Picture: ISTOCK
Picture: ISTOCK

South Africans are facing a thumping tax increase at exactly the moment the economy needs it least. The fact that a big tax hike is coming is old news: it was signalled in the medium-term budget last year. Exactly what form the tax increase will take is news: its form and precise extent will be revealed only in the budget next month. In the meantime, the Treasury is desperately trying to find ways to spin the tax increase in a way that doesn’t unnecessarily shock the economy or the electorate. That is going to be a tall order.

The hole in the budget is so big that even a single percentage point increase in the VAT rate won’t cover it. Economists estimate that would bring in only about R22bn and this seems now an unlikely outcome because VAT increases are retrogressive. Neither will failing to provide relief for fiscal drag do it — that would bring in only about R15bn. Even increasing the maximum marginal rate by two percentage points won’t be enough.

So, we can expect a range of measures loosely grouped under the heading "wealth taxes" to fill the hole. This might help with the Treasury’s marketing effort to portray the tax hike as something that will hit the rich and that, therefore, ordinary South Africans don’t have to worry about.

In fact, as a matter of just basic economics, this is simply not true. Removing more capital from the real economy, wherever it is extracted, will ultimately have consequences for the economy as a whole. It may have differential effects and presumably, that is what the Treasury is aiming to achieve. But tax increases normally retard economic growth and that affects everyone, rich and poor.

The larger question is: why is this necessary? What went wrong that has now forced the government to take extreme measures to right the ship?

The answer is three-fold. First, the government decided, with the best intentions, to try to mitigate the effects of "the great recession" by increasing government spending in the latter part of the past decade. Its stated intention was to spend the money on increasing and improving infrastructure. But as some economists have argued, infrastructure spending is a poor tool in trying to improve a faltering economy because it takes so long to plan and implement that by the time the spending actually hits the economy, the economy has already improved on its own.

The government wants to keep a VAT hike in reserve for when it needs a large bunch of extra cash to fund promised initiatives

In SA’s case, this was only part of the problem. Here the spending was done so badly that costs ballooned and the benefits to the economy were marginal. Nothing illustrates this better than the fiasco at Eskom.

The second problem is that the government has repeatedly overestimated the likely turnaround. Time after time, it has been forced to acknowledge that growth is likely to come in lower than expected at budget time. The result is that gradually, these missed targets mount up. To put it in a nutshell, government revenue a decade ago was about R400bn and that increased over the decade to about R900bn. Yet spending has increased from R400bn to more than R1.1-trillion. The difference eventually catches up with you.

The third reason is that, partly in its desperate effort to make sure the effect of government spending was felt quickly, the government let the public sector wage bill slide out of control. There were 2.16-million public servants in 2008 and by 2014, that figure had risen to 2.69-million. The public sector’s share of total jobs increased from 14.5% to 17.5% over the same period. The public sector’s wage premium over the private sector is now about 20%.

The government is now in a corner and the brakes have to come on. The effort to stem the tide has had some effect but, ultimately, when you fail to create investment confidence, the result is economic pain. That is the lesson of the past decade.

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