In "It's not the wage bill that's the problem, it's the austerity budget" in the Sunday Times of May 16, Duma Gqubule argues that fiscal consolidation (reducing spending or raising taxes to close the budget deficit) is unnecessary. Much easier, he argues, to adopt a new paradigm in which the Reserve Bank funds the deficit directly by printing money, or where the Government Employees Pension Fund (GEPF) finances the deficit by buying government bonds.
His piece touches on important debates around fiscal consolidation, but its core argument is reckless and wrong. A radical change in the monetary policy regime - from one that focuses on preserving the value of the rand to one that is driven by the government's financing needs - would cause immense damage to the economy.
Similarly, dipping into the pensions of government workers to fund their salaries would provide a short-term boost, but leave them worse off in the long term.
The 2021 budget emphasised the urgent need to reduce the budget deficit because fiscal policy was on an unsustainable path.
Thirteen years of large deficits have not generated economic growth, despite an extraordinary fiscal expansion that has seen government debt rise from 26% to 79% of GDP. Government salaries have outstripped the increase in per capita incomes in the rest of the economy.
This makes SA's wage bill as a share of output one of the highest among developing countries. Our major challenge remains declining GDP growth, which reflects structural problems such as electricity supply shortfalls, rather than overly tight fiscal and monetary policy. In addition, concerns over the sustainability of government finances, as reflected in SA's risk premium, are now a significant drag on confidence and investment.
Mr Gqubule dismisses these concerns in favour of an approach in which the government simply writes itself cheques and the Reserve Bank prints the required money.
The primary argument is that the government can always meet its debt obligations in domestic currency. But what matters is whether investors will be repaid in a currency that has kept its value, as opposed to a rand that has lost its purchasing power through depreciation or inflation.
Our major challenge remains declining GDP growth, which reflects structural problems such as electricity supply shortfalls, rather than overly tight fiscal and monetary policy
This is the main reason that some countries cannot borrow in domestic currency - they must commit to repay lenders in dollars because no-one (including locals) trusts them to repay a loan made in domestic currency.
Governments can and do default on domestically issued debt, as Argentina has done several times. And even when they do not default explicitly, countries that get into periods of fiscal distress generally experience low growth, high inflation and financial repression.
Investors know this is possible, so they charge a premium on loans to countries in these circumstances. The South African government already pays a very steep risk premium when we borrow because investors are also worried about the government's ability to implement growth reforms and control its finances.
Imagine for a moment that we announced a programme to fund a large increase in wages by printing additional money. There would be an immediate sell-off in government debt because investors would anticipate that inflation would rise, and that it might do so at an accelerating pace.
The Reserve Bank would have to intervene further to keep down the costs of issuance, resulting in an ever-increasing government dependence on the central bank. Local and foreign investors would withdraw, leading to weakening of the rand. Ultimately, the Bank would be the major, or even sole, funder of the government.
In terms of monetary policy, the Bank would find itself in an impossible position, having to raise interest rates while trying to keep interest rates on government debt down. The strategy would lead to rapid and continuous increases in the monetary base as the Bank monetised the deficit, putting continuous upward pressure on inflation.
It would not be able to control this except by raising policy rates, which would choke off the investment of firms and households. Going back to the previous inflation-targeting regime would not be possible, thereby permanently weakening the Bank's capacity to implement monetary policy, and SA's institutional strength.
Proposals like using the GEPF to buy more government debt also come with large costs. Firstly, the fund would have to sell