Finance Minister Mr Malusi Gigaba started his address by referring to the budget as “tough but hopeful” and reading through the detail we agree. Prior to the budget, we noted that the focus would likely be on the revenue side but it is the expenditure side that really surprised the market.
Government increased its revenue projection by R36 billion. Among others, this will be attained through increasing value added tax (VAT) from 14% to 15%, raising taxes on estates over R30 million to 25%, implementing only partial relief for bracket creep, increases in the fuel levy, sin taxes, and higher excise duties on luxury goods.
There were no changes to income tax (besides the bracket creep), the corporate tax rate or dividends or capital gains tax.
On the expenditure side, government committed to finding savings of R85 billion over the medium term. Most notably in capital expenditure. As expected, grant payments were increased ahead of inflation to compensate recipients for the increase in VAT and capital expenditure will be negative in real terms. Government plans to keep increases on its wage bill (the largest part of the budget) at CPI+0%. Free tertiary education will be gradually introduced but following the R85 billion in savings, the dent was less than anticipated. The state is also expected to enjoy some relief in foreign debt interest payments because of the stronger rand.
Other points of interest:
- Interventions at state-owned companies and some of these entities could be restructuring with equity investment.
- Limits on offshore investments for institutional investors has been increased by 5% for all categories.
While the budget came across as credible, we highlight two specific risks to implementation – a higher than expected increase in the public wage bill and lower than expected tax buoyancy.
As expected, deficit targets improved relative to the Medium-Term Budget Policy Statement (MTBPS) on the back of revenue raising and expenditure limiting measures. These measures will also result in government having to borrow less which has resulted in a new forecast of debt-to-gross domestic product stabilising in 2021/22 before moving lower. This has signalled a return to fiscal consolidation which is likely to be bond friendly, and this is probably enough to avoid a Moody’s downgrade.
Equities tend to be a bit of a balancing act. On the one side, higher tax rates and continued pressure on fixed investment expenditure from government could have a near term dampening growth impact. On the other side, however, there are several underpins for equities. Valuations may be supported by lower risk-free rates (government bond yields) and if South Africa avoids a downgrade from Moody’s, the South African Reserve Bank may feel confident to cut interest rates. Given potentially higher business and consumer confidence flowing from fiscal discipline and from other areas in the economy, the longer-term growth outlook for the economy is likely to improve and this will ultimately filter through to a better corporate earnings outlook.
In terms of the specifics, there are a few sector specific factors that came to mind.
- Lower capital expenditure by government will be a net negative for infrastructure players – specifically in the construction space.
- Higher VAT can have a dampening effect on retail and other consumer related companies. This could be offset by lower inflation and the possibility of an interest rate cut as well as the stronger rand supporting input costs.
- While there were no corporate tax increases, there are implications for South African (SA) controlled companies operating outside our borders. The companies will have to pay some taxes in SA if they pay less than 75% of what would have been paid in SA.
- Medical aid tax credits have not been cut but increases have been limited. This will bring some relief for medical aid insurers and hospital groups.
- An increase in luxury goods excise duties will be negative for motor vehicle importers and distributors.
- A bond friendly budget is especially positive for banks. Although this could be somewhat offset by consumer pressure from VAT.