2015 Medium Term Budget Policy Statement (MTBPS): Financial and Fiscal Commission (FFC) briefing

Meeting report

The Chairperson welcomed everyone to the meeting. He stated that the agenda of the meeting was for the presentation by the Financial and Fiscal Commission (FFC) on the 2015 Medium Term Budget Policy Statement (MTBPS). He directed the FCF to make its presentation.

Briefing by Financial and Fiscal Commission

Mr Bongani Khumalo, Chairperson, FFC, commenced the presentation by giving a background of the MTBPS. He stated that the MTBPS was formulated against the backdrop of an economy that was vulnerable to negative domestic and external factors. Low, fragile growth was making it difficult to tackle the triple challenges of high social ills (unemployment, poverty and inequality), fiscal and external imbalances. Rising levels of impatience with deteriorating social conditions had made this one of the toughest MTBPS to craft. Student protests at universities also culminated in a moratorium on fee increases in the next year that was unbudgeted for at the time of tabling the MTBPS. The public sector three-year wage agreement was way higher than what was allocated in the February 2015 Budget and would largely be absorbed by the cumulative contingency reserve, leaving little over to cater for unforeseen emergencies. Spending levels were highly constrained and exacerbated by economic shocks to gross fixed capital formation, households, continuing unemployment and increasing levels of poverty and inequities. It was against this background that the submission on the 2015 MTBPS was made by the FFC in terms of: section 4 (4c) of the Money Bills Amendment Procedure and Related Matters Act (MBAPRMA) (2009), which required Committees of  Parliament to consider FFC’s recommendations when dealing with money bills and related matters; Part 1 (3) (1) of the FFC Act (2003) as amended, which provided for the FFC to act as a consultative body and make recommendations to organs of state in all spheres on financial and fiscal matters.

Concerning the economic outlook in respect of the MTBPS, the 2015 Budget emphasised fiscal consolidation in response to weaker than expected economic outlook. October 2015 MTBPS would occur against the background of further downward revisions to economic prospects of South Africa’s economy.

Dr Hammed Amusa, Program Manager: Macroeconomics and Public Finance Unit of FFC, dealt with the main issues in respect of the economic outlook. He stated that based on the International Monetary Fund’s October 2015  projections, South Africa’s GDP growth would be 0.6 and 0.8% lower than originally forecasted in February 2015 Budget. This was due to dampened growth projections driven by internal and external dynamics. The internal dynamics revolved around the structural dynamics of South Africa’s economy, labour market productivity and relations, and continued concern around South Africa’s capacity to address pressing key infrastructure challenges. The external dynamics revolved around volatile global economic conditions in which modest growth in advanced economies of Europe, North America and Japan had been tempered by economic distress in a number of emerging market and developing economies. The result was that in 2015 and 2016, respectively, the global economy was expected to grow at 0.2% point below initial 2015 forecasts. 

Concerning recent external developments impacting on SA’s growth prospects, the depreciation of the Rand had coincided with declining growth in net gold exports widening current account deficit. Slow growth in economies of major trading partners and significant drop in commodity prices limited the positive effect of depreciation.

Concerning internal developments impacting on SA’s growth prospects, two major effects appeared to arise from these developments. The first was that severe pressure was being faced by the mining industry. This was as a result of the significant drop in China’s imports (14.6%) affecting South Africa for which over 80% of exports to China were commodities based and currency depreciation offset by declining prices (platinum, gold, iron ore and coal) and slide in output.The second was that infrastructure bottlenecks remained. In respect of this, there was a need to solve electricity supply constraints which was still a top priority; more coordinated policies to enhance SMMEs and address skills mismatch within labor market was essential; it was important to enhance efficiency of infrastructure spent across the three spheres of government. 

The risks to the fiscal outlook were in the form of further deterioration in economic growth, inflationary pressures, and weak financial positions of several major public entities. The measures to manage these risks were: alleviating short-term power constraints; limiting delays to additional generation capacity coming online; working with state-owned entities to develop and implement realistic turnaround plans. It was to be noted that a manifestation of any one of the risks to the fiscal outlook could result in fiscal slippage given the precarious fiscal position.

