Finance minister Enoch Godongwana’s attempt this week to put through a two percentage point hike in the VAT rate without ensuring he had the cabinet support needed was remarkable.
But what was more remarkable about this week’s budget-that-wasn’t was that it represented a 180-degree turn in the Treasury’s strategy to stabilise the public debt.
Where previously it relied on spending cuts to achieve the promised fiscal consolidation, this budget relied on hiking government spending — and hiking taxes to pay for it.
A year ago Godongwana planned to cut government spending by a real, inflation-adjusted 0.5% a year over the medium term to stabilise the debt. This week he instead pencilled in a 0.9% a year real increase in spending over the medium term.
If there is any good to come out of the debacle it is — as the minister said — that it has prompted cabinet ministers to engage with the budget as they’ve not done in the past. But as they engage ahead of budget 2.0 next month, they must apply their collective minds not just to taxing but also to spending.
The budget provided for an additional R173bn of government spending over the three years of the medium term, financed mainly by the two percentage point VAT increase. This was estimated to raise a net R58bn in the first year, after R2bn of new zero rated staple foods.
The puzzle was why it was so urgent to hike the VAT rate so controversially steeply, when the budget numbers didn’t seem that much worse than those projected in October’s medium term budget. Treasury budget office head Edgar Sishi was clear that the VAT increase had nothing to do with the fiscal balances.
“We were always comfortable we would achieve our broad targets without any policy change on the taxation side,” he told Business Day ahead of the nonbudget. Rather, the increase was a response to persistent and new spending pressures — “and we decided we are not going to increase borrowing to fund what is mainly operating expenditure.”
The minister in turn was clear that borrowing more was not an option because the debt to GDP ratio was already high, and the economy was not growing and had limited capacity to service more debt. But front-line services such as healthcare and education were becoming eroded he said, and government had to find a way to fund these.
Politicians generally love a spending increase and these would have gained wide support — though cabinet apparently wasn’t entirely at one on Godongwana’s spending proposals either. There was R29bn each for teachers and early childhood education over three years, and for unemployed doctors and other health services.
There was R5bn for the soldiers in the Democratic Republic of Congo and further money to pay defence and correctional services workers. And there was R46bn for infrastructure. Interestingly, much of it was for the Passenger Rail Agency of SA’s commuter rail services, with nothing new for Transnet.
The spending choices had a distinctly pre-election tilt, with local government elections coming up next year. One couldn’t help wondering whether the finance minister came under pressure late in the process to do this — even from the president himself. How much the new spending allocations were the result of thoughtful, evidence-based policy choices is unclear.
Nor is it clear how far the new fiscal strategy was the product of a thorough policy process. In theory at least, raising VAT is good tax policy, if taxes must be raised. SA’s personal income tax rate and burden are far higher than other developing economies, while its VAT rate is among the lowest of its peers, as the budget documents pointed out.
VAT is also the least economically distorting of the big taxes, because unlike personal or corporate income taxes it doesn’t risk disincentivising working, saving or investing. And in SA, with all the zero rating, it’s not particularly regressive.
The tax experts have long urged SA to rely more on indirect taxes such as VAT and less on income taxes. And Godongwana tried to soften the impact on the poor and mollify politicians with more zero ratings — even though these aren’t particularly good tax policy given that the existing zero ratings already cost the fiscus more than R34bn a year, losing more than one percentage point of VAT.
Whether he considered SA Revenue Service commissioner Edward Kieswetter’s urging to give the service more money to close the R800bn tax gap instead of raising tax rates is unclear.
A more fundamental question, though, is whether the whole taxing and spending package is good fiscal or economic policy. Government will be drawing more out of the economy to finance its own spending, which has not proven particularly efficient at delivering services. Nor has more public spending been shown to boost economic growth in the past decade or so. Investing to make the economy more productive, whether through infrastructure or through health and education, makes sense.
By raising taxes to fund more spending the Treasury has taken the pressure off government to restructure the public service, and cut all those programmes and public entities and agencies with overpaid bosses that yield little for the economy.
It takes the pressure off to face up to exactly those tough trade-offs that the minister said he wanted the cabinet to engage with.
The budget he planned to present was certainly a bold one. It could have gone down quite well in the market had cabinet backed it. But good fiscal policy is consistent fiscal policy. Surprising the market with a turnabout in strategy and an unexpected VAT increase might have dented the credibility of the budget process anyway.
As it turned out, the debacle on Wednesday has raised more serious questions about the process. The Treasury’s numbers may have shown it delivering on its debt stabilisation targets. But the debacle undermined precisely the credibility that it has been working so hard to rebuild after the years in which budget targets were consistently missed.
• Joffe is editor-at-large.
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