Pre-Budget presentation by Parliamentary Budget Office; South African Economic Update: World Bank briefing

Meeting report

The meeting opened with a general welcome from chairperson Mr Gcwabaza.

Pre-Budget Analysis 2016: Presentation by the Parliamentary Budget Office (PBO)

Professor Mohamed Jahed, Director, PBO, stated that the aim of the presentation was to inform Members of Parliament of fiscal policy and trends to prepare them for the upcoming Budget Report.

Dr Mmapula Sekatane (PBO) then presented the 2016 Pre-budget Report.

The Macro-Economic Background to the Fiscal Framework

Ms Sekatane noted several downward revisions in Gross Domestic Product (GDP) growth estimates by external analysis, which suggested that National Treasury needed to revise its growth estimate of 1.7% for the 2016 year downwards accordingly. In particular, the South African Reserve Bank (SARB) had revised estimates for 2016 from 1.6% to 0.9%, the International Monetary Fund (IMF) from 1.3% to 0.9%, and Reuters from 1.8% to 0.7%. If the 0.9% predicted growth turns out to be correct, it would be the lowest growth in South Africa in 16 years (excluding the 2008 financial crisis).

Given the ongoing drought since 2015 and its effects on grain crops, particularly maize, food security had been threatened and the country has been forced to import maize, which was expensive due to the weak value of the Rand against other currencies. Low global commodity prices were harming the mining and manufacturing sectors, which both saw losses in terms of their contribution to GDP in 2015.

The depreciation of the Rand had been significant, weakening by 18% against the United States Dollar (USD) over the 2015 period, including an 8% decrease in December alone. The primary reasons for decline in the Rand have been the normalisation of monetary policy by the US Federal Reserve, low commodity prices and perceived policy uncertainly in RSA.

Another problem was the downgrading of South Africa’s credit rating by agencies such as Fitch and Standard and Poor’s to one level above the non-investment grade. The impact was further downward pressure on the exchange rate as investors sold off their bonds and investments. The raised Repurchase Rate (REPO rate) since Medium-Term Budget Statement of 6.75 had also placed pressure on the South African economy.

Fiscal Policy in the Current Economic Climate:

The government was still committed to reducing the budget deficit to 4.3%. This deficit was estimated to narrow further to 3.5% over the medium-term. Revenue and expenditure figures for 2015 were slightly below the National Benchmark levels, but this was in line with trends from previous years.

The PBO provided linear estimation for the 2016/2017 fiscal framework based on two scenarios for the 2015/2016 fiscal period. Over both scenarios, revenue was estimated to reduce by between 3.8% and 8.1%, while expenditure was estimated to reduce by between 2.7% and 6.8%. The resulting deficit would lie between 3.9% and 4.2% of GDP. The analysis behind these scenarios excluded some of the recent economic shocks, including the rapid depreciation of the Rand in December, the zero-increase in fees for higher education, and the damage of the drought. The drought also revealed that the provincial disaster grant of R103 million for the 2015/2016 period was insufficient, as the state had received R4.2 billion in drought-related claims by November 2015.

The fact that the South African Rand was weaker than expected has caused the country's foreign borrowing costs to increase, and it was now receiving R3.4 billion less than expected as a result (row highlighted in green in the presentation). The total borrowing requirement as at December 2015 was R136.9 billion.

Economic challenges, combined with the high costs of foreign borrowing, meant that the country would have to prioritize finding money from within [the borders/the government]. An important place to source funds is from departments that have not fully spent their budget. At present, only 60% of the existing 2314 performance targets have been achieved. If a department was under-spending, and its performance was unsatisfactory, the government should re-prioritise funds [elsewhere] where possible. 

A serious issue in analyzing performance across departments was that they were not using the same performance reporting format.  The provincial equitable share allocations for 2016/2017 were estimated to reduce by R12.4 billion to R399.8 billion.

Performance of Government in Implementing the National Development Plan (NDP)

The PBO compared the NDP objectives to the actions and outcomes in the Medium Term Strategic Framework (MTSF). Using the 12 outcomes of the MTSF as categories, we see that on average only around 45% of the targets within each category had been reached.

Again there was a problem in reporting format – a misalignment between the setting of the target and the reporting of performance with regard to these targets. We need to pay attention to and improve performance data to assist in allocating the budget effectively.

