Finance Minister Enoch Godongwana. Photographer: Dwayne Senior/Bloomberg via Getty Images
South Africa’s public resources have been under significant strain for over a decade and the country has raked up significant debt but the government’s remedy — to tap into gold and foreign currency reserves — opens it to exchange rate and inflation risks.
In his February budget speech, Finance Minister Enoch Godongwana said the government would draw R150 billion from the Gold and Foreign Exchange Contingency Reserve Account (GFECRA) to reduce public borrowing and bring down debt-service costs.
Last month, the government gazetted the GFECRA Defrayal Amendment Bill to tap into the foreign reserve account, having tabled it in parliament in February after Godongwana’s announcement. This points to plans afoot to tap further into those reserves.
While the move will undoubtedly reduce the government’s borrowing requirements, it entails direct inflation risk, since this is deficit spending without raising taxes, according to the Bureau for Economic Research.
The borrowing requirement is the amount of money the government needs to borrow when taxes and its other sources of income are not enough to pay for all the services it needs to provide.
There is also an indirect inflationary risk, as the spending of these bank reserves makes its way into the banking system, where it could lead to a cycle of credit extension, fuelling inflationary spending, academic monetary economist Stan du Plessis wrote in the bureau’s research note.
Then there will be exchange rate risk, he said, as banks and other portfolio managers could choose to rebalance their portfolios towards international assets if the local yield on these reserves is unattractive.
“These three scenarios might require the South African Reserve Bank to tighten monetary policy,” Du Plessis said.
He said the February budget review “suggests that the GFECRA allows the government to reduce its borrowing requirement without any apparent cost or risk” but noted: “The government cannot foresee exactly how these risks will play out but they can expect to encounter them whichever way they turn.”
According to the treasury, the GFECRA had a balance of R507.3 billion in January.
Government borrowing has ballooned over the past decade to support rapidly rising expenditure, leaving the economy and public finances suffocated by debt-service costs, which consume one in every R5 of revenue, according to the 2024 budget review.
In his speech, Godongwana said, compared with a year ago, the budget deficit for 2023-24 was estimated to worsen from 4% to 4.9% of GDP and that debt-service costs during the year had been revised R15.7 billion higher to R356 billion.
He said debt-service costs would absorb more than 20% of revenue, adding: “To put this into perspective, spending on debt-service costs is greater than the respective
budgets of social protection, health or peace and security.”
The country does have a problem, from a fiscal perspective, of debt-servicing costs which need to be addressed quickly before they become more expensive to rein in, chief economist at Rand Merchant Bank Isaah Mhlanga concurred.
“The benefit of accessing the foreign reserve account will be to reduce our debt-servicing costs by R30 billion per year.
“But, in order to administer this, there is also going to be a cost to the South African Reserve Bank which it will incur but, all in all, that cost is lower than the cost savings that the state would make,” Mhlanga said.
The government will enter into a settlement with the South African Reserve Bank, allowing it to receive distributions of R100 billion in 2024-25, R25 billion in 2025-26 and R25 billion in 2026-27.
“If you weigh up the benefits to the government, and the cost that the Reserve Bank is going to incur for administering it, the state still benefits,” Mhlanga said.
In the past the government has tried to curb spending to try to slash its debt-servicing costs.
According to Statistics South Africa, the focus of government spending has shifted from non-financial assets — which includes investment in infrastructure and in goods and services — towards social benefits and interest payments on debt.
The purchase of non-financial assets, such as infrastructure investments and other fixed assets, fell from 9.7% of total expenditure in 2014-2015 to 5.9% in 2021-2022.
Mhlanga said one of the options available to the government to bring down debt-service costs was to sell state assets, such as South African Airways, Transnet and Eskom, but added: “That’s not a viable approach because you still need Eskom to generate electricity and you still need Transnet to maintain infrastructure and ports.”
Another theoretical alternative to tapping into the foreign reserve account was to introduce economic reforms that would lift growth and generate sufficient tax revenue to pay the debt-servicing costs, Mhlanga said.
“But that is a function of high economic growth — that we don’t have,” he added.
Economic growth has averaged only 0.8% since 2012, according to this year’s budget review.
“Reforms are not quick and so that is not a viable option. These are the considerations that led to the realisation that we have unrealised profits in our reserves and this could be a mechanism to lower our debt-servicing costs quickly,” Mhlanga said.