OPEN LETTER | Reserve Bank's Deputy Governor rejects criticism of emergency budget

Deputy Governor of the South African Reserve Bank, Kuben Naidoo. (Photo by Gallo Images / Phill Magakoe)
Deputy Governor of the South African Reserve Bank, Kuben Naidoo. (Photo by Gallo Images / Phill Magakoe)
Phill Magakoe

A group of economists has written an open letter to the president and to members of Parliament asking them to reject the supplementary budget tabled on 24 June 2020 by the Minister of Finance. In response, this open letter asks the President and members of Parliament to support the budget, because failure to do so will make our fight against COVID-19 harder, prolong the recession and delay South Africa’s economic recovery. 

We all agree that government should respond to the economic impact of COVID-19 and the ensuing lockdowns through a countercyclical fiscal and monetary response. We all agree that we should spare no effort in allocating resources to support our health sector, households and firms during this extraordinary recession. If firms and households do not get sufficient support, the fight against the virus will falter, more firms will fail and jobs will be lost. A higher level of firm closures and job losses will further delay the country’s economic recovery. 

The budget recognises these points of agreement and sets out a detailed plan for where the money will come from and how it will be allocated. In fact, it goes further than this – it has to by law. It sets out a programme to reduce borrowings over time, in a manner that is not only economically sensible but required by our budget law and our Constitution. 

It is true that we should spend more under the present circumstances, but unless we set out a clear and realistic path for reducing the deficit going forward, South Africa’s access to capital markets will become more limited and more costly.

Unless we demonstrate that we can repay our debts, at some point in the future we will be unable to raise the amounts we need to tackle the devastating economic consequences of Covid-19.

Worse than 2009

The economists’ open letter argues for two main changes in the budget. The first is a call for even more spending (and more borrowing) and the second is for the outer years of the budget to be changed because the proposed path of deficit reduction is too steep. 

When South Africa entered the global financial crisis of 2008/09, we had a budget surplus of about 1 per cent of GDP and a debt-to-GDP ratio of about 22 per cent. As a country, we were then spending just 2.2 per cent of GDP on debt-service costs.

Because of this healthy position, we were able to spend massively on public services and infrastructure to limit the impact of the crisis and ensure a quick rebound. In 2009, the budget deficit went up to 7 per cent of GDP and it stayed high for some time. By 2010, South Africa had recovered most of the lost growth and lost jobs. 

We have gone into the COVID-19 crisis in far worse shape. Our deficit pre-COVID-19 was about 6.3 per cent of GDP, our debt-to-GDP ratio was about 65 per cent and we were spending almost 5 per cent of GDP on debt-service costs (more than we spend on health and social welfare). Notwithstanding these facts, government has still managed to assemble an impressive response to the virus. 

The response, and the impact of the virus and lockdowns on the economy, will see the deficit rise to just shy of 15 per cent of GDP in 2020/21. The debt-to-GDP ratio will exceed 80 per cent and we will shortly be spending over 6 per cent of GDP on debt-service costs. This means a larger portion of our tax revenue will be used to repay debt, limiting spending on social and household services. 

Would we like to spend more? Of course, yes. Would we like to have the luxury of more time in which to reduce the deficit? Of course, yes. But because we have mismanaged our finances over the past decade, we do not have such luxuries.

When there were calls over the past decade to restore our fiscal health and reduce the deficit, some of the same economists who now write in criticism of the budget rejected any proposal to reduce the deficit. We are now paying the price of that folly.

I challenge the economists who call for more spending to name the countries that will have a budget deficit of over 15 per cent of GDP. The US may come close, but no other major economy, advanced or emerging, will increase its debt as fast as we will over the next two to three years. And yes, if we were in a sounder position, we would have had the room to spend even more. 

At some point, debt must be repaid

South Africa’s budget deficit this year will exceed R700 billion. The total amount of money saved by every person and firm in the country is about R850 billion. Government will be consuming almost the entire savings pool. That’s fine, in a deep recession, when private investment collapses. But it is not sustainable. If we want to grow the economy and restore the jobs that are being lost, we have to free up the resources for private investment to return. 

Yes, we can get the finances from abroad. This would be good in the short term, but in the longer term, we will have to pay back the loans with interest, in a foreign currency. That will have two effects. Firstly, it will result in a continuous and steady flow of funds out of the country, and secondly, it will increase the sensitivity of our currency and our economy to global shocks in the future. We risk becoming like Argentina, unable to pay our debt, giving up our sovereignty to outside creditors and limiting the developmental role of the state going forward. 

South Africa is very close to an unsustainable debt spiral. Yes, we must spend more today, but as part of our social compact, we have to agree that we need to reduce our borrowings in the two- to three-year period ahead. Failure to do that would surely result in a debt default. A debt default will have devastating consequences for all South Africans, but especially the poor. A default will see the stock of savings plummet, the currency collapse and prices rise precipitously. Argentina has defaulted nine times in the past century. There are hundreds of cases of default for us to learn from. We don’t have to make the mistake ourselves to learn this painful lesson. 

Budgeting for and running a country would be much easier if there was no limit to how much we can borrow. If borrowing was limitless, we would surely have solved our poverty and inequality problems by now. Yes, we can postpone the costs. Yes, we can shift the costs around the government balance sheet. Yes, the South African Reserve Bank can cushion the impact for a while. We can even cajole our pension funds to help fund the deficit. But as sure as the sun will rise tomorrow, at some point we will have to repay the debt, and hence it is in our collective interest to bring down the deficit, gradually and in an orderly manner during our recovery. That is precisely what the budget sets out to do. 

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