Minister Tito Mboweni’s first Budget is likely to be a “tough” one, with economic weakness constraining revenues along with a seemingly endless list of urgent spending priorities – some bordering on crises – giving him little room to manoeuvre.
But under-pressure government finances are nothing new. They have gradually weakened to this point over a number of years, and this deterioration has impacted directly or indirectly on the property market. While some property people would instinctively want to see transfer duty relief in the Budget, that would be something of a minor sideshow, and unlikely to happen we think.
Rather, the future health of the property market is far more dependent on the mending of the big macro variables that impact property in a bigger way via their impact on the economy.
Let’s consider the key impact areas of government finance.
For the property sector, higher transfer duty tax rates for higher value homes have militated slightly more in favour of smaller and more affordable homes in recent years. From the 2015 tax year, where the zero transfer duty bracket was R0 to R600,000, this upper limit was lifted to R900,000 by the 2019 tax year. In addition, two additional transfer duty brackets were added at the high end, i.e. an 11% and 13% bracket; a change from 2015 where 8% was the upper top bracket, lifting the duty costs at the higher priced end.
#2 Tax revenue
A rising tax and tariff burden over many years may well have become a key source of pressure on economic growth. The government revenue to GDP (Gross Domestic Product) ratio has risen from its lowest level in the past 23 years, i.e. 21.8% in 2003, to 25.6% by 2018 (SARB figures). This doesn’t appear that extreme, but obviously it does not reflect sharp increases in utilities tariffs over the past decade or so.
And, while tax revenues from the corporate side battled, the arguably more reliable source of income, i.e. the Household Sector’s income, saw its effective tax rate climb and its percentage contribution to overall revenue climb from 31.6% in 2008 to 39.4% by 2018, with Treasury not adjusting fully for bracket creep, as well as lifting the highest tax rate to boost its revenue budget. The other major tax increase news last year was the VAT hike.
Household personal and wealth taxes have risen from 10.9% of household income as at 2004 to 15.2% in 2017, and we believe that further increase is set to come in the near term, as government uses bracket creep to lift its beleaguered revenues.
This takes from the purchasing power available in part for both housing as well as retail products, and thus impacts mildly negatively on housing demand as well indirectly on the demand for retail space in the economy.
Current expenditure “crowding out” saving has meant that economic infrastructure investment spending has never recovered fully since its late-1970s dip. It dipped sharply as a percentage of GDP as the political, economic and security situation deteriorated in the late-70s, as government revenues at various levels came under pressure and as the defence budget proliferated. In 1976 general government economic infrastructure investment as a percentage of GDP stood at 7.3%. By 1990 it was well-down at 2.2%, and in 2017 (the most recent available figure) it was a meagre 1.8%.
With a part of this infrastructure investment being transport infrastructure, and much around major urban areas, a lack thereof would surely imply greater difficulty in creating urban sprawl, greater transport congestion, and an effective urban land scarcity leading to urban densification.
While urban sprawl cannot continue for ever for environmental reasons, it must be to a significant degree due to a lack of infrastructure investment that urban sprawl has been partly replaced by densification. And since the late-1970s we have seen the residential component of the property market changing markedly in this regard, with smaller average stand sizes and smaller average size of units being built, once again partly reflecting the impact of the changing state of government finance over decades on property.
General government savings reached near 0% of GDP by 2017, having declined from 5.4% in 2007, thus making general government the weakest contributor to overall domestic savings. This implies limited funding for domestic investment (of which Economic Infrastructure Investment is a part), a key long-term economic growth driver. As a result of the savings “shortage” relative to domestic investment (Fixed and Inventory), the country’s ongoing current account deficit has to be funded by net foreign capital inflows. Those capital flows can be volatile, and quickly scared off by ratings agency downgrades and domestic volatility, thus constraining SA to a low growth future if the domestic savings shortage is not addressed. Low saving is not only a government finance weakness, but a key household sector weakness too.
With Eskom and certain other parastatals requiring some form of financial support in this week’s budget, exerting still further expenditure pressures on the fiscus, we are unlikely to see any noteworthy increase in government savings in the near term.
A wide fiscal deficit driving a rising government debt-to-GDP ratio keeps investor confidence under pressure as they question the sustainability of this rising debt burden. Investor confidence weakening can impact directly on investment in government bonds, or it can impact on broader economy-wide investment due to possible perceptions that weak government finances can become a drag on the economy.
Weak investor sentiment can thus dampen future economic growth and therefore demand for property and the property market’s performance.
The government debt-to-GDP ratio has risen all the way from a lowly 26% as at the 3rd quarter of 2008 to 55.2% in the 3rd quarter of 2018, exactly 10 years later.
So what should property industry people be focused on in the Budget speech?
The above are some of the key macro numbers in government finance. While the national government budget doesn’t cover local government, it is a major contributor to overall government finance numbers.
A national budget that would be considered “property market supportive” would thus be one that contributes to positive business and investor sentiment through providing a strong indication as to how it will narrow the fiscal deficit (-4.5% of GDP in the prior fiscal year) sufficiently as to halt further increase in the debt-to-GDP ratio. Preferably, it would achieve this without tax hikes. In addition, a significant increase in government savings is needed, implying current expenditure reductions, in order to be able to fund significantly higher levels of fixed investment, a potential key driver of longer term economic growth.
Then, the budget could be said to be economic growth and thus property market supportive. It is these big macro fiscal numbers that really matter for the property sector now, with the impact being largely indirect via their impact on the economy.
Realistically, though, given the apparent need for financial support for Eskom and certain other parastatals in this coming year’s budget, while the myriad of existing expenditure priorities continue, the upward trend in the government debt ratio is unlikely to be halted just yet, and the household sector could likely see further tax bracket creep, leading to a higher tax-to-household income ratio. Weak government savings, too, is likely to remain for the time being, with the capital expenditure budget remaining low.
The actual Budget is thus not expected to be a “property market stimulating” one yet in 2019, but the industry’s hopes should be that this Budget speech will provide useful insights into how these macro-finance figures will be turned for the better in future. Should that happen, the Budget Speech can still be a sentiment booster.