Government debt could reach 80% of GDP within the next two years

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This interview was originally aired on RSG Geldsake and has been translated into English in this transcript.

TINUS DE JAGER: Economists say government debt could reach 80% of gross domestic product [GDP] within the next two years and 90% by the end of this decade. Meanwhile, it would seem that tax collection targets will not be achieved, and even less will the R56 billion cutback mentioned in the medium-term budget speech be attained. Minister of Finance Enoch Godongwana will deliver his budget speech on Wednesday next week.

This afternoon I chatted with Johann Els, group chief economist at Old Mutual. Good afternoon, Johann, and welcome to the programme. What are the risks attached to government owing more money in relation to the GDP?

JOHANN ELS: It’s of course servicing that debt that brings the problem – in other words, the interest payments on the debt. The higher the debt, the higher the interest payments. Currently, we are sitting with tremendously high government debt, considerably more than some 12 years ago, and that means the interest payments on the debt have soared dramatically.

If we look at our current position, out of every rand that comes into the fiscus in terms of tax, we are paying more than 19c in interest on the debt alone.

That’s of course a major problem because the more we pay in interest, the less we have for other possible expenditure. It therefore becomes an ever-increasing problem. If we don’t control the balancing of the budget, we simply add to the debt every year.

TINUS DE JAGER: But government has a reason for borrowing money. It needs the money to meet its obligations. Is the money not being managed well?

JOHANN ELS: No, I think the big problem here is economic growth. In other words, tax revenue is under pressure because of the weak economic growth we have had for the past 15 years, and which we still have.

[Treasury] does pretty well on the management side. Of course, there is huge pressure on expenditure. We know of the money Eskom needs in the [next] few years. There was a time when universities were paid during the Fees Must Fall period. So there is terrific pressure on state expenditure, though Treasury has managed it fairly well despite all the expenditure crises. 

For a few years, we have seen how Treasury has attempted to reduce expenditure, and has indeed done so, remaining within the expenditure ceilings.

But as the pressures increased, the economy weakened, and the greater the pressure was for social spending.

The big problem, as I said, is that if economic growth is very weak, tax revenue increases very slowly. That’s our single most serious problem – the lack of higher sustainable economic growth.

TINUS DE JAGER: We cannot compare ourselves to the giant US economy, but for instance, their debt-to-GDP ratio was at 97%. They predict that in 10 years’ time, in 2034, that will be at 116%. How would one put South Africa’s figures in perspective compared with this? Is it about the US’s ability to repay it? I see even the Americans themselves are worried that their government will be unable to pay that interest.

JOHANN ELS: Yes, from time to time, we hear that concern. Even the credit rating agencies are worried about the US problem. How that relates to South Africa is of course slow economic growth, where during the five years preceding the Covid crisis, our economic growth averaged a mere 1% a year. That was far weaker than US economic growth.

In other words, it’s easier for the Americans to service their government debt because higher economic growth brings higher tax revenue.

And in South Africa’s case, we are of course a small developing economy. Our creditworthiness is not as good as that of the US.

Even in October 2020, when our government debt had the prospect of touching 95% of GDP – though it’s currently considerably less, and that’s contemplating a good perspective, but even then, on the face of it, was not as bad as when our economic growth was around 3%, or even when it was still higher than 2%.

The problem is, if you have 1% per year, a 95% government debt ratio is a dramatic problem, because then the credit rating agencies and of course foreign investors will think we won’t be able to service that.

Then our long-term interest rates will rise, making it even more difficult to service that debt.  

TINUS DE JAGER: So is the solution – which you have already referred to – to get more money from the taxpayer? Can more money be extracted from taxpayers?

JOHANN ELS: Not in the sense of higher tax rates, no. In the current economy, where the consumer is situated, we don’t have room to increase income tax rates or Vat; there’s not even room to increase company tax. There is no way to increase interest rates in South Africa.

With higher economic growth, of course, one gets more people employed, more people start spending, company earnings improve, and it’s easier to make bigger profits.

And by having more people employed, more people paying tax, Vat revenue improves because the economy is improving, and company earnings increase, so companies pay more tax. 

In other words, it is not by increasing tax rates that economic output rises – but through growth, which leads to better tax revenue on a more sustainable basis.

One of the best ways to get the budget under control is to stabilise and even bring down the debt ratio over time.

Read: Tax hikes pointless in weak economy, SA lender says

We had that situation under this government in the years 2004/5/6/7, when economic growth was north of 5% a year, when consumer expenditure was north of 7% a year. Tax revenue was robust, and we managed to even have a budget surplus for a year or two – and there was a dramatic cooling of government debt. 

That’s the type of example. We did it, we can do it, and although we can’t get 4% or 5% growth, can’t we just raise it a little to around 2% or 2.5%? That would start to help.

TINUS DE JAGER: Johan, how can we do that?

JOHANN ELS: It’s a process. It won’t be overnight, but with greater private-sector interest in the economy, in energy, in logistics, and in time hopefully in other areas – areas where you and I may be thinking government is failing, where state-owned enterprises are failing – and I’m speaking of Eskom and Transnet – there is a bigger role for the private sector.

So the private sector is unlikely to see state-owned enterprise privatisation because these SOEs are failed enterprises. But the private sector can easily, with profit prospects, become involved in energy, [and] in the logistics sector. And that’s a big opportunity for the private sector. 

In other words, it’s a slow progression, not overnight, and economic growth is very weak.

But that freer type of market economy will possibly help us see slightly higher economic growth over the medium to long term.

It’s a slow process, it won’t happen overnight, but it will happen over time – and we are hopefully on the way there.

If we look at the type of work that Operation Vulindlela is doing in terms of implementing policy changes and ensuring that they are applied, we are at least busy taking a few steps forward instead of always treading backwards.

I think that’s the perspective we need to adopt; we know there are a lot of negatives that will prevent us from reaching growth of 5%, but there are things happening that can help us get to 2% or 2.5% growth. 

TINUS DE JAGER: Many thanks, Johann. That was Johann Els, chief economist at Old Mutual.