Discussion

Mr V Mtileni (EFF, Limpopo) commented that the information was too general. He suggested that the information was possibly presented at such a general level in order to conceal important details. For example, for many departments the biggest part of their budget went to litigation costs. Often this was due to the fact that the department itself was engaged in illegal activities, resulting in litigation. Another example was debt: in previous years, debt figures had been broken down by creditor, whereas here it was just presented as one figure.

Mr Mtileni stated that there were many companies doing business with the executive and officials, and that the report should make clear who those companies were, particularly when they owed the country billions of Rands. This information should not be limited to a few individuals in government, but made publicly available in the report.

Mr A Lees (DA) wanted to clarify whether the IMF prediction for GDP growth (mentioned on slide 4) had not recently reduced further from 0.9% to 0.7%.

He queried whether the PBO was of the opinion that the unfortunate appointments of finance ministers in December had made no negative impact on GDP growth and the depreciation of the Rand. The report mentioned ‘perceived’ policy uncertainly as a problem, but if this uncertainty was in fact real then it made a difference and we need to do something.

Given the recent SARB predictions for inflation, which are higher than those you had assumed on slide 8, what do you think will be the effect on the estimation scenarios? In particular, do you still think that we will remain below 50% in the debt-to-GDP ratio? Another concern was that expenditure figures were usually inaccurate as at December, given the fiscal dumping which usually occured at month-end and year-end.

The report didn’t sufficiently discuss the domestic loan at 225%.

Ms S Nkomo (IFP) raised a general concern about the lack of action taken in response to the issues present in the PBO report. Action must be taken if a department, such as Water and Sanitation, or a province, for example Gauteng, was significantly above or below its expenditure targets, to make sure they were spending sufficiently to achieve their goals. Another example was the NDP plan performance, and that fact that despite a poor result such as 13% of targets reached, it is not clear what steps we are taking as a government to remedy these results.  On the issue of reporting format, she recalled there being a standard format that was sent by the National Treasury to the various provincial departments some years ago. She questioned whether this format was still being delivered to departments, and how it could be that we are having to address this issue which was previously resolved. 

Chairperson Gcwabaza reminded Members that the PBO served as a ‘research team’ to provide information, and that questions from Members should be limited to those relating to the facts of the presentation.

Mr A McLaughlin (DA) sought several points of clarification. Where the Rand was mentioned to depreciate by 18%, over what period was the depreciation that was quoted? Our debt-service costs are reflected at 65% of what has been budgeted; did this mean that we are 10% in arrears for debt-servicing? [The budget should be 75% spent by 3rd Quarter]. Regarding the cost of foreign loans given a weaker exchange rate; isn’t it the other way around, so that when the rand depreciated it actually became cheaper for us to take on foreign debt? Certain departments, in particular Public Service and Administration and Human Settlements, had way over-spent their budgets on capital assets (more than 200% of budget). Why was this? Regarding reporting format: was there really no correlation between departments, and what happened to IGR? Who set the targets discussed on slide 13 and how did they do so? We need to compare apples with apples.

He noted that provincial disaster grant provision seemed insufficient given the scale of possible disasters and claims thereto. Finally, internal factors were mentioned as a cause of the damage to our exchange rate and our economy as an investment destination. If these were internal, surely we can control some of them and take action to improve our situation?

Mr M Figg (DA) agreed with Mr Lees, saying that the GDP growth forecast had been reduced downward to 0.7%, suggesting a more negative general situation than had been presented. Particularly, the effect of the credit rating downgrade on the costs of debt had been under-examined. The national goal for the debt-to-GDP ratio seemed to be changing by year; we need to set a realistic and fixed goal for the country. 

Given that the situation was worse than expected, was there not possibly an additional scenario that we need to add to the analysis that was less optimistic? For example, the estimates presented on slide 8 were probably too optimistic; the scenarios were based on a 1% GDP growth rate, yet the IMF had reduced our estimates to 0.7%, which was more realistic. It was also mentioned that we should be able to catch up to our benchmarks for expenditure and revenue, but was this accurate given the unusually negative economic climate we are currently in?  Lastly, it was shameful that we allow different entities and provinces to report in different formats – we are running a country.

