Signs that South Africa could face further rating downgrades came last week, when the National Treasury released data on government finances in October.
Azar Jammine, the chief economist at Econometrix, said government revenue fell by more than 2 percent year on year, due to a steep drop in the take from VAT, excise duties and the fuel levy. At the same time government spending shot up 21.9 percent year on year.
The October figures represented a dramatic change from the picture in September, Jammine noted. And, he warned, the budget deficit could come in at 5.1 percent of gross domestic product (GDP) instead of the 4.8 percent projected at the time of the medium-term budget in October, if the trend continued.
Jammine said, in itself, the overshoot was not a problem, as the R11.7 billion addition to the public sector borrowing requirement would easily be absorbed by the capital market. “However, the broader implication is somewhat worrisome because it confirms some of the worst fears of rating agencies regarding the ability of the National Treasury to meet its deficit targets with the view to capping the rise in its ratio of government debt to GDP at just over 40 percent in 2015.”
The budget deficit – the shortfall between government revenue and spending – should not exceed 3 percent of GDP. If it remains above that level for a prolonged period, borrowing costs become unaffordable. The deficit breached 3 percent in 2009/10, after South Africa was hit by the global recession. Finance Minister Pravin Gordhan said in his medium-term budget policy statement in October that the deficit would be close to 3 percent by 2015/16.
This prediction could be in jeopardy if the current year’s deficit is bigger than projected.
Rating agencies have repeatedly expressed doubt about the government’s ability to keep Gordhan’s budgets on track and Moody’s Investors Service and Standard & Poor’s have already cut the country’s sovereign rating by one notch. Even worse, they have warned more cuts could follow if there were signs that government finances were getting out of hand.
The lower the rating, the higher the cost of government borrowing – a further burden on the fiscus. If the rating falls below investment grade, large institutional investors, such as pension funds, would divert investments to safer regions.
Already portfolio flows to South Africa have slowed. Until July, net non-resident purchases of domestic bonds and shares averaged more than R9bn a month, but by the end of November, the average had dropped to R7.6bn.
Jammine said the decline came as the country became more dependent on portfolio purchases to finance “the burgeoning current account deficit”. On Friday, the SA Revenue Service said the trade deficit was R21.2bn in October and a cumulative R104.6bn in the 10 months to October.
However, October may have been a special case. Jammine said the fall in government revenue that month could be “directly linked to strike activity and the disruption this caused, in terms of workers forgoing wages and business levels in the mining industry declining substantially”. A positive sign was that personal income tax grew 11.8 percent in the month while company tax grew 105.3 percent.
So the final outcome of the Budget depends heavily on an end to further work stoppages.