By: Peter Castleden, CEO, Sanlam Indie
If we’re all honest with ourselves, we would likely admit that when it comes to evaluating the National budget speech, there are two outcomes we’re hoping for:
- We hope that the budget won’t have a significant negative impact on our own pockets
- Oh, and it would be nice if it can fix the country at the same time
There were some fairly hairy predictions around massive personal tax hikes, VAT increases and brazen theft of pension funds; and fortunately none of that came to fruition. Based on a cursory study of the 2020 budget we’re in luck. Our wallets aren’t likely to be significantly hurt, and there seems to be a plan to fix the country. Whether or not that plan can be executed is another story.
Last year we put the national budget into terms we could all understand, and this year we’re doing the same.
Simplifying the budget
In an effort to contextualise the latest projected national budget, we conducted a little thought experiment: we created a fictional household with an income of R100,000 per year. And this fictional household has a fairly normal household budget which consists of income, spending, investing, borrowing and interest on borrowing. We then took the projected budget of South Africa, and allocated the income and expenses into the categories that this household has to see how well or badly the household’s finances are managed.
Fortunately, National Treasury produces a really handy summary of the budget, which makes this experiment a little easier. It’s certainly debatable how we allocated the different national expenditure lines to the various household budget categories, but we tried to keep things simple.
This was the easiest one since we could simply allocate all the projected Revenue collected through taxes (like the income tax you pay), duties and levies into this line. For the 2020/2021 financial year, the Income is R1,583.9 billion.
In a normal household, spending would typically cover costs such as utilities, food, security, medical expenses, education for the children, charity, insurance, dining out and entertainment. We looked at the various expenditure items in the national budget and decided to allocate the following core spending areas to spending: Learning & Culture, Health, Social Development, Community Development, Peace & Security, General Public Services and two other small spending lines.
Adding these categories together brings us to a total of R1,508.7 billion.
A normal household will choose to invest primarily to create additional income and assets in the future. In the same way, the government spends some of its budget on things which should increase revenue in the future primarily through economic growth. We allocated the full Economic Development budget of R211.5 billion to the Investing category.
Interest on Debt
This was simply the published predicted Debt Costs Service of R229.3 billion.
Making sense of the numbers
In order to get a grip on these big numbers, we recalculated all the spending items to be relative to the simpler household income of R100,000.
There are a few interesting observations we can see from this picture now. The most startling is that this household is spending over R23,000 more this year than it is earning. The other troubling observation is that this household is not paying off any of its debt. In fact, because the household is spending more than it’s earning, it is actually increasing its debt this year.
At this stage, a financial advisor for this household would be quite worried about the situation and words like “debt spiral” may start to be thrown around. For those who don’t know, a debt spiral can start when a person has borrowed so much money that the interest owed on that debt becomes so high that the person has to borrow even more to survive. This further increases the interest cost, making the problem worse, so even more debt is needed and so on. It normally doesn’t end well.
To illustrate this point, in the last financial year this same household spent R21,500 more than it earned in income – which was added to the debt pile. This increased debt meant that the household will have to spend R14,477 on interest this year, compared to R13,500 in the previous year.
Looking a year ahead, with the growing debt from the debt spiral, this household can expect to spend R15,360 on interest payments (from R100,000 income earned) which is again another R900 growth on interest costs from the previous year.
How do we turn the tide?
If this was a normal household, there are a number of interventions which would need to be put in place immediately. We’re going to make the assumption that the South African government can’t go into debt rescue, and will want to pay back its debts in full.
This household should cut back on spending across the board so that it can stop borrowing. Continual borrowing and the resulting increase in interest costs on that debt will eventually end very badly. In a crisis like this, cutting back on both spending and investments to achieve this would be a good idea. Ultimately, this household needs to find a way to stop spending more than it is earning, since the current situation is worsening the debt and interest spending problem.
This household should find ways to increase its income. For ordinary people, this may mean looking for alternative employment or starting a side hustle. For a government, this can only be done by increasing its tax revenue. This can be done through tax increases, although as Mr Tito Mboweni points out, any further increases in personal income tax may have the opposite effect of lowering revenue. The other option for this government is economic growth which will mean more people working (which is more personal income tax), more spending from these people (more VAT) and more corporate profits (more corporate tax income).
Start paying back the debt. There are two ways to do this. Firstly, this can be done by spending less we’re earning and using the budget surplus to pay off debt. Given the current budget shortfall and economic growth outlook, this solution seems unlikely at the moment.
The second option would be to sell off existing assets and use the proceeds to pay off some of the debt. If a household was in this situation, yet had some assets which had some value (like a second car), they could sell it to pay back some debt to make it more manageable. Unfortunately, in the case of South Africa, it’d be tricky to start selling any of the government’s assets on Gumtree.
What can we do?
As individuals, we should aspire to run our finances as best we can. It’s not entirely rocket science to get it right in theory, but we know how difficult it can be to put this theory into practice.
So here are a few simple principles:
- Spend less than you earn
- Only borrow money to acquire assets (as opposed to borrowing for spending)
- Invest the difference between what you earn and spend
- Income generated from these investments, over time, should passively increase your income, which means even more can be reinvested.
If each of us is able to grow our wealth – paying taxes, creating jobs and spending money (wisely) as we do – then we can do our little bit to help grow the government’s income. And little by little, a little becomes a lot.