South Africa faces a looming fiscal cliff owing to growth in social grant expenditure and civil service remuneration, combined with a slowdown in the growth of the economy. A fiscal cliff is when a country’s finances reach a potential crisis point where it can no longer sustain its existing expenditure levels.
The Irish Republic is an example of a country that faced a fiscal cliff of this nature. Following on the international financial crisis of 2007/08, the country’s gross domestic product (GDP) declined by 7.7% up to 2010, with a concomitant decline in government revenue.
Ireland had to face harsh fiscal choices. The government used a combination of tax increases amounting to some €11bn and expenditure cuts amounting to some €19bn to restore the fiscal balance.
Civil service remuneration was one expenditure item subjected to a substantial cut. At senior level the reduction in remuneration amounted to 28%, while the average reduction in remuneration amounted to 19%. This happened at a time when the Irish rate of inflation was about 0.5% per annum.
The harsh choices made by the Irish government show the consequences once a country has reached the precipice of a fiscal cliff.
What South Africa did when the going was good
South Africa was also a beneficiary of rapid economic growth in the period running up to the financial crisis of 2007/08. The South African government also used expansionary fiscal policy - increases in government expenditure - funded by tax increases and increased borrowing in response to the financial crisis. These attempts to sustain economic growth were unsuccessful, with South Africa suffering a recession in 2009.
But the South African response differed considerably in respect of the civil service. Civil service employment has continued to grow since 2008 - from 1.3 million to nearly 1.6 million in 2015 - as was the case with civil service remuneration.
This growth in employment did not result in increased productivity. There was no marked improvement in output per worker. This would have resulted, for example, in improved service delivery. ProductivitySA reports that improving productivity is a challenge facing the South African civil service.
In the 2015/16-fiscal year the public sector remuneration agreement resulted in a 10.1% increase in the remuneration and benefits of government employees. Over the remainder of the period of the agreement the rate of increase in civil service remuneration will be above 8% per annum, while inflation will be around 5% per annum.
Civil servants will therefore get substantial real remuneration increases.
Burden on the fiscus
As a percentage of the government’s tax revenue, civil service remuneration will increase from 33.3% in the 2007/08-fiscal year to 45.4% in the 2018/19-fiscal year. Civil service remuneration amounts to nearly 12% of the South African GDP. This is a substantially higher percentage than in other developing countries.
The government faces a broad spectrum of spending priorities other than paying the remuneration of civil servants. This includes items such as capital expenditure (investing in the future of the country), which amounts to some 7% of total expenditure, and interest on government debt, amounting to some 9,4% of expenditure.
This places a considerable burden on government finances and therefore on the South African tax payer. The government raises income mainly by means of taxes. The most important of these are income tax on individual tax payers, company tax on the profits of companies and value-added tax. Additional income sources include items such as fuel taxes, customs duties and excise duties.
This leaves no doubt that the South African government faces tough choices. The Irish Republic faced these choices some years ago. More recently Tanzania has had to consider them too.
Since his inauguration on 5 November 2015, Tanzanian President John Magufuli has made tough choices in the implementation of austerity steps. A case in point is a decision to redirect TZS200 billion (some US$100 000) previously budgeted for a party after the opening of Parliament to the buying of hospital beds.
Other examples of austerity measures in Tanzania are the scrapping of government Christmas cards and a reconsideration of the number of officials who can fly first and business class.
The Irish and Tanzanian examples show that the South African government has not really seriously considered austerity measures in containing government expenditure. It still has a long way to go.
At more than 45% of government revenue, it is clear that the civil service remuneration bill is the most serious challenge facing government finances. Growth since 2008 has brought civil service remuneration expenditure to an unsustainable level.
Multidimensional approach needed
First, the government should urgently announce a moratorium on civil service employment growth. Simply put: no additional appointments until the end of the current unaffordable remuneration adjustment cycle. South Africa has reached its upper limit in the number of civil servants that can be sustained.
Secondly, the government as employer should explain to trade unions that the current three-year remuneration adjustment settlement is the last of these generous general adjustments. Owing to affordability constraints, this generosity cannot be repeated. When the current agreement lapses, it will be necessary to freeze civil service remuneration in nominal terms, which means real reductions after inflation. The alternative may ultimately be remuneration reductions as was the case in the Irish Republic.
No general adjustments still imply some increase in civil service remuneration. The remuneration bill will still increase owing to notch increases (some 1% per annum) and promotions (some 1% to 1.5% per annum).
This would be the ideal scenario because the civil service salary bill would then fall as a percentage of tax collections, and as a percentage of GDP. But the achievement of this outcome requires some very hard choices.