Rising wages and interest costs a slippery slope – Treasury official

South Africa’s public finances are moving in the wrong direction as the country is spending an increasing proportion of its budget on wages and servicing debt, a Treasury official has warned.

“I think a good measure of a country that is not managing its finances [well] is one that spends its money on repaying debt and wages, and we are moving towards that and I think that is a very concerning trend,” Ian Stuart, acting head of National Treasury’s Budget Office, told delegates at the Government Technical Advisory Centre (GTAC) Winter School on Monday.

His warnings come amid concerns that Treasury may not be able to stick to the plans for fiscal consolidation it announced in the February budget. Although it raised VAT by one percentage point and announced various measures to stabilise the country’s finances and debt, there has been increasing pressure to raise spending.

Recent public-sector wage agreements will cost roughly R30 billion more than the budget provided for over the next three years. South African Airways also recently told Parliament that it would need R20 billion over the next two years to become a sustainable airline, and health minister Aaron Motsoaledi announced plans for the National Health Insurance.

At the same time, the economy remains under pressure, with initial data suggesting that growth might disappoint during the second quarter after GDP contracted during the first three months of the year. More protectionist policies in the global economy and rising interest rates in the US also mean that South Africa is a relatively less attractive investment destination. The 10-year government bond yield has risen over the last few months as markets have become aware of the pressure on the fiscus.

Since the global financial crisis, South Africa has struggled with a consistent structural deficit between revenue and expenditure, which has required a significant amount of borrowing.

At the moment, the country is borrowing roughly R200 billion a year to maintain the current level of expenditure, and a lot of pressures are emerging, Stuart said.

To close the gap, the country will have to raise taxes further or reduce spending.

“Both are very difficult decisions and they have big implications for growth.”

Stuart said there is no free lunch – South Africa has big social priorities, is spending a lot of money and has raised taxes significantly over the past five years.

“The level at which we spend is not supported by the size of the economy as it stands. There are going to be additional decisions to be made I think over the next three years,” he warned.

The table below shows the public wage bill as a share of total expenditure over the past decade. The defence force spent 38% of its budget on wages in 2008 compared to 57% last year.

“This unfortunately is true for a whole host of very large and important departments including provincial health,” said Stuart. “We’ve seen basically across the board that wages are eating up a larger and larger share of spending.”

While cutting wages might seem like the obvious answer, wages account for roughly 80% to 90% of the provincial budget in a department like basic education. Cutting wages would effectively mean cutting back on education, Stuart said.

Even a decision to reposition spending in favour of infrastructure, which is generally considered more growth-friendly in the long run, has its challenges. Stuart referenced major problems in the water infrastructure sector as one such example.

“Every singularly straightforward decision in budgeting has significant trade-offs and costs and benefits that have to be taken into account, and something as simple as … how much debt should South Africa have as a government is an extremely difficult question to answer.”

The International Monetary Fund recently said South Africa was not hard enough on fiscal consolidation and suggested that government should introduce a debt ceiling at around 55% of GDP.

Stuart is not in favour of such a proposal, arguing that South Africa has to be in a position to take on debt when appropriate.

To introduce such a ceiling would also mean that additional spending cuts or tax increases would be necessary.

“Those have costs as well.”

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