Cablegate: Mid Term Budget Policy Statement

Published: Fri 5 Nov 2004 03:52 PM
This record is a partial extract of the original cable. The full text of the original cable is not available.
E.O. 12958: N/A
1. (U) Finance Minister Trevor Manuel presented the
Mid Term Budget Policy Statement (MTBPS), supporting
the South African government's three-year budgeting
plans under the Mid Term Expenditure Framework. The
MTBPS updates economic growth, revenue and
expenditure forecasts and suggests potential policy
changes that support government's key priorities.
Highlights of Manuel's presentation include: (1)
fiscal policies remaining slightly expansionary with
an increased budget deficit expected in the next
fiscal year; (2) no substantial tax changes; (3) an
additional R50 billion ($8 billion using 6.2 rands
per dollar) aimed at poverty alleviation,
infrastructure, and increased wages for teachers and
police; and (4) relaxation of foreign exchange
controls on South African corporations. Compared to
last February's formal budget submission to
Parliament, the SAG is now forecasting higher growth
for 2005 and 2006. While macroeconomic indicators
are good, the government still faces challenges in
reducing unemployment and controlling growing
expenditures on social welfare grants.
2. (U) Every October, the Finance Minister presents
the Mid Term Expenditure Framework (MTEF) to
Parliament which details updated budgetary plans for
the next three fiscal years. On October 26, Trevor
Manuel summarized proposed policy changes and updated
economic, expenditure and revenue estimates in his
Mid Term Budget Policy Statement (MTBPS), which
outlines the government's MTEF. The MTBPS provides
an opportunity for a mid-year adjustment for policies
that would support key government priorities and
forecasts that determine how well macroeconomic
targets are met.
3. (U) The National Treasury revised GDP growth
forecasts upward. It now expects growth to be 3.9,
3.7, and 4.2 percent for 2005, 2006, and 2007
respectively, compared to 2.9 percent expected for
2004. (Note: Growth forecasts are given for calendar
years instead of fiscal years. Endnote.) The
Treasury expects the targeted inflation rate (i.e.,
consumer prices excluding mortgage costs) to remain
within the 3-6 percent range throughout the MTEF
period at roughly 5 percent, slightly higher than
expected for 2004. In 2004, the current account
deficit should widen, reaching 2.2 percent of GDP as
compared to 0.8 percent in 2003, but be easily
financed from capital inflows. The current account
deficit rises over the MTEF period gradually,
reaching 2.8 percent in 2007. The country's balance
of payments position is strong, allowing the South
African Reserve Bank to steadily increase foreign
4. (U) Domestic investment has grown over the past
two years, with real fixed capital formation
increasing by 6.1 and 8.4 percent compared with real
GDP growth of 3.6 and 1.9 in 2002 and 2003. However,
the government wants to dramatically increase gross
fixed capital formation over the next three years to
grow the economy at 6 percent, the figure believed to
be necessary to make real progress in reducing the
country's very high unemployment. Gross fixed
capital formation currently is 16 percent of GDP.
The government's goal is increase this to 25 percent
of GDP by 2014. Low inflation and interest rates
should help this effort, as should the government's
intention to undertake a massive spending program to
invest in the country's infrastructure through public-
private partnerships.
5. (U) For FY2004, tax revenue is expected to be R1.9
billion higher than estimated last February, largely
because of higher than expected collections in value
added and personal tax revenues. Corporate taxes
should be R6.2 billion less than budgeted, as the
strong rand has hurt corporate profits. In FY2004,
revenues as a percent of GDP should be 24.5 percent,
rising to 25.1 percent by FY2007. Over the next two
fiscal years, revenues are expected to increase by 10
percent and expenditures by 9 percent, which should
cause the deficit gradually to improve. According to
the National Treasury, the budget deficit as a
percentage of GDP should be 3.2 percent in FY2004,
3.5 percent in FY2005, 3.2 percent in FY2006, and 2.7
percent by FY2007. Manuel announced no new tax
policies, but did tag the mining sector for a full
6. (U) The government will spend an extra R50 billion
($8 billion) on poverty alleviation, infrastructure
improvements, and increased wages of teachers and
police. Out of the R50 billion, 20.8 ($3.4) billion
will go to cover growing expenditures related to
social welfare grants, especially in the categories
of child support and disability. Two million people
joined the list of grant beneficiaries between April
and September alone, pushing the total number of
beneficiaries to nine million - or one out of every
five South Africans. Currently, the provinces
administer three types of grants are given: (1) child
grants (also including foster care) for children up
to 10 (this will be extended to children aged 13 in
2005); (2) disability grants (here, definitions have
been unclear and this is a source of concern); and
(3) grants for the elderly.
7. (U) Beginning in March 2006, a new national
welfare grant agency will take over the
administration of welfare funds from provincial
government. In the meantime, welfare funds will be
sourced from conditional grants (grants paid by the
national government to provinces for prescribed
purposes) rather than from the equitable share of
revenue that the provinces get from the national
government. The change means that overruns will now
be the responsibility of the national government,
even though the provinces will continue to distribute
the grants until the changeover in 2006. Under the
current system, the provinces must fulfill their
obligations for paying out social welfare grants over
other forms of provincial expenditure. In some
cases, this has meant that the provinces have had to
cut back on critical health and education
expenditures, or taken bank overdrafts, to pay out
growing numbers of social welfare grants.
8. (U) Minister Manuel also recommended that certain
foreign exchange controls be relaxed. Current rules
limit direct foreign investment by South African
corporations to R2 billion per project in Africa and
R1 billion elsewhere, plus 20 percent of any excess
cost. Manuel removed these limits and lifted
restrictions on the repatriation of foreign
dividends. However, corporations will still be
required to apply for South African Reserve Bank
approval (one of the stipulations being that the
investment must be in the interest of South Africa).
To facilitate his move to allow secondary foreign
listings on the South African exchanges, Manuel will
also allow South Africans to invest in such shares.
Limits on other foreign investments by South African
pension funds, insurance companies, mutual funds
(unit trusts), and individuals remain in place, but
could be removed in future.
9. (SBU) The state of the economy outlined by the
National Treasury in its MTBPS is fairly strong. The
National Treasury fully expects inflation to stay on
target in the near term. It believes that falling
interest rates will encourage more investment and
that this should lead to an average economic growth
of 4 percent over the next three years. As revenues
increase and social grant payments are brought under
control, the National Treasury expects the fiscal
deficit to increase to 3.5 percent next year, but
then decline. The healthy state of the South African
economy has led several international credit agencies
to revise or review their credit ratings. One
question mark on the horizon is whether strong global
economic growth stays on track and whether the rand
will grow even stronger. Another question mark is
what would happen if growth in Europe (South Africa's
major trading partner), and China (which is fueling
world demand for commodities) slows, as this would
have unfavorable consequences on South Africa's
manufacturing and minerals exports, and thus growth.
Finally, the government knows that the increase in
social welfare grant payments is not sustainable over
the long term and it needs to get control of the
situation. Right now, the trend line shows these
expenditures rising from 16.9 percent of all
government expenditures in FY2003 to 20 percent in
FY2007. The government wants to reverse this trend
in social welfare grants by growing the economy
faster and putting people to work. While the
government's forecasted growth of 4 percent growth
over the MTEF is a solid improvement over the last
three year period, it is still less than what the
government thinks it needs to make a significant dent
in unemployment, i.e., GDP growth on the order of 6
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