If SA’s public finances are looking so much better, why is our debt still so expensive?
The short answer is that it would be even worse if the public finance picture had not improved, given what is happening in world markets. But with just three weeks to go to the medium-term budget, new finance minister Enoch Godongwana’s ability to hold the fiscal line will be important.
Godongwana is expected to report much better deficit and debt ratios when the medium-term budget is tabled on November 4 than his predecessor reported in February. That is partly optics: Stats SA’s recent five-yearly revisions to the GDP data lifted the size of the economy against which the deficit and debt numbers are compared, flattering the ratios (even though the debt itself, at R4-trillion and rising, has not gone anywhere).
But it is also about fundamentals, particularly the commodities boom and the huge boost it has provided to tax revenue, which is likely to overrun even February’s upwardly revised estimates. How sustainable that is is the subject of heated debate, and with prices of some of SA’s big commodity winners already off their peaks, the Treasury is likely next month to try to quell the “supercycle” euphoria.
For now, though, the government has so far financed extra spending on the July unrest and social grants using some of the extra revenue. This year’s deficit is likely to come in well below February’s 9% estimate, possibly even below 7%. And instead of heading scarily towards 90% over the medium term, government debt as a percentage of GDP could stay below 80% — and the government could deliver on its promise to stabilise the debt sooner than expected.
Look at what we are paying for that debt though, and the market does not appear to have given us much credit at all. This week the yield on 10-year government bonds — in effect the interest rate investors charge to lend us 10-year money — was about 9.5%, rising to almost 11% on 30-year bonds. Your bank would probably give you a 20-year home loan for less. Bond yields had declined significantly in the first half of this year, but they have lifted again, particularly over the past month.
It’s the cost of government debt that is the real issue, rather than the quantum. Servicing government debt is already consuming about 20c in every rand the government raises in tax revenue. That’s a function of the huge size of the national debt, which is already over R4-trillion and rising, as well as of the interest cost (or yield) on that debt.
It’s a concern for investors, who worry less about SA defaulting on its debt repayments given that its borrowing is mostly very long term, than they do about how long SA will be able to afford its debt. It’s surely a big concern for citizens too, that so large a chunk of our national resources goes to bondholders and bankers rather than grants or roads or schools.
Break down the yield, however, and the picture is more complicated — and also more encouraging. Broadly speaking, the bond yield is a function of the risk-free rate (usually the yield on US 10-year Treasury bonds) and of a country-specific risk premium. That risk premium captures the market’s assessment of a country’s longer term economic and fiscal outlook, and of how credible are its promises to service its debts in coming decades.
The risk free rate itself has gone up significantly lately, with US treasuries lifting (to about 1.5%) on inflation concerns and a robust economic recovery in the US. That in turn has prompted the US Federal Reserve to signal it will start normalising monetary policy, tapering its bond buying from next month.
That has helped drive up emerging market bond yields in general, as have global concerns about slow growth and potential financial instability in China, and high energy prices. All these global factors have contributed to a bout of risk aversion that is weighing on emerging markets, including SA. The July unrest didn’t help investor perceptions either.
SA’s bond yields did benefit earlier this year from improvements in the fiscal outlook as well as the balance of payments, and the cost of borrowing on the market is still a little better than it was at the time of the February budget, even if worse than at the time of the pre-Covid, February 2020 budget. Yields have gone back up lately mainly because of global factors. Strip out the risk free rate though, and SA’s risk premium has actually reduced, by about 1.5% for the year to date — outperforming emerging markets’ 1.2% reduction.
However, if investors are looking more fondly than they were on SA, their scepticism about its prospects is still clear in still steep long-term borrowing costs. They will be watching next month’s budget closely to see whether the government is going to give in to the host of pressures to spend more and borrow more — or will hold the line and use at least some of its revenue windfall to reduce debt, so ensuring it can stay on the promised path of fiscal consolidation. Any sign that it won’t could well see the risk premium climb and borrowing costs blow out, especially if global markets are unfriendly.
As the IMF emphasises in its latest Fiscal Monitor, credibility is important when it comes to public finances: “When lenders trust that governments are fiscally responsible, they make it easier and cheaper for countries to finance deficits.”
Next month’s budget will be a test of that.
• Joffe is editor-at-large.
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