There were also other specific key areas of risk to the fiscal framework. The first was that persistent weakness in the balance sheets of certain state owned companies (SOCs) could trigger calls for additional government support. The second was that intentions to reform health-care and social protection posed significant areas of impact on the national and provincial fiscal frameworks. The third was that the use of contingency reserve to accommodate higher public wages posed significant risk to the target of ensuring that the national budget over the MTEF period would adjust to modest potential economic growth and lower revenue collection, therefore, there was a need to ensure that wage increases were linked to increased productivity and performance across the public sector.

In respect of the current economic outlook and South Africa’s labour dynamics, the end of the stimulus/countercyclical policy in 2013 had caused a reversal in South Africa’s unemployment trajectory. Slow economic growth limited Government’s strategy to address significant labour surplus, especially for low-skilled segment of the working population. Raising job creation potential and addressing skills mismatch was important, but appropriate balance was needed between workers right and economic efficiency. There was the need for greater flexibility and decentralization, especially with respect to regulations governing small enterprises and collective bargaining arrangements in the public and private sectors.

As regards the areas of risk to fiscal frameworks that posed a challenge to the wage bill, there was absolute growth in public sector wage bill despite relative declines in headcount at national and provincial levels. Current above-inflation increases had wiped out contingency reserve of R65 billion; while growth in public (and private) sector remuneration had outstripped total labour productivity. To ensure sustainability of wage bill and guarantee fiscal stability need for fundamental reforms that linked public sector remuneration with performance and productivity – work of the PRRC would be welcome in this regard.

Mr Ghalieb Dawood, Programme Manager:  Budget Analysis Unit, FFC, dealt with the consolidated fiscal framework. He stated that the depressed macroeconomic outlook with projected weaker revenue and higher debt services costs imposed constraints on the broader fiscal framework. In total, Government was expected to spend R4.291 trillion over the three years relative to a revenue envelope of R3.762 trillion. Over the 2015 MTEF period, real annual average growth in expenditure was projected at 2.6%. A marginally stronger 3.0% growth was projected for revenue. The bulk of resources were allocated in respect of non-interest allocations in the form of equitable share and conditional grant funding to the provincial and local spheres.

Concerning unallocated resources,as was consistent with the historical trend, there were significant drawdowns to unallocated reserves, with cuts in 2016/17 and 2017/18 from R15 billion and R45 billion to R9 billion and R15 billion respectively in order to accommodate higher than expected wage-bargaining settlement and social priorities. The FFC was concerned that by depleting the unallocated reserves to settle weaknesses in the wage bargaining arrangements process, it removed the fiscal buffer that was necessary to protect public finances in an economic environment facing prospects of a ravaging drought as well as an uncertain global economy and rising social demands of entitlement.

In respect of expenditure by economic classification, the compensation budget outpaced inflation by 3% on average over the MTEF period. Growth in compensation was higher than forecasted at the time of Budget 2015 largely as a result of the three year wage bargaining agreement. In its efforts to strengthen the link between pay and performance, government ought to note a recommendation in the FFC’s submission on the 2016/17 DoR which called for a framework for measuring productivity as a first step to benchmark improvements in the public sector overtime.

Concerning expenditure prioritisation, overall consolidated government expenditure was expected to increase by 2.1% in real terms of 2016 MTEF. Education and health allocation had been prioritised with a 2.6 and 2.7 % real increase respectively. Social protection allocations was growing at an average real rate of 1.9%. The 2016 budget ought to prioritise activities that would stimulate growth – infrastructure and industrial development.

