Budget Preview: Will Government remain committed to the expenditure ceiling, given that it’s an election year?
By Simonis Storm Securities
The Finance Minister, Calle Schlettwein, is expected to deliver his Budget Speech for the financial year 2019/20 to Parliament on Wednesday.
This will be a hard-hitting budget as it will seek to continue with the implementation of the fiscal consolidation framework amidst the upcoming election and deterioration of the economic condition. Revenue remains under threat; thus, we expect clarity on the proposed tax amendments and the tax administration reform.
Revenue to undershoot
SACU has always been a crucial contributor to our revenue (33%), however due to the current economic slowdown in the SACU countries, potential declines in SACU receipts will hurt our revenue in the coming years. We have been advising and continue to advise that the search for other revenue avenues is vital as this will diversify the weighting away from SACU revenue.
We expect revenue to undershoot by 4.2%, 8.2% and 12.6% to N$54.3bn, N$52.9bn and N$53.6bn in 2018/19, 2019/20 and 2020/21, respectively. Our lower projections are underpinned by expected sluggish VAT collection as spending subsides, and declining income taxes on individuals and companies.
If the economic downturn prolongs, we continue to project lower revenue in the coming years. This is on the back of increasing job losses (lower income and VAT revenue), closure of companies (lower corporate tax) and continuous reliance on volatile SACU receipts.
Prudent expenditure re-allocation required
During the midterm budget, the budget allocation to capital expenditure was cut by N$1.8bn, which was channelled to operational expenditure. The focus on developmental projects remains blurred as the operating environment continues to be unattractive and uncompetitive for local and foreign investors. Government investment in developmental projects continues to be undermined. We remain of the view that the expenditure should be channelled to growth creating and return generating capital projects.
Our expectation is for government to continue on its consolidation path and we don’t expect expenditures to edge higher than the MoF’s forecast. However, it being an election year, we will not be surprised if the expenditure ceiling is breached again. With the current spreading of epidemic diseases (such as Hepatitis E), we expect a slight budget increase in the following sectors: health, water infrastructure and sanitation.
Widening deficit path
We expect the budget deficit to widen further to N$10.7 billion in 2018/2019 financial period, which is equivalent to a -5.9% deficit to GDP. We do not foresee significant improvement in the revenue space over the next two years, meanwhile our expenditure remains elevated and unsustainable. Thus, we expect the budget deficit to widen further to N$12.7 billion in 2019/2020 or -6.6% of GDP.
Based on our calculations, the actual budget deficit excluding statutory payments is approximately N$2 billion, however the debt servicing cost makes up 75.9% of the overall deficit (including statutory cost). This will remain high till the redemption of the Eurobond in 2021. Loan guarantees, which are mainly offered to SOE’s, are expected to increase by 15.6% to N$14.8 billion in 2018/2019 financial period. This is further expected to rise to N$17.4 billion in 2020/2021.
In South Africa the Finance Minister has highlighted that stringent measures will be put in place for SOE guarantees. We should also take measures against nonperforming and inefficient SOE’s. The recent chaos around unpaid salaries by some SOE’s could result in higher demand for SOE guarantees.
Debt metrics deteriorating
Debt continues to escalate beyond the pace of economic growth. After a lack of demand for maturities in 2017 and the beginning of 2018, the local asset requirement regulation was changed to reach 45% at the end of March 2019 to increase liquidity in the market. Demand for bonds has increased significantly, with bid to cover ratios increasing to record levels of 5.4 times, currently, from below 1 time on average in 2017 and beginning 2018.
The sad reality is that the FYE2018/19 debt raised domestically is only sufficient to cover the debt servicing cost (N$6.6 billion) leaving only approximately N$1 billion being channelled to the actual deficit. If this persists then we should not expect an increase in debt to have a significant influence on economic growth.
Fuel levies and sin tax
It seems the easy way to increasing tax collection without any major push back from society is by increasing fuel levies and sin taxes. We expect an increase in these two items in the pending budget. Increases in fuel levies will put further strain on already stressed drivers and upward inflationary pressure in transport inflation.
Tax Amendments likely to be implemented at current budget
-Introduction of a 10% withholding tax on dividends paid to residents.
-Re-adjustment of the current tax brackets for Individual Income Tax, reduce the lower bracket tax rate from 18% to 17% and introduce new tax rates of 39% and 40% for individuals earning over N$1.5mn and N$2.5mn respectively.
-Introduction of tax on income derived from commercial activities by charitable, religious, educational and other related types of institutions.
-Phasing out the preferential tax treatment that is only granted to some existing manufacturers.
-W&T deduction changed to 5 years from 3 years. Assessed losses to be capped at 5 years. Thin capitalisation ratio to 3:1.