Markets mirror positive response to Nene's budget
As analysts welcomed Finance Minister Nhlanhla Nene’s medium-term budget policy statement as tough but fair, the markets reflected a similar sentiment.
The rand strengthened slightly to the dollar, up by 0.06% to 11.030 by 4.17pm, and hovered in slightly positive territory until the end of the day. South African bond yields due in December 2026 dropped 13 basis points to a seven-week low, signalling an increase in investor confidence.
The speech “was realistic”, said Izak Odendaal, investment analyst at Old Mutual Wealth, in an interview with the Mail & Guardian.
“Given the tough conditions, the minister has made some tough choices and that was commendable.
The background to this speech is that we’ve run out of easy options.”
In Odendaal’s estimation, the market reaction would be “neutral to favourable”. Annabel Bishop, group economist for Investec bank, agreed. The budget policy was “better than expected”, she said, something that would probably “be positively received by the markets”.
Nene demonstrated tough love in his inaugural medium-term budget policy statement as he spelled out government and departmental cost-cutting to the tune of several hundred million, cutting the government expense ceiling by R25-billion over the next two years, and imminent tax hikes that would translate into additional revenue of at least R27-billion between now and 2016/17.
Coupled with stronger economic growth, Nene’s department intends these measures to bring the current account deficit from 4.1% of gross domestic product this financial year to 2.5% by 2017/18.
Economists were generally appeased by the budget, which was seen as taking necessary steps to create a solid fiscal platform from which to function in the medium term.
“While risks remain, we think these policy measures are a critical first step for making public finances sustainable,” said David Faulkner, an economist from HSBC.
The Steel and Engineering Industries Federation of South Africa (Seifsa), whose members participated in a protracted strike earlier this year, welcomed the news. “Seifsa welcomes the government’s undertaking to contain costs and to reduce total expenditure by R6-billion in the current year,” it said in a statement.
“Minister Nene and his team had to engage in a delicate balancing act,” said the organisation’s chief executive, Kaizer Nyatsumba. “It now remains to be seen if the financial discipline, efficiency and responsibility correctly identified by the minister will be evident throughout all tiers of government, with all instances of corruption ruthlessly dealt with.”
While little was said about how increased tax revenue would be derived, there is much speculation that an additional wealth tax could be introduced.
“With the Davis Tax Commission reviewing ‘high net worth individuals’, increases in estate duty are likely, as well as a potential increases in other wealth taxes these individuals face, such as capital gains tax,” said Bishop.
The South African Revenue Service defines high net worth individuals as having a gross income that exceeds, or is equal to, R7-million and/or gross wealth that exceeds, or is equal, to R75-million, Bishop points out.
The extent of revenue that could be derived from such a measure remains to be seen, as there are only about 2?300 qualifying people in the country.
Despite the generally welcome news of expenditure containment, some analysts voiced their concerns about various premises on which the budget policy was based.
According to Faulkner, the outlook for tax revenue may be too optimistic in a country where the super wealthy are already significantly taxed.
The budget shares the burden of fiscal adjustment equally between revenue and expenditure measures, with each providing an average tightening of 0.3% of GDP over the next two years. Nevertheless, said Faulkner, “we still see risks to the revenue outlook”. The government’s anticipation that tax revenue will grow in real terms by 1.8% per year could be too generous, especially with regard to VAT and customs income.
The budget aims to clamp down on excessive government expenditure, slashing travel expenses by R555-million, advertising budgets by R240-million and catering costs by R150-million. But Odendaal points out that the flip side to cost-cutting is the effect it could have on economic activity in the country.
“When you drastically cut spending it obviously has a short term effect on the economy – that’s what you’ve seen in Europe,” he said. “It’s a balance to strike: you don’t want to completely derail the economy by radically closing the deficit.”
The effects of the saving measures that had been announced would be felt, he said. “For example, cutting catering costs by R150-million means that small businesses in the country lose out on R150-million of revenue.”
Trade union Solidarity argues that there is “too much tax and too much debt” in the budget.
“As was the case with his predecessor, Pravin Gordhan, Finance Minister Nhlanhla Nene’s budget policy statement … is still based on an unsustainable model of a ‘developmental state’ with budget deficits, mounting government debt and onerous taxation,” said the union in a statement.
“Should interest rates return to the levels of a decade ago, national debt servicing costs expressed as a percentage of government revenue could rise to around 18,5%. Such a debt service burden will be tough to bear and will further haunt the economy in the form of higher taxation or higher inflation,” said Paul Joubert, senior economic researcher for Solidarity.
In Odendaal’s opinion, the biggest red flag comes with the public wage bill. The treasury has budgeted for increases on par with inflation, while public sector trade unions are demanding a 15% raise for their members ahead of wage negotiations next year.
“If there’s an area of this budget that is potentially unrealistic, it’s wage bill growth,” said Odendaal. “History tells us the unions tend to win these negotiations.”