As regards prioritising expenditure in respect of housing development and municipal infrastructure, it was important that funding and provision of human settlements had to be implemented in a coordinated manner. Also, aligned and coordinated infrastructure investment plans had to remain a key government priority. While the FFC supported a differentiated approach, there were concerns with uncertainties associated with the housing function shift to six metros and performance of Municipal Human Settlements Capacity (MHSCG). MHSCG was stopped in July 2014 and released in March 2015 hence the spending of 8.5% of the allocated funds. The FFC was of the view that this undermined the credibility of the DOR processes. The allocation for human settlements and municipal infrastructure will grow at an annual average rate of 7.6% between 2015/16 and 2018/19. While the FFC Commission welcomed this growth as it indicated government’s commitment to investment in basic infrastructure, it maintained its previous position that the current approach to funding and housing delivery was fiscally unsustainable and needed to be reviewed with the view of promoting active citizenry and self-build housing initiatives.

As regards prioritising expenditure in respect of health, the FFC noted with concern the proposed changes to the indirect component of the National Health Grant in funding of Human Papillomavirus (HPV). Instead of being phased into the PES the grant would be extended for the next two financial years as an indirect grant and thereafter be converted into a direct grant - these changes indicated improper planning regarding the introduction of the grant. The Commission in the DOR Bill 2014 recommended the need for proper financial planning and infrastructure towards the roll out of the HPV. Concerning the comprehensive HIV/AIDS grant, the Commission noted the expansion of the grant to cover tuberculosis (TB) - the FFCwould support this as long as new priorities did not displace the original intentions of the grant.

As regards prioritising expenditure in respect of basic education, regarding basic education related infrastructure grants - the Commission welcomed the merging of grants with same purpose for efficiency and effectiveness. However, the FFC re-iterated a previous recommendation that merging of grants due to non-performance was not a panacea as the causes for non-performance had to be investigated and addressed. The FFC also noted and welcomed the review of the National School Nutrition Programme (NSNP) given the misalignment between the provincial and national school quintile classification. However, the FFC emphasised that the programme had to meet the minimum requirements in providing meals to all learners in national quintiles (1-3) as per the National Norms and Standards for School Funding.

As regards prioritising expenditure in respect of higher education and training and recent developments, it was to be noted that spending prioritisation framework proposed in MTBPS 2015 posed a challenge in terms of addressing government’s resolution to implement a 0% fee increase in 2016. There were short term and long termimplications with respect to the 0% fee increase for 2016 and longer term considerations around the broader issue of free tertiary education.

In respect of the short termimplications, the issue revolved around finding the resources to respond to the R2.5 – R4 billion shortfall that the zero fee increase would result in. There were two options. The first was that universities had to reduce their expenditure – this may compromise the standard/quality of education (in the form of fewer purchases of academic materials from abroad, less maintenance work at institutions and/or less funding for research) and therefore not a desirable option.The second option was for the State to intervene with financing; this could be done in a number of ways. One way was reprioritisation within the DHET itself and thereafter, more broadly across government. Another way utilising the unallocated (contingency) reserves, however, it was to be noted that due to higher than anticipated public sector wage increases, the unallocated reserves had been significantly reduced to the extent that only R2.5 billion had been set aside for 2016/17. Some of the R4 billion shortfall could be financed utilising these reserves, but the risk was that should any natural/other disasters strike during 2016, there would be no cushion available to Government. Still another way was the sale of state assets –same approach was used to fund the R23 billion equity injection to Eskom. An attractive feature of this approach was that it demonstrated commitment to fiscal consolidation as steps to avoid increasing the budget deficit are being taken

In respect of the long term implications, the issue revolved around the provision of free education at tertiary institutions which would require a significant amount of additional funding. The options around financing such an approach revolved aroundreforms such as: (a) significantly reprioritising state funding, (b) committed implementation of plans to sell nonstrategic assets, (c) increasing the tax burden or (d) borrowing. To estimate the implications of each of the reforms required substantive research. In the absence of such research, the FFC’s past submission was instructive. The FFC had conducted a budget review of South Africa’s public universities in 2012 which had already alluded to the challenges currently being faced. The research had identified that the funding framework underpinning universities was in dire need of differentiation. On the basis of this previous research and ongoing interactions, the FFC viewed the following considerations as being vital to a new long term funding and finance system:additional pressures presented by limited state funding went further than just universities - the DHET was confronted by pressing contending priority areas, for example, the need to adequately fund colleges (TVET and CET) which have also been historically underfunded; the FFC supported the task team that had been set up to review the funding model underpinning the existing high university fees - the task team should consider the broader system within which universities operated and avoid a situation where shifting of high fees in one part of the system would lead to pressures in another part. Furthermore it was advised that a clear system of differentiation in the determination of free education be devised, but more importantly if the shift to free tertiary education was to be sustained, it was critical for government to clarify its policy stance around access to education and, more precisely the definition of free education should be determined.

