DAAN STEENKAMP: SA has not felt tight grip of austerity, yet

Some commentators have been claiming there has been fiscal austerity in SA in recent years. This is not the case.

The most common definition of austerity is higher taxes or spending cuts implemented to eliminate budget deficits and consolidate debt. SA has not experienced nominal cuts to national spending or large tax increases over recent years. To give a sense of what austerity actually looks like, consolidation measures implemented in Ireland after the global financial crisis required tax increases and spending cuts amounting to 20% of GDP.

Instead, SA’s fiscal framework after the global financial crisis has been characterised by a reorientation towards transfers, public employee wages and bailouts for state-owned enterprises (SOEs) and away from public investment and provincial expenditure. Since economic growth has stalled and borrowing costs have been high, non-interest expenditure components have been squeezed, but this has not been enough to reduce budget deficits and stabilise debt. If one excludes SOE bailouts, the growth in the inflation-adjusted value of non-interest spending has declined sharply since the Covid-19 pandemic. 

While SA has not implemented fiscal austerity, the amount of new resources flowing to government departments, provinces and municipalities has fallen off, a lot. This is one important reason the country is experiencing a service delivery crisis. The government spends more than 60% of its budget compensating employees, servicing debt and paying grants. Growth in these categories has been crowding out infrastructure investment, maintenance and other socioeconomic expenditure. No wonder SA roads are increasingly potholed and water shortages are becoming an everyday challenge when provinces are spending less than 2% of the value of their assets on maintenance and repair.

SA’s “fiscal space” refers to the extent to which fiscal resources remain for fiscal policy to respond to unexpected shocks. A useful indicator is the cyclical fiscal stance, which is the main budget fiscal balance adjusted for the effect of the business cycle on revenue and expenditure. The measure suggests that the fiscal stance became less prudent (more negative) after the global financial crisis of 2008-09. Whereas fiscal policy was broadly countercyclical ahead of the global financial crisis, post-crisis fiscal policy eased and remained somewhat easy even as excess capacity (what economists call the “output gap”) has narrowed to close to zero.

The IMF measure of the cyclical stance of fiscal policy for SA has remained in negative territory since 2009, implying that fiscal policy has stayed “loose” even as the economy began to recover after the global financial crisis and the output gap gradually closed ahead of the Covid-19 crisis. Looking ahead, the IMF assumes fiscal policy will become less stimulative, but a cyclically adjusted primary surplus will be achieved only in 2026/27. But the IMF predicts that SA’s structural budget balance will deteriorate over the next five years, reflecting the effect of growing debt service costs from rising public debt.

A related question is whether attempts at fiscal consolidation have weighed on economic growth in SA. A measure of the effect of the fiscal stance on the business cycle is the “fiscal impulse”, which can be proxied as the year-to-year change in the cyclically adjusted budget balance. IMF estimates suggest that fiscal policy has been broadly supportive of aggregate demand since the global financial crisis. These estimates suggest that fiscal policy was a meaningful brake on activity only between 2018 and 2020, and that it boosted the economy in the aftermath of the Covid-19 pandemic. Looking ahead, the IMF assumes fiscal policy will become less stimulative, though the main budget cyclical balance is expected to remain negative.

These estimates suggest that fiscal policy has remained loose despite lower growth. But has this stimulated economic activity or have tighter budgets worsened the economy’s already slowing growth? Research by Du Rand et al (2023) and the SA Reserve Bank suggest government expenditure and investment have either had no noticeable effect on economic growth or represented a drag on growth. It is likely that higher public debt, the deterioration in investor confidence, corruption and deteriorating state capacity have reduced the effect of spending on the economy and directly weighed on potential growth.

Why did SA not have to implement hard austerity following the global financial crisis like countries such as Ireland and Argentina? The National Treasury had consolidated debt in the lead-up to the global financial crisis. Low debt and an accommodating global environment with low interest rates helped SA avoid a severe consolidation.

But higher debt and rising interest rates are increasing the chances that fiscal austerity could be forced on the country. With limited fiscal space to respond, SA is increasingly vulnerable to shocks and changes in global financial conditions. A natural disaster or global shock like another pandemic could force cuts in public sector headcount, wage freezes or across-the-board nominal spending cuts if the government cannot continue to borrow at manageable interest rates.

The most painless way to avoid austerity is to raise economic growth. This requires assertive policies to address public sector service delivery problems and reforms to unleash the private sector. The recent Harvard Growth Lab report provides practical measures to remove barriers to growth, stimulate investment and create employment. These include accelerating electricity market reforms to promote private sector production and storage, a shift to merit-based employment in the public sector and relaxing preferential procurement rules. The longer SA delays addressing the things that hold the economy back from creating jobs and growing incomes, the more likely a hard fiscal consolidation becomes.

• Steenkamp is CEO of Codera Analytics and a research fellow with the economics department at Stellenbosch University.