Mr B Topham (DA) also raised the issue of performance reporting. He stressed that if the PBO mentioned that performance indicators were developed, yet there was no proper data collection for evaluation to address this problem.

Mr O Terblanche (DA; Western Cape) wanted clarification over what was meant by ‘medium-term’ when it was stated that the budget deficit was expected to reduce to 3.5% over the medium term. Secondly, if performance of the departments was so low, what was money being spent on?

Mr C De Beer (ANC; Northern Cape) stated that the committees and departments needed to create fiscal credibility at every level of government. Committees must engage quarterly with the different departments and local governments. There were some positives to consider such as the increase in wool and grapes exports. The gold price was slightly up. When discussing how to raise money, an option was to reduce the equitable share. We need to improve quality control measures, as a job done well saved money. We have wasted money re-building houses and roads that should have been built properly in the first place. It should not take 18 months to do an Environmental Impact Assessment (EIA). Again, as committees we need to intensify our over-sight role both within Parliament and outside Parliament in the provinces.

Chairperson Gcwabaza at this point interrupted the discussion to point out that the World Bank (WB) delegates had commitments to attend later in the day. He suggested that further questions for the PBO should be held until after the WB presentation in order that it could be heard in full.

Mr F Shivambu (EFF) suggested that this movement be rejected as the MP’s were still engaging with the PBO.

The Committee agreed that the World Bank should be given the opportunity make its presentation.

Briefing by World Bank (WB)

Ms Catriona Purfield, Programme Leader for South Africa, WB, said that 2015 was the country's 5th consecutive year of slowing growth, and 2016 was looking equally challenging. The strength of the USD is contributing to the drop in commodity prices.  The slowdown in China had particular effect on export-oriented countries such as South Africa, who were at risk of trade imbalances. Challenges to South Africa were not only external however, as infrastructural bottlenecks and difficult labour relations stifled growth.

Growth was currently shifting to high-income countries. Although the WB forecasted a modest pick-up in growth in the developing world, this would be below the rates that experienced before the events of 2008/9.

Many of the country's most important export commodities had seen significant price decline, including platinum, gold, and iron ore. Simultaneously, the raising of rates in the US was causing capital flight from the developing world and putting pressure on exchange rates. Balance-sheet vulnerabilities were a threat for export-oriented countries, and capital outflow can worsen this problem. In addition, a declining Rand increases the cost of servicing debt.

However, the depreciation of the Rand was helpful in one regard as it cushioned against the decline in commodity prices. For example, a 50% drop in commodities would net against a 28% decline in the exchange rates to equate (approximately) to a 22% decline in exports. However, a weaker rand put pressure on domestic prices as imports became more expensive, and as monetary policy must prioritise price stability, it loses its ability to support the economy with low interest rates.

Existing and New Problems for South Africa:

Policy uncertainty posed an internal threat to investment and capital inflow. South Africa was highly integrated into the global financial markets; 40% of capital on the JSE was held by foreigners, while 36% of public debt was owned by foreigners.  The December Finance minister changes had sharp negative impacts on the exchange rate, the JSE, and the governments borrow costs. These uncertainties were reflected by the lowering of South Africa’s credit rating.

South Africa’s weakening exchange rate was driving inflation, which hit the poor the hardest as they spent the most of their income. Inflation further drove up borrowing costs, and also eroded the competitiveness of exports.

The WB estimated that 50 000 South Africans had been pushed below the poverty line as a direct result of the drought. Some regions had been worse-off than others, such as Mpumalanga, which suffered agricultural losses, combined with the hit from dropping mineral prices.

A result of the lower growth was that the average incomes of South Africans were falling, and the ratio of poor in the society was increasing. Using the national [Stats SA] poverty line, the rate had increased from 36.5% in 2014 to 37.4%. For the first time in 20 years, we are reversing progress in reducing poverty.

At present, the WB estimated that South Africa would grow by 0.8% in 2016, and 1.1% in 2017. However, if it planned to achieve the NDP and WB goals of eliminating extreme poverty and creating 11 million jobs, South Africa would need to grow by 7.2% a year from 2017 onwards. This type of growth was not impossible: it had been achieved by China and Botswana.

There was therefore need for fundamental reform.