As regards prioritising expenditure in respect of job creation, labour and social security funds, the 2015 Budget had prioritised public employment programmes (PEPs). This meant that over the 2016 MTEF, growth in allocations to employment programmes had slowed down to -0.1% and low growth was likely to increase pressure on social services. Furthermore, PEPs were not to be seen as strategy to increase available jobs but to improve labour market outcomes.

Dr Mkhululi Ncube, Programme Manager:  Local Government Unit, FFC, dealt with the total allocations to the local government sphere. He stated that the MTBPS was allocating more funds to local government (LG) than the February 2015 Budget. The allocations to the LG sphere continued to grow at a faster rate than those for national and provincial spheres. The sphere would receive R101.2 billion in 2015/16, and this was expected to increase to R128.4 billion by 2018/19. On average and in real terms, total allocations to the sphere was expected to grow by 3.5% between 2016/17 and 2018/19. During the same period, conditional grant allocations would exhibit faster real growth (5.5%) than the Local Equitable Share (LES) allocation (at 2.9%).

Concerning local government equitable share, the FFC welcomed the additional resources channelled to the LG sector through the LES formula. These allocations had increased from R41.6 billion in 2014/2015 to R51.7 billion in 2015/16 and were expected to grow from R52.9 billion in 2016/17 to R62.7 billion in 2018/19. The worrying development was that the LES in outer years would grow far less than the growth in the cost of basic services: bulk electricity and bulk water.

On the issue of conditional grants, conditional grant allocations to municipalities had increased from R36.0 billion in 2014/15 to R38.9 billion in 2015/16 and were forecasted to increase to R53.2 billion in 2018/19. In line with the FFC’s previous observations that indirect grants were proliferating and that performance was weak, it was important to note changes to baselines of indirect grants to LG in the 2015 MTPBS. As noted previously by the FFC, indirect grants should be used as a mechanism of last resort. The FFC welcomed the shift towards direct grants.

In relation to infrastructure grant reviews, subsequent to FFC’s 2011 review of the local government fiscal framework (LGFF), a comprehensive review of infrastructure grants was underway with a view to enhancing “value for money” of such grants. The FFC therefore welcomed the reforms to the infrastructure grants in the MTBPS including among others: the merger of a multiple of water and sanitation grants; introduction of a formula-driven Public Transport Network Grant; introducing greater differentiation for secondary cities and creating a MIG-Cities (MIG 2); merging urban grants (USDG, NDPG, INEP) over the MTEF; and amendments to the MIG to allow its funds to be used for the maintenance and refurbishment of municipal roads. These reforms would among other things, enhance the administrative efficiency and reporting; see municipalities pay more attention to asset care and maintenance; introduce predictability and transparency by a formula driven Public Transport Network grant.

In reviewing actual spending, expenditure smoothing implied government spending that was evenly distributed across the four quarters of the financial year. If such smoothing were to occur, it would be expected that total expenditure up to September would be at 50% of the main budget. This would of course differ depending on whether a government program that the department was dealing with was recurrent or capital-expenditure driven. Expenditure smoothing would most likely lead to improved quality of spending and reduced level of unauthorised spending. Highlights based on analysis of aggregate spending and percentage spent six months into the 2015/16 financial year indicated thatspending performance had improved compared to 2014/15, with total government spending, spending by all votes and transfers to the PES in line with the assumed norm of 50%. Notwithstanding overall positive performance, an assessment of individual departmental performance showed somewhat uneven spending patterns. On the one hand certain departments far exceeded the norm (Higher Education and Training spent 70% of its budget) whereas others such as the Public Works, Rural Development and Land Reform and Water and Sanitation departments had recorded spending rates of below 40%. Excessive deviations below or above the norm was undesirable from an expenditure smoothing perspective. Unless a department’s annual performance or strategic plan explicitly identified under or over spending as a chosen spending profile, departments were to attempt to remain within the confines of spending performance guidelines.

