South Africa faces tough choices in the coming months and we will all have to make painful sacrifices, writes finance minister Tito Mboweni.
South Africa’s second-quarter contraction in GDP demonstrates the devastating economic impact of the Covid-19 pandemic and associated lockdown.
Behind the headline contraction of 16.4% (annualised to 51%) lie the real struggles experienced by households and businesses as our economy and society navigate the difficulties associated with this pandemic.
The large contraction in growth raises three questions. First, what can we learn by unpacking the GDP numbers? Second, what does this mean for South Africa’s finances? And third, what does government plan to do to turn the situation around?
Unpacking the numbers
Let’s start by unpacking the numbers. The largest declines were recorded by the manufacturing and trade sectors as a result of the way economic activity had to be curtailed in response to the threat of the virus. Agriculture was the only sector that grew as a result of favourable summer and winter crop production, as well as the limited impact of the lockdown on agricultural activities.
The economy experienced large declines in household consumption and significant reductions in capital outlays, as well as reduced external trade activity. The continued downward trend in investment means we have now had 13 out of 18 quarters of declining investment growth.
This erosion of our capital base is a big concern because it reduces our long-run potential growth and therefore the ability of the economy to recover.
Unsurprisingly, household spending on communications grew at the fastest rate in 12 months in the second quarter. The increased demand for remote-working services necessitated by Covid-19 restrictions point to an underlying shift in the way businesses operate, as well as fundamental changes in the nature of work.
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South Africa is one of many countries where the economic impact of Covid-19 has been severe. Among those countries that publish quarterly GDP data, some had larger contractions in growth than we did (including India, the UK, Spain and Mexico), while others had smaller ones (Turkey, Brazil and Indonesia).
The contraction in growth is larger than anticipated by National Treasury and the SA Reserve Bank, which raises the risk that the actual GDP outcome for this year could be lower than previously thought by both policymakers and the broader market.
At the same time, there remains significant uncertainty about the strength of recovery into the third quarter, as well as the impact of the shift to lockdown level 2.
Our public finances, which reached an unsustainable position before the pandemic, are now dangerously overstretched. The sharp reduction in economic activity in the second quarter has flowed through to lower tax revenue, especially in the main tax instruments of personal income tax and value-added tax, exacerbating the precarious fiscal position.
As mentioned by one of the ratings agencies this week, tax revenue is expected to fall by a greater proportion than the contraction in GDP. This is by design. Businesses only pay tax on profits and, as wages fall, effective tax rates on income reduce.
The structure of the tax system is inherently counter-cyclical. Yet revenue outcomes will be lower still, due to the emergency measures that were introduced to provide immediate tax relief and support to businesses and households during the crisis.
There is still a risk that the weaker GDP figures will translate into further revenue shortfalls, although the vast majority of the reduction is already reflected in the estimates published in the supplementary budget in June.
The expected shortfall of more than R300 billion (about 6.2% of GDP) means we will have to borrow even more to pay for government expenditure. Failure to contain our ballooning debt and debt-service costs, and narrow the budget deficit, will damage the country’s long-term economic prospects.
The South African government therefore remains committed to restoring fiscal sustainability, while managing the need to support the most vulnerable in our economy.
The Covid-19 fiscal relief measures are temporary and provide support where it is needed most. As we will articulate in greater detail in the upcoming medium-term budget policy statement, fiscal policy will focus on closing the gap between revenue and expenditure to slow the growth of our national debt. But the challenges we face cannot be addressed through fiscal policy alone.
South Africa’s weak growth over the past decade has contrasted with strong growth in other emerging markets. This highlights the dominance of structural, rather than cyclical, factors in our country’s relative underperformance.
The magnitude of the GDP contraction underscores the urgent need for a set of fiscal and economic reforms to raise confidence and boost economic growth.
These reforms need to support investment and employment, as well as raise productivity and competitiveness, while lowering the cost of doing business.
We know what we need to do to improve our growth potential and competitiveness. Priority areas include ensuring an adequate and reliable electricity supply, driving employment-oriented industrialisation, reviving the tourism industry, implementing mass public employment programmes and pursuing aggressive infrastructure investment to rejuvenate our construction sector, especially in network industries such as ports, rail and roads.
Government will continue to put in place an enabling regulatory environment that gives consumers and businesses the confidence to invest in our economy.
A practical example of how government enables investment and growth is the commitment we made to unlocking private investment in electricity generation.
By committing to expeditiously processing applications by commercial and industrial users for self-generation and fast-tracking bid window 5 of the Renewable Energy Independent Power Producer Programme, we enable private investment in support of our economic recovery.
Government alone cannot solve our energy or broader economic challenges. In this context, we are finalising an economic recovery plan and have been in discussions with our social partners at the National Economic Development and Labour Council on what needs to be done to place our economy on a new, accelerated and inclusive growth trajectory.
We have been talking about many of these reforms for years, and South Africans are tired of not seeing them come to fruition. This has led to doubts about government’s implementation credibility.
We share this frustration, which is why we announced the creation of Operation Vulindlela. This joint initiative between the presidency and National Treasury is aimed at accelerating prioritised structural reforms.
It is not another new plan. It involves implementing existing commitments through mechanisms to escalate challenges and fast-track implementation.
The main objective of Vulindlela is to ensure that key structural reforms that have been agreed to by Cabinet, such as those articulated in government’s Economic Transformation, Inclusive Growth and Competitiveness: Towards an Economic Strategy for SA document are implemented efficiently, effectively and expeditiously.
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Our recovery will be tough, but government remains committed to the implementation of reforms that strengthen the resilience of our economy by addressing the underlying structural elements that contribute to low growth.
We will face tough choices in the coming months. We will have to make painful sacrifices and must be resolute in implementing desperately needed reforms.
As our country emerges from the devastating storm, we must be bold in confronting what has impeded economic growth and the progress of our nation.
Only then will a new destiny be possible.