PETER ATTARD MONTALTO: Budget showed how to muffle elephants and exploit a crisis

Posted in: i-Blog on February 25, 2019


While it was generally credible, there is nothing left in the revenue cupboard to make big-impact changes

This column was first published in Business Day

There was a weird mania in SA in the week before the budget. A three-letter swear-acronym was being liberally bandied about: IMF!

It was the end of days. I was waiting for someone to scream “won’t someone think of the children!”.

Such “hyper-vigilance” (as Jonny Steinberg termed the general distrust in SA in these pages last week) is not a bad thing and forces an awareness of risks.

However, the IMF end-point diagnosis from many in the business community and some in the financial community misunderstands what is actually going on with fiscal policy.

It also meant expectations were set exceptionally low, and when that happens one is invariably surprised to the upside. Hence the bond and currency markets, after an initial spike weaker, ended budget day stronger.

The budget was broadly credible in its growth and revenue outlook. More than that, the loud thud of the Eskom elephant landing on the fiscus was muffled by challenging reductions in the public sector wage bill and non-core asset sales, and a smattering of line-item trimming.

All this reinforced several “norms” about the fiscal cycle.

First, the Treasury can partially overwhelm political blockages, with a toxic mix of competence, expertise and consistency. The sense from the post-budget parliamentary briefing as well as Tito Mboweni’s speech was that the adults were now in the room.

Second, the Treasury doesn’t waste a crisis. I doubt very much that the 30,000 proposed reduction in public sector jobs would have been possible without the Eskom crisis and shows an ability to see a crack of political space and cleave it open. As such, the underlying fiscal position (ex-Eskom) did show consolidation.

Third, SA has once again passed a hurdle of not having an “electoral-fiscal” cycle where expenditure blows out predictably pre-elections.

The Treasury also drew some some red lines that softened the general blow of the Eskom fiscal elephant.

A simple “no” has been delivered to other state-owned enterprises (SOEs) with a much tighter guarantee framework in future. We should be cautious given a contingency reserve of R13bn set aside for deployment at the medium-term budget policy statement in October, but such support will now come with tighter conditionality and the prospect of a chief reconfiguration officer.

The Treasury is taking control of the SOE mess. How politically sustainable within the ANC and cabinet this is remains to be seen.

No mention was made at all of the National Health Insurance (NHI) scheme. Given this was a major commitment in the state of the nation address, this is interesting and speaks to the fact that NHI is completely unworkable in its current form, likely unconstitutional as envisaged and uncosted. There are simply too many imponderables and never-ending timelines to “infect” the budget’s credibility with, even if NHI remains a huge long-term fiscal risk.

All this sounds sanguine, and indeed is the counterweight to the Eskom elephant and the breaking of the expenditure ceiling.

Different views are forming on breaking the expenditure ceiling. Personally, I think a rubicon has been crossed. True, it has been done “partially”, given that a portion of the Eskom bailout has been squeezed in under the old ceiling, and it has been broken mostly in the coming fiscal year. Yet the whole point is that it has survived free higher education, the Zuma years and is a formula, and it becomes easier to make excuses once it has been broken once. This shows why a more legislative-based rule, likely around debt levels, is required.

Serious political challenges lie ahead around the structure of the Eskom bailout, the cost and complexity of an unbundling (especially when you have red-lined retrenchments of 27,000 “excess” workers, according to the World Bank’s estimates), the tariff and prospect of a large hole remaining despite the bailout, and exactly what a new chief reconfiguration officer and external advisers are going to do when up against an internal culture and morale problem. As such the R150bn (in present value terms) bailout should be considered a minimum number.

Going forward, there is virtually no “easy” room to manoeuvre left to deal with the upside risks to the Eskom bailout, the downside risks to growth and revenue, NHI and all the other fiscal risks. The revenue cupboard has been bare for some time.

Now after the deployment of early retirement for public sector workers and some medium-run defence cuts there is nothing easy left in the expenditure cuts cupboard.

Only Narnia is left at the back of the cupboard to deal with future fiscal pressures. Yet we shouldn’t forget the points above about Treasury’s ability to use a crisis and its ability to overwhelm with expertise.

This means we remain in a situation where the budget broadly holds ground though at a sub-optimal place, meaning debt to GDP keeps grinding slowly higher. This is exactly what we saw with this budget.

When you combine this with decent real yield compensation in the long end of the bond curve, moderate inflation, exchange controls trapping money onshore and a poorly performing JSE,  this position is backstopped. Debt service costs are rising at about 0.1 percentage point of GDP per year and the economy is still growing (albeit too slowly), so the current iterative cycle of minimally sufficient budget restraint with slowly rising debt-to-GDP ratios is sustainable for a little longer.

The downside is there is no room to do anything “interesting” in the budget, such as tackle doing business constraints properly or focus on skills deficits and the transition challenges of the fourth industrial revolution. There also isn’t any room to absorb a global recession or a more disorderly outcome from a cut by Moody’s Investors Service or any deterioration in future public sector wage outcomes or political pressures on social grants.

The IMF, of course, is out there as some future scenario, but the unsustainable is always more sustainable than you think. For now, we stick in the “shock-recoil” ebb and flow of budget events — even with added elephants this time.

• Attard Montalto is head of Capital Markets Research at Intellidex.

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