Five Charts Showing Gordhan's South African Budget Predicament

  • Political infighting is stifling economic growth efforts
  • Budget gap seen at 3.2% of GDP in 2017-18, survey shows

South Africa FM Gordhan Proposes 45% Tax on Wealthy

South African Finance Minister Pravin Gordhan has to weigh the impact of higher taxes and reduced government spending on growth as he tries to keep the country’s investment-grade credit rating.

Political infighting has stifled efforts to boost confidence in the economy and increase growth and therefore tax revenue. Economic expansion probably decelerated to 0.4 percent last year, according to the central bank, the slowest rate since a 2009 recession. That’s hindered efforts to rein in the budget deficit and limit government debt.

“The only feasible, sustainable way of working ourselves out of this problem is to grow this economy,” said Ernie Lai King, head of taxation at Hogan Lovells U.S. LLP in Johannesburg.

In October, Gordhan said tax-policy measures will raise an extra 43 billion rand ($3.3 billion) and spending will be reduced by 26 billion rand in the next two years to narrow the budget shortfall.

Gordhan may raise personal-income taxes, following former Finance Minister Nhlanhla Nene’s 1 percentage-point increase in the marginal rate in fiscal 2016, according to Andrew Wellsted, head of tax at Norton Rose Fulbright South Africa Inc. Raising the 14 percent value-added tax rate is another option, but may prove difficult to implement after a government-commissioned tax-review committee said an increase would hurt growth and inflation.

A 1 percentage-point increase in VAT could raise a much as 15 billion rand annually in additional income, according to Muziwethu Mathema, an economist at KPMG LLP in Johannesburg. Increases in estate duty and a doubling of capital-gains tax could deliver as much as 5 billion rand in extra revenue and are probable given the tone that President Jacob Zuma adopted in his state-of-the-nation address on Feb. 16, said George Herman, head of South African portfolios at Citadel Investment Services Ltd.

Zuma repeated pledges by the African National Congress to use the state to reduce racial inequality and ease poverty. Together with some of his ministers he has called for more government spending on projects such as nuclear power plants.

In October, the National Treasury predicted the budget deficit in the year through March 2018 would narrow to 3.1 percent of gross domestic product. The gap is likely to be 3.2 percent in 2017-18, according to the median of 13 economists’ forecasts compiled by Bloomberg. The fiscal shortfall puts pressure to the government to borrow more, adding to debt levels.

Gross debt as a percentage of GDP exceeded 50 percent for the first time since 1999 in the second quarter of 2016, central bank data show. S&P Global Ratings sees this ratio reaching 54 percent of GDP in 2019, it said in December, when it kept the nation’s credit rating at one level above junk.

“He hasn’t been able to control the debt-to GDP-ratio and he would struggle to do that with growth as low as it is,” said Kevin Lings, chief economist at Stanlib Asset Management Ltd. in Johannesburg.

The International Monetary Fund forecasts GDP expansion at 0.8 percent in 2017. Gordhan predicted 1.3 percent in October. Low economic growth rates hurt the country’s fiscal performance and debt stock, according to rating companies.

South Africa must do more than keep its spending under control to prevent being downgraded to junk, Gardner Rusike, an analyst at S&P, said on Feb. 15. Better economic growth is one of the key factors, he said.