a major boost for the country in 2021 and possibly beyond.

The above factors do reduce the risk of Mr Mboweni’s strategy, but Covid-19 has changed the world’s outlook significantly. With vaccines being rolled out globally there is hope that the pandemic will be brought under control, provided that the vaccines are effective against the emerging new strains of the virus.

Much uncertainty remains: what will happen if the commodity cycle runs out of steam, or if Covid-19 waves continue as the virus mutates?  It seems unlikely that South Africa will begin to reduce its borrowing anytime soon.‍

IMF loans or privatisation‍

South Africa has recently taken a loan of $4.3b from the IMF to help it manage the fall-out from Covid-19. As this was a Covid-19 loan, there are few conditions attached, but any further IMF loans will certainly come with conditions. And these conditions could significantly reduce the government’s ability to manage the economy as it wishes and could lead to a series of austerity budgets, belt tightening all round and several years of hardship.

Another alternative would be to further borrow from China or possibly privatise or sell off some state assets, though it’s debatable as to how much value is left in the State Owned Enterprises (SNO’s) after several years of mismanagement.‍

The jury is out‍

There are a number of positives in the short term but significant risk and uncertainty in the medium term. And with the South African’s government track record of delivery versus promise, for now, the jury is out.

Disclaimer: The views, thoughts and opinions expressed within this article are those of the author, and not those of any company within the Capital International Group (CIG) and as such are neither given nor endorsed by CIG. Information in this article does not constitute investment advice or an offer or an invitation by or on behalf of any company within the Capital International Group of companies to buy or sell any product or security or to make a bank deposit.