Reformations That Can Bolster Growth:

The WB had estimated in the Ease of Doing Business Report (EOBD) that by cutting bureaucratic ‘red tape’ [lengthy procedures/processes], South Africa could quickly become the 25th easiest country in which to do business, bolstering foreign and domestic investment. This could be achieved simply by copying the best legal practices of each South African city (according to EODB measures), and incorporating them into national and provincial legislature. Electricity connections and property registration were two key legal processes that could be improved. The WB also estimated that if South Africa managed to reduce regulation and red-tape on the supply of professional services, it could yield a 0.5% increase in GDP growth.

Public investment was also critical to remove infrastructural bottlenecks; it had been estimated that a 1% increase of public investment (as a percentage of GDP) would lead to between 0.5% and 0.9% increase in medium-term growth of GDP. The WB had estimated previously that addressing the problems with Eskom and trading ports alone would increase the growth rate by 1%.

South Africa had one of the highest spending rates on education in the world, yet it had some of the lowest pass rates. Given that the working-age population was expected to rise by 240 000 people each year until 2030, it would be critical to develop the skills system to reduce unemployment rates.

In addition to fiscal and monetary policy, competition policy was important in creating jobs, keeping prices competitive and lifting growth in South Africa. Competition was particularly important in input markets, as lower prices meant that firms downstream had lower input costs, allowing more investment and expansion and therefore creating jobs.

The WB found that in 15 years of competition policy in South Africa, competition had been enforced relatively well. Looking at case data from the Competition Commission and the Competition Tribunal, there were 76 cases of cartel ‘busting’. This excluded construction-related cases (which was not comparable). This figure compares favourably with the rest of the world, placing South Africa 13th out of 144 countries. The corporate leniency policy granted that if a member of a cartel approached the regulators with information about a cartel they were member to, they received amnesty from any legal action. This had helped bring cartels to light, with 33 cases involving a guilty party reveal a cartel and applying for amnesty via the policy. In 25 cases, trade associations were implicated in the collusive agreements. Given that many bigger firms were often colluding with each other in various markets, a useful tool that regulators should consider was a network analysis of colluding firms. This was a diagram which plotted relationships between different firms and the cartels they had been member to in different markets. This could be used to look at various sectors and markets to find cartels.

It was also possible to detect vulnerable markets by certain factors. Firstly, markets where firms could exchange information more easily were more likely to collude. Price-inelastic goods were also more likely to see collusion, as there was a higher profit yields from collusion as consumers still bought similar quantities at the higher prices. In addition, certain colluding firms in South Africa had been involved since before 1994 when competition laws were enacted, meaning that they may have long-standing ways of communicating and colluding that was not detected under existing competition law. 

In broadband, despite new regulations 2 firms currently dominate 70% of the market. This was a failure of regulation as the market should have more providers. South Africa ranks 119th out of 140 countries for data download speed at 5.9 Mbps. It had been said that the big territory of South Africa lended itself to one or few providers; but this was untrue. An example is Russia, which was a far bigger territory yet had five times the data exchange rates of South Africa. If measures of data quality and the cost of data were combined, South Africa always ranked amongst the bottom 4 countries. There should also be a broader spectrum of speeds offered to firms to match data needs to those of small or bigger firms, lowing input costs on average.

Discussion of PBO presentation (continued)

Mr Tophan asked how South Africa was going to fund the deficit and its foreign-denominated debt. The country could not more foreign debt. As a country we need a balance sheet that reflected the principle of double accounting.

Mr Shivambu stated that corruption was a huge fiscal pressure in South Africa that should not have been omitted from the PBO report. We must not tip-toe around these issues. Similarly, with respect to our depreciating currency, we need to acknowledge the recklessness of the President as the cause of [December’s] depreciation. Again, we cannot avoid those discussions. He added that the PBO’s actions were often in contravention or opposite to the goals of the NDP.

Ms S Shope-Sithole (ANC) agreed with Mr Shivambu in that we must not tip-toe around issues such as corruption. She is interested in information about a particular case of looting in Parliament.

Ms D Dubazane (ANC) pointed out that the South African government had a book that defined performance indicators, and that the PBO could not say that ‘performance indicators are not always ‘well-defined’ (as on slide 11).

