Budget 2016: a political compromise

Written by: Christiaan van Huyssteen and Nic Haussamer

In what was certainly the most important budget speech in recent history, the Minister of Finance had the tough task of delivering a frugal budget to reassure ratings agencies, despite a slowing economy. He also had to come across as pragmatic and professional, in order to bring back some sense of policy certainty (as hard as that may be in a dysfunctional government).

One could ask whether enough was done to save our credit rating – a critical issue at this point in the Treasury’s history. But there is still a belief that public deficit spending is required to substitute for lacklustre private sector demand. This may artificially buoy economic activity and reported figures like GDP (especially during an election year), but this is certainly not sustainable.

The budget seems to be a political compromise, containing none of the radical changes that some would argue are necessary.

With these key issues in mind, our aim here is to highlight some of the important implications of the speech.

Income Tax, CGT, and Fuel Levy

An increase in personal income tax, as had been implemented last year, was anticipated once more. Fortunately, South Africans can breathe a sigh of relief: the expected increase did not materialise.

Nonetheless, the budget saw some tax increases, especially on the ‘rich’, through an increase in the capital gains tax (CGT) inclusion rate.

Because inflation contributes to increases in the value of certain assets (capital appreciation), CGT is effectively a tax on inflation, since any realised gains on capital items are taxed. This is a double whammy for the treasury, since capital gains revenue will be further boosted by the higher inflation expected this year.

An example of the consequence of the increase in the capital gain inclusion rate for an individual would be the following: if a person were to sell a property which they purchased for R1m, at R2m, 40% of that R1m capital gain will now be included in their taxable income, whereas previously only 33% would have been included (although there are certain exemptions which may apply in some cases).

A greater burden will also be felt through the increased fuel levy. This affects all South Africans, but it should go without saying that it will be felt most by poor households. These households spend large portions of their income on transport and food; the costs of both are significantly affected by fuel prices. While the speech placed much emphasis on ‘social’ aspects, a truly progressive and socially-conscious proposal would lower – not increase – the cost of one of the most important goods in our economy.

Overall, the following lines from the Finance Minister’s speech would be humorous, if they were not such a tragic reflection of reality:

• “On what [government does] well, South Africans have very clear views: Tax administration.”

• “South Africa has built one of the most effective tax authorities in the developing world.”

Tax rates across the board – personal, value-added, corporate, capital gains, and so on – are still far above the levels that would be optimal for a healthy economic environment. If the government is serious about improving the economy, it must allow more money to remain in individuals’ hands so that they can decide where it is best spent. A reduction in taxes could be to the government’s benefit as well, even if phased in over time with gradual reductions in tax rates. Since lower taxes facilitate economic expansion, the government may well collect revenues comparable to current levels – if not more than that.  

VAT

The Minister has made it clear that he was never really considering increasing the VAT rate. This could be understandable considering the current inflationary pressures. But it could also be that it is not politically viable. Although an increase in VAT would bring in massive revenues, it would be too democratic. It would affect everyone. It is more popular to just add to the tax burden of the high-income earners.

Privatisation

Many economists and business people have called for the privatisation of State Owned Enterprises, based on the argument that the private sector can manage these enterprises better, and more profitably, than the state.

The Minister did mention that government would be open to allowing for minority shareholders in Transnet and SAA. He made it clear that no mass scale privatisation is on the table; he didn’t even mention Eskom in his speech. An official call for privatisation would go against the grain of ANC ideology, and would also be an admission of failure in the management of these SOEs. It is politically far easier to just bail them out every year.

Spending

Government is looking to cut the budget deficit to 2.4% of GDP by 2017/18. Its track record in predicting deficits is not the most reliable, however. In 2013, it was anticipated that the budget deficit in 2015/16 would be 3.1%, when it actually turned out to be 3.9%. When we are talking about billions of rands, even fractions of percentages are significant.

Government estimates aren’t to be trusted, since there is no telling whether the global economy is actually recovering, and whether government will deem it necessary to engage in additional deficit spending to boost a weak local economy further down the line.

The Minister didn’t make any major promises as far as cutting spending goes. There is plenty of room for cuts, though. We have too many non-essential ministries, which could simply be abolished (although this would be politically difficult, since it seems that many ministers are appointed to their positions simply by virtue of being loyal to the president). Parliament could be permanently moved, and cuts could be made to a bloated civil service. South Africa has around 2 million civil servants; the UK, by comparison (with a similar population size), has only 450 000.

Growth

Growth remains weak, and government has unsurprisingly lowered their growth estimates for the year yet again. The Minister didn’t announce any significant strategies to boost growth through business and entrepreneurship. He didn’t go into labour matters, apart from mentioning a potential new national minimum wage. It is our view that a minimum wage may help those who already have jobs, but it certainly harms the chances of the millions who don’t have work. The National Development Plan was referred to (as it is in every budget speech), but it doesn’t give a clear guideline as to how the South African economy should be structured, apart from it being a ‘mixed economy’, with co-operation between the state and the private sector. This is, however, better than having an entirely state-run economy.

New developments

The proposed tax on sugar is deeply concerning, because it’s based on one of two possible motivations.

The first is that the government is searching for any viable way to extract more revenue from South Africans. It’s true that products containing sugar (ie. ‘sweetened beverages’)  form a relatively small portion of household expenditure for South Africans, and that such a tax may have a very small financial effect on end consumers. Nonetheless, it’s the arbitrary nature of this tax that sets a bad precedent. Without opposition to this proposal, government may believe that more taxes levied on other consumer goods are legitimate.

We can also consider a different primary motivation for this tax: reducing South Africans’ consumption of sugar. While it is unlikely to be the case that government is looking out for South Africans’ health instead of just seeking more revenue, it is all the more worrying if true. Government should not be so conceited as to believe that it knows what is best for us as individuals, and shouldn’t implement taxes and other policies to strongly influence our behaviour. Human dignity – a value that is given much importance in contemporary South Africa – is undermined when paternalistic governments attempt to make personal decisions on our behalf. 

Concluding thoughts

It seems that this budget was constructed to ensure that South African society and the economy would tentatively continue to ‘tick over’. Unfortunately, it offers no long-term solutions to fundamental problems.

The Minister has indicated some commitment to reducing annual budget deficits relative to GDP, and stabilising total government debt relative to GDP. Yet government still affirms, and even emboldens, its commitment to social and other spending. In the context of a looming ‘junk status’ debt rating, it appears that the Treasury is trying to carefully balance the interests of its creditors and the South African public.

There is an overwhelming feeling that this is not enough, however. Despite the best intentions of those in the Treasury, we have to consider reality. Is there the political will to avoid a credit ratings downgrade? Will there be enough global growth to have a favourable impact on us? Can we avoid the wrath of the ratings agencies by being the best out of a bad bunch of nations?

The chance of a ratings downgrade occurring is significant enough that individuals would be prudent in preparing for it. Maybe South Africans with the ability to invest in assets which won’t be affected as severely by a potential further devaluation of the rand would be wise to do so.

While the outlook could be worse, it could also be much, much better. South Africa is ultimately a country with massive potential, and could fare significantly better if government took the decisive (and sometimes politically unpopular) decisions which would free up our economy and place more control over South Africans’ lives back in their own hands.