South African government finances are in real trouble. The South African Reserve Bank can and should help out
Category: Financial markets and economics
Date: 11 September 2023
Date: 11 September 2023
Its no secret the South African government has been misusing its funds for decades. But right now its probably in the deepest trouble its been in since the dawn of democracy. In such deep trouble that they, the Natonal Treasury held exclusive meetings at Spier Wine Estate in Stellenbosch and even involved the South African Reserve Bank. Guess its good that fiscal and monetary policy owners finally sit around the table as South Africa's fiscal monetary policy mix has been disjointed for years. So what does it all mean? Read on below.
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A quick recap
South Africa's National Treasury (headed by the Minister of Finance) is responsible for the country's fiscal policy. That is the collection of tax revenue and then the allocation of funds to all government departments and SOE's to ensure it delivers on its mandata of providing basic goods and services to members of the public. That is the primary function of the National Treasury. Fiscal policy and implementation thereof.
Then we have the South African Reserve Bank (headed by the Governor of the Reserve Bank) and their primary focus is moneteray policy. So that would primary be a stable exchange rate, and inflation targeting (keeping inflation between 3% and 6%). And the main tool used to achieve this is interest rates.
Now to get the most out of any economy these two policies needs to be coordinated or at least aim to achieve the same things. If not the one could be counteracting the other. And it has happened many times in the past where they worked against one another and the net result being a South African economy that has been limping along aimlessly for decades. Things need to change, and they need to change quickly.
Then we have the South African Reserve Bank (headed by the Governor of the Reserve Bank) and their primary focus is moneteray policy. So that would primary be a stable exchange rate, and inflation targeting (keeping inflation between 3% and 6%). And the main tool used to achieve this is interest rates.
Now to get the most out of any economy these two policies needs to be coordinated or at least aim to achieve the same things. If not the one could be counteracting the other. And it has happened many times in the past where they worked against one another and the net result being a South African economy that has been limping along aimlessly for decades. Things need to change, and they need to change quickly.
So what is happening and what needs to happen?
South Africa's government is sinking ever deeper into debt, with Sakeliga estimating the SA government is borrowing around R50billion a quarter ust to pay interest on debts it has. And those debt obligations needs to be paid. But tax revenues have fallen short of governments expectations, which means they need to cut spending, or borrow more to deliver on their promised expenditure (including a two year wage deal that has been signed already) and needs to be implemented in 2024, which is also an election year. It will be an extremely unpopular decision by government to not implement an agreed wage deal in a election year. Government could lose a large number of votes because of this. So plans will have to be made to do one of tw things if government wants to stay head above water.
- 1. Cut back massively on all state spending (this will lead to even poorer service delivery across the entire economic system, infrastructure falling apart faster and more regularly) and no pay increases for employees so expect massive strikes and destruction of property as has become the norm in strikes in South Africa. So this option is not ideal.
- 2. Increase tax revenues and increase it quickly. But the question is how? Well the best way to collect more tax is of people spend more. Ensure policies are in place that encourages businesses to expand, and ensure there is enough cash in consumers pockets to actually spend. And this is the part where we would like to be left field and say that the South African Reserve Bank (SARB) can play a big part here.
So how can the SARB help?
Well the significant number of interest rate hikes in recent months by the South African Reserve Bank (SARB) was totally unncessesary. The higher levels of inflation was not caused by increased consumer demand (demand pull) but rather a bunch of external factors such as higher oil prices, draughts, wars etc.
So to use interest rates to curb consumer spending hoping that lower levels of spending will reduce inflation does nothing for higher levels of inflation but what it does do is take cash away from already struggling consumers. Less money in consumers pockets means less money to spend on goods and services. Less spent on goods and services means less VAT collected by the government. Less spent on goods and services also means lower company proffits which means less corporate income taxes collected.
So what are we suggesting? We are taking a left field approach and saying SARB should cut interest rates sharply, to free up cash for consumers, increase demand for goods and services, as this will lead to higher levels of VAT collected, higher corporate profits as more money is being spent which means more corporate income taxes collected.
This increased demand could lead to businesses needing to buy more goods and services to service their customers, employ more people to deal with increased demand. The new employees starts spending on goods and services, leading to even higher levels of VAT and corporate income taxes, the new empployees starts paying income tax so personal income taxes also increases. This cycle can continue for years and lead to exponential growth. Its called the multiplier effect. Not sure a rate cut can achieve it? Or the overall impact on the economy wont be big enough? Lets illustrate ust how big an impact a sharp rate cute could have on government taxes collected and potential increased spending in the economy.
In July 2023, new debt issued according to SARB amounted to R4.1 trillion. Now lets assume all this debt was issued at prime of 11.75% The annual interest on this new debt would amount to R491 billion. Lets say the SARB cut interest rates sharply and the prime rate is now at 9%. The annual interest on this new debt issued would amount to R376 billion. Thats a saving of R115 billion in interest. If all that money saved was spent and just VAT collected on it (ignoring the multiplier effect of higher profits, more demand, more employees, more spending more taxes collected) the annual extra amount of VAT collected would amount to R17 billion. And this is just on the annnual interest on new debt. Imagine the interest saving on debt issued over the last number of years.
The impact on the economy, in terms of demand and spending and taxes collected would be astronomical.
Sure this could lead to higher levels of inflation. We have had high levels of inflation and no growth, so lets have high inflation with high growth for once. Better than where we are currenty. Desperate times calls for desperate measures. And this would be mine.
Its time SARB realises the impact their rate decisions have on the SA economy, its people and the tax collected by the South African government
So to use interest rates to curb consumer spending hoping that lower levels of spending will reduce inflation does nothing for higher levels of inflation but what it does do is take cash away from already struggling consumers. Less money in consumers pockets means less money to spend on goods and services. Less spent on goods and services means less VAT collected by the government. Less spent on goods and services also means lower company proffits which means less corporate income taxes collected.
So what are we suggesting? We are taking a left field approach and saying SARB should cut interest rates sharply, to free up cash for consumers, increase demand for goods and services, as this will lead to higher levels of VAT collected, higher corporate profits as more money is being spent which means more corporate income taxes collected.
This increased demand could lead to businesses needing to buy more goods and services to service their customers, employ more people to deal with increased demand. The new employees starts spending on goods and services, leading to even higher levels of VAT and corporate income taxes, the new empployees starts paying income tax so personal income taxes also increases. This cycle can continue for years and lead to exponential growth. Its called the multiplier effect. Not sure a rate cut can achieve it? Or the overall impact on the economy wont be big enough? Lets illustrate ust how big an impact a sharp rate cute could have on government taxes collected and potential increased spending in the economy.
In July 2023, new debt issued according to SARB amounted to R4.1 trillion. Now lets assume all this debt was issued at prime of 11.75% The annual interest on this new debt would amount to R491 billion. Lets say the SARB cut interest rates sharply and the prime rate is now at 9%. The annual interest on this new debt issued would amount to R376 billion. Thats a saving of R115 billion in interest. If all that money saved was spent and just VAT collected on it (ignoring the multiplier effect of higher profits, more demand, more employees, more spending more taxes collected) the annual extra amount of VAT collected would amount to R17 billion. And this is just on the annnual interest on new debt. Imagine the interest saving on debt issued over the last number of years.
The impact on the economy, in terms of demand and spending and taxes collected would be astronomical.
Sure this could lead to higher levels of inflation. We have had high levels of inflation and no growth, so lets have high inflation with high growth for once. Better than where we are currenty. Desperate times calls for desperate measures. And this would be mine.
Its time SARB realises the impact their rate decisions have on the SA economy, its people and the tax collected by the South African government