The governments has ramped up borrowing, sending debt levels soaring from 22% to 41% of gross domestic product in three years, which could mean serious discomfort lies ahead for South Africa’s economy.
At least one economist has flagged the possibility of a downgrade in South Africa’s credit rating, as the government uses borrowed money to pay for its spending. Others, though, see a possible increase in interest rates in the long term, as pressure increases on a limited savings pool.
In the medium-term budget, presented by new Finance Minister Pravin Gordhan, the government remained committed to spending its way out of recession, widening the social welfare net and continuing the large-scale infrastructure spend instituted under Gordhan’s predecessor, Trevor Manuel. But tax revenues have plummeted as people spend less on goods, reducing VAT returns and, as business profits fall, company tax receipts decrease.
The budget deficit — the difference between money coming in and what government spends — is expected to rise to 7.6% of the country’s gross domestic product (GDP). To make up the difference government plans to borrow a good deal more and in a very short period of time.
Government debt levels will rise sharply in the next three years, and the public sector’s borrowing requirement as a whole is expected to reach 11.8% of GDP, or R285-billion, thanks to the vast sums required by the country’s parastatals such as Eskom and Transnet. This will total around R600-billion over the next three years.
‘The risk of a rating revision increases as government uses borrowings to fund current expenditure , â€ said Annabel Bishop, group economist for South Africa at Investec. The credit rating of any entity affects the rate at which it can borrow money — the poorer the rating, the more expensive and difficult it can become for it to access credit, whether it is a business or a government.
Bishop pointed out that ratings agencies had already downgraded South Africa’s outlook to negative from stable at the time of the main budget announcement in February. At the time, this was because of to a large current account deficit, fears of economic deterioration and uncertainty ahead of the April elections.
Although most of the fears have either subsided as conditions have stabilised somewhat, or proved to be unfounded, Bishop noted that a doubling of public sector borrowing requirements and next year’s looming deficit could keep the outlook negative with the possibility of a downgrade.
Investec stuck by its forecast that this year the budget deficit would widen to 8.3% of GDP once the full effects of revenue shortfalls are tallied. Meanwhile, Nedbank noted in a research report that the ‘higher deficits have resulted in a more onerous financing requirement, which is likely to translate into somewhat higher long-term interest rates and runs the risk of crowding out the private sector once the recovery gains momentumâ€.
Said Nedbank economist Dennis Dykes: ‘At the moment debt is not a concern, but as it mounts to include public sector debt through stateowned entities such as Eskom, this could increase interest rates.â€ This could happen because of increased demand placed on a limited savings pool.
But Dykes noted that capital inflows from other countries might improve this outlook. There is the danger, he said, that expenditure figures may be higher than what has been estimated, unless economic conditions improve.
Nedbank noted government’s debt service costs would rise from the present R60-billion to 3.2% of GDP to R98-billion by 2012-2013.
Dawie Roodt, chief economist at the Efficient Group, was adamant that interest rates would go up. ‘For every rand you borrow, someone has to save that rand and as demand increases for those savings, the cost of buying that money will rise,â€ he said. ‘Capital markets are saying that interest rates will rise.â€
Gordhan was conf ident that ‘higher borrowing [was] the right thing to do in these timesâ€ given government priorities such as job creation. Nevertheless he was well aware of the potential threats that deepening state debt might reveal.
The medium-term budget policy statement noted that although the state had to borrow in the short term this could not continue indefinitely. ‘Over the medium term, the deficit will have to be reduced gradually,â€ it read.
‘Failure to do so would mean that a higher proportion of public expenditure would go to service interest payments at the expense of social and economic priorities, or that government would have to raise taxes to meet rising interest costs.â€