South Africa’s Debt Has Skyrocketed – New Rules Are Needed To Manage It
South Africa’s fiscal trajectory paints a concerning picture. Public expenditure exceeds revenue. As a result sovereign debt is building up and interest on this debt is increasing.
This raises concerns over the South African government’s financial sustainability. The debt-to-GDP ratio has skyrocketed from 23.6% in 2008/09 to a projected 74.7% in 2024/25. The International Monetary Fund has recommended that, over the long term, South Africa should reduce its debt-to-GDP ratio to 60% of GDP, in line with that of peers.
Arguably more important than the debt level is how quickly debt has accumulated. Debt servicing costs, which consist of the interest on government debt and other costs directly associated with borrowing, have been the fastest-growing line item in the national budget. Rising interest payments have been crowding out critical expenditures on services such as health, education and infrastructure.
As I argue in a recently published report titled “A fiscal anchor for South Africa: Avoiding the mistakes of the past”, establishing a credible fiscal anchor (or fiscal rule) could be step towards avoiding a debt spiral and regaining fiscal sustainability and credibility.
Fiscal rules are constraints on fiscal policy, designed to impose numerical limits. For example, a limit on the allowable debt-to-GDP ratio, or the allowable balance after accounting for government expenditure and revenue. Fiscal rules are widely used – 105 countries have adopted them so far.
Failing to address the country’s fiscal challenges risks plunging South Africa into a debt trap. This happens when a country finds it difficult to escape a cycle of debt and has to borrow more to pay off old debt. If debt-servicing costs continue to rise, essential public services will come under even greater strain.
Several emerging markets have experienced the severe consequences of unchecked debt accumulation and debt servicing costs. Argentina is one example. Without a credible plan to stabilise and reduce debt and debt servicing costs, the risk of economic stagnation and financial instability grows quickly.
Fiscal erosion and credibility concerns
The roots of South Africa’s current predicament lie in years of mistakes. These include:
- spending beyond its means
- questionable political decisions like bailing out state-owned entities
- poor governance and oversight at municipal and local government level, which led to inefficient public spending.
These factors were underpinned by an underperforming economy, unrealised forecasts and arguably weak institutional checks.
For the last 15 years South Africa’s National Treasury has undertaken to stabilise the country’s debt-to-GDP ratio. This would have required keeping the ratio constant. But these commitments have consistently been deferred. Debt stabilisation targets have been revised upwards 13 times, from 40% in 2015/16 to the current 75.5%. The stabilisation year has been pushed back 10 times, from the initial year of 2015/16 to the current target of 2025/26. This has created a perception of inconsistent policy.
Over-optimistic macroeconomic forecasting has undermined credibility. Over the last ten years, GDP growth projections have routinely overshot actual performance by an average of 0.5 percentage points in the first year of forecasts and even more in subsequent years. In defence of the National Treasury, the South African economy has performed worse than more forecasters expected in recent years.
Adding to the fiscal strain are rising social expenditures, the public sector wage bill and repeated bailouts of state-owned enterprises. This spending relieves short-term political and social pressures, but undermines the country’s long-term fiscal health.
Without credible mechanisms to constrain spending, South Africa’s fiscal framework lacks the discipline needed to ensure sustainability, and to restore credibility.
Why fiscal rules matter
Fiscal rules are there to promote discipline, ensure that debt can be paid and enhance credibility. The experience in the 105 countries that have adopted them suggests that strong, well-designed rules can signal a government’s commitment to fiscal prudence.
It’s difficult to establish whether there is a causal relationship between fiscal rules and fiscal performance. But there’s at least a correlation. As a practical example of enforcing fiscal rules, in November 2023, the German constitutional court overruled a budget that was passed in the Bundestag but breached Germany’s fiscal rules.
However, fiscal rules are not a panacea. Poorly designed or inadequately enforced rules can make the problems worse. For South Africa, this risk is acute.
Political commitment and strong institutional frameworks are needed too. Also, a shift in how fiscal policy is conceived and implemented.
Designing new rules
Drawing lessons from global best practices, South Africa’s fiscal rules must be enforceable, flexible and simple. A well-designed rule should:
- stabilise and eventually reduce the debt-to-GDP ratio
- target government spending as a share of GDP, emphasising consumption spending like salaries and goods and services, rather than capital expenditure
- have political buy-in
- be overseen independently
- be legally binding and enforceable.
Context
South Africa’s low economic growth rate is a complication. Average interest rates on government debt are higher than the nominal GDP growth rate. But reining in spending too much could stifle growth, creating a vicious cycle.
That’s why stabilising debt first would make more sense than aiming to reduce debt too rapidly.
South Africa’s fiscal rules must also have some flexibility. For instance, they could allow for shocks such as natural disasters or global economic crises.
Fiscal rules could follow a phased approach to initially focus on stabilising debt, and then to move towards reducing debt. Both of these phases would entail expenditure rules to guide annual budget processes and to place limits on spending.
The benefits
Credible fiscal rules could have a number of benefits.
Firstly, they could improve South Africa’s credibility by signalling to markets and international institutions that South Africa is committed to fiscal discipline.
Secondly, fiscal credibility is associated with reduced sovereign risk premiums, which translates into lower debt-servicing costs. In turn this would free up resources for critical development priorities.
Third, they can foster a more stable economic environment for investment and growth.
Fourth, they would help coordinate policies. South Africa enjoys rule-based monetary policy in the form of inflation targeting but lacks the same for fiscal policy. This can lead to sub-optimal outcomes. For example, the central bank can keep interest rates too high, not necessarily because it thinks the treasury’s policies are inflationary, but because it cannot predict the treasury’s actions.
The way forward
Adopting fiscal rules in South Africa comes with risks. Weak institutional capacity, especially in oversight bodies like the Parliamentary Budget Office, could undermine rule enforcement.
To shield against these risks, South Africa should have stronger institutions. It could create an independent statutory fiscal council, possibly falling under Parliament, the National Treasury or as an independent constitutional advisory body.
Oversight bodies would also need to build their capacity.