Ms N Mokgosi (EFF) echoed concerns about the omission of corruption as a fiscal driver in South Africa.  In the expenditure tables, it would be preferable to show Rand values instead of percentages, as percentages could be deceptive, for example in this case where budgets were of vastly different costs.  MPs needed better qualitative analysis to understand the areas and links that create our real costs. Our examination of costs should be quantified and compared to the goals of the NDP. We need to give people skills and not just hand-outs from social security net – it was not sustainable. We should be expanding the tax base by getting people into the workforce rather than making them dependent.

Discussion of the WB Presentation

Mr Shivambu noted the Wbs comments about the need for competition and infrastructure but pointed out that Ethiopia, Kenya, Mozambique, Sierra Leone were all growing with nothing comparable to our level of  infrastructure. Even if the country achieved all of the goals the WB had mentioned, we would not grow sufficiently. We had more important structural problems that inhibit our industrial expansion. Firstly, South Africa needed mechanisms to produce its own food. Land must be redistributed equitably so that all people could participate in the economy. We need guided facilitation of economic participation of the black majority. It has also been proved in February [2015] at Wits university that increases in the minimum wage always had positive overall returns due to the increased purchasing power of workers. The real issues were not spoken to, however, as the ideological framework of the WB was to project the continued profitability of capitalists so that they could easily come into the developing world and compete amongst themselves. Therefore, in his view, the WB should not be taken seriously. Look at the history of the structural adjustment programmes – they failed most African countries.

Ms Shope-Sithole stated that WB has spoken about competition, yet at the global level competition was not on a level playing field. In the book Kicking Away the Ladder, the author argued that the North was encouraging the South to open their economies in order to protect the North’s interests. The South was not being treated fairly and did not have an equal chance in the global system.

Ms Dubazane questioned how helpful flexible currencies were, given the damage that spread throughout the developed world in 2008 despite their having flexible prices. Also if the JSE was largely held by foreign companies, and the ratings agencies were foreign companies, was there not a conflict of interest here?  [They can downgrade South Africa and then buy our stocks/assets/debt cheaper]. She also noted that it was not a very simple or tangible goal to try and reduce ‘red tape’ around the supply of professional services.

Ms Mokgosi stated that while she agrees with the points raised by the World Bank, she maintaiedn that certain of the fundamental issues to South African growth had been overlooked. In particular, the Apartheid system was not just a political system. Did the WB have a view on the effect of the economic consequences of Apartheid? Almost 70% of [black] African were still stuck in the second economy. We need to de-racialize the economy.

Ms Mokgosi disagreed with Mr Shivambu’s argument relating to other developing countries excelling without investment in public infrastructure, as she believes the comparison between South Africa and these countries is not informative. They were not comparable. She believed that our primary policy objective should be to create increases in regional trade in goods and services, and an industrial ‘revolution’. She echoed the call for more transparency regarding corruption. Finally, she was interested in the World Bank’s view on cooperatives.

Ms Purfield clarified that the percentage of government debt owned by foreigners was 36% not 76%. When the rand depreciated, when you convert from Dollar to Rand you get more Rands.

In response to Ms Mokgosi’s comment about social security, Ms Purfield said that social grants in South Africa change our Gini coefficient from 0.77 to 0.69. This was still not good enough, and we are still the most unequal country in the world. This spoke to the issue of economic exclusion and the question of creating jobs. The flow of goods between South Africa and the rest of Africa, as well as to the developed world remained important. Reducing tariff and non-tariff barriers was crucial to bolster all trade.

As for the question about which policy priorities the WB chose to discuss and which it had omitted, the WB tried to identify and discuss what could be thought of as ‘low-hanging fruit’. We are not here to reorganise or to fix the apartheid system. It was true that in terms of competition, many of the big cartels were formed during apartheid. The informal sector was extremely important in South Africa. Cooperate access to finance for small businesses was a good idea, and small businesses had mentioned that a lack of access to electricity and space as limits to their development.

Prof Jahed stated that the aim of the PBO in this meeting had been to prepare members for the Budget Report. He questions the idea that the hiring or firing one person was a significant cause of policy uncertainty. Corruption and uncertainty were symptoms of our economic system. In any case, these issues should be directed to the executive. We should focus on the serious economic issues.

The joint meeting was adjourned.