Concerning adjustment estimates, declared unspent funds amounted to R3.18 billion the bulk of which related to underspending by national departments. The adjustments budget made provision amounting to R1.6 billion for roll-overs. Unlike previous years, the roll-over amount had increased while the number of departments receiving roll-overs had declined in the 2015/16 adjustments budget. The Department of Cooperative Governance dominated the roll-overs, with R1.5 billion approved in the adjustments budget. The roll-over funds was for the local government equitable share for municipalities to pay ESKOM and the Water Board accounts.

Prof Nico Steytler, Commissioner, FFC, gave the conclusion. He stated that the 2015 MTBPS had been crafted in very difficult circumstances characterised by downward economic growth forecasts and rising impatience with social outcomes. Bearing this in mind, government had done a good job that promised a deficit reduction programme for 2015/16 and slight increase in the two outer years and thereby prevent public debt from spiralling out of control. The FFC was of the view that MTBPS 2015 was noteworthy in one major respect in that it took account of long-term issues in budget formulation in the form of guidelines that are a hybrid of (a) an expenditure rule, (b) a structural budget balance rule (where outer year was targeted for operational traction) and (c) a revenue rule. South Africa should continue to focus its strategy for reigniting growth (improving education expenditure outcomes, increasing skills bases, maintaining strong growth on social safety net spending and increasing productivity of public infrastructure). Plans to intensify efforts to carry out expenditure reviews aimed at increasing efficiency of spending and combating waste should be supported. In particular, in-house reviews should be complemented by independent expenditure reviews.

The moratorium on university fee increases and the prospects of other far reaching reforms necessitated government finding additional funding to fill gaps that were not addressed at the tabling of the 2015 MTBPS. The FFC’s concern was with the size, direction and impact of funding higher education and the post-school system as a whole. In order to build a higher education system that would endure over the long term, the past investment in the Higher Education and Training sector should be consolidated and further increased but it had to be affordable within the current public financial pressures. Serious concern should be expressed with regard to reduced national efforts to facilitate economic growth through infrastructure-led growth. To this end growth in the percentage of gross fixed capital formation was lower than the last period. In the medium-term, managerial interventions (controls on automatic pay progression and performance bonuses, reduction in the rate of hiring in noncritical areas) could assist government in its commitment to ensuring that the upward trend in the wage bill did not adversely impact its budget deficit targets.

Discussion

Mr A Shaik Emam (NFP), observed that the FFC had always made recommendations in respect of the challenges posed to the economy and education, he asked if these recommendations had been accepted or implemented by the government. He stated that this question was important as it would reflect whether the government had been taking the recommendations and solutions given by the FFC seriously.

He made reference to the fact that one of the options proposed by the FFC in respect of providing funds for higher education the country was the selling of state assets. He was not comfortable with this option because it was only a temporary measure. The selling of those assets would mean that whatever income or revenue was coming from the assets would become extinguished.

He observed that a lot of demands were being made upon the government to provide almost all infrastructures in the country, and asked how the private sector could be brought on board in assisting with the provision of such public infrastructures.

He acknowledged the fact that the FFC had stated that the provision of housing and human settlements should be done in a coordinated manner; however, he opined that there was no reason why the government had to keep on indulging in providing free housing for the populace. The issue of free housing had made people lazy in working hard to pay for their own houses, Furthermore, free housing had also created the sharp practices in which people who did not really need the houses had been able to secure such houses from the government and had sold them out for ridiculous prices.

Mr M Figg (DA) stated that the facts and data presented by the FFC showed that the financial situation in the country was in dire straits. There was a need to jettison the mentality or approach that the country could continue under such state of affairs without making some important decisions.

He observed that China’s importation and demand for South African goods had appreciably decreased, and asked if the importation of Chinese goods by South Africa had also decreased. The fact there was a bilateral trade agreement between South Africa and China demanded that South Africa should accordingly reduce its purchase of Chinese goods if the South African goods were not being purchased by the Chinese.

He asked that to what extent should private-public partnerships be considered in the provisions of infrastructure. This approach might be the most ideal way of dealing with the provision of infrastructure instead of resorting to the sale of State assets.

He further noted that the FFC had expressed concern that the unallocated reserves had depleted. This was a serious issue because the government could have used the reserves to address the current educational crisis in the country which required substantial financial commitment. He asked for the FFC’s recommendations in respect of the depleting reserves.

He made reference to the recommendations proposed by the FFC concerning how the funding for higher education in the country could be secured and observed that some of the recommendations were alarming. One of such recommendation was the need to increase taxes to be payed by the already burdened taxpayers. This option appeared to be unpalatable and harsh. He asked if the FFC had a better alternative to such approach. 

Dr C Madlopha (ANC) referred to the issue of higher education and stated that there was a need for joint cooperation between the government and private sector in tackling the issue of financing the educational sector. She asked how this could be worked out.

Mr Khumalo replied to the question in relation to whether the recommendations made by the FFC to the government were being implemented or taken seriously. It appeared that only the recommendations that dealt with the division of revenue had been responded to while those recommendations dealing with other issues such as education appeared not to have been responded to. Parliament had the responsibility of ensuring that the Executive responded to the recommendations proposed by the FFC.

He addressed the question concerning whether increasing taxes was a viable option to raise money to deal with the issue of needed financial support for higher education. He stated that this was the plausible way that government could raise money to deal with the problem. While the government could resort to borrowing money in order to deal with the issue, such an approach had significant shortcomings as the government would have to deal with the financial pressure that accompanied such financial debt. It was therefore preferable for the money to be sourced from within the polity.

He further replied to the question relating to the fact that the unallocated reserves had depleted and what would be the FFC recommendations in this regard. He stated that there was a need for reprioritisation. This was because there was a lot of money lying around that was either unspent or that was wasted on trivial projects. There was therefore a need for improvement in efficiency in order to curb any waste in financial expenditure. It was imperative that money that had been designated for the execution of a project should be channelled towards another beneficial venture if the initial project for which the money had been allocated had been abandoned.

Ms S Nkomo (ANC) stated that it appeared that Parliament had the primary obligation to see that the recommendations made by the FFC were implemented. She referred to a number of recommendations made by the FFC and stated that the Committee had the duty of oversight to ensure that the recommendations were attended to and that this responsibility could not be imposed on the FFC.

Ms S Shope-Sithole (ANC) concurred with Ms Nkomo’s statement. The Constitution had put the responsibility of oversight on the legislature. The government appeared to have been fulfilling its obligations while the legislature appeared to have been neglecting its obligations. For instance, in relation to the issue of money spent on infrastructure, it appeared that the legislature was not executing its oversight functions in ensuring that the contractors in charge of construction were actually working at the various sites.

She referred to the issue of funding for higher education. There was a need to conduct a research into the wasteful expenditure by universities on various programmes that added no skills or benefit into the economy or society. She stated that the time had come to closely monitor the activities of universities in order to curb wastefulness of financial resources.

Prof Steytler further commented in respect of the issue that Parliament had the responsibility to ensure that the FFC’s recommendations were implemented. He stated that the FFC was simply a resource tool for government and did not represent the position of an implementing body.

He replied to the question relating to how the private sector could be brought on board in assisting with the provision of public infrastructures. He stated that the FFC was not in the positon to give a recommendation in respect of such an issue because the subject matter did not fall within the area of expertise of the FFC. The issue could better be dealt with by those who were highly conversant with the area of private-public partnerships.

He further replied to Ms Shope-Sithole’s comment on wasteful expenditure by universities on various programmes that added no skills or benefit into the economy or society. He stated that such a comment was very debatable. He opined that universities were engines of innovation and that they contributed immensely to the economy in no small measure through the various research programmes they engaged in.

The Chairperson thanked everyone.

The meeting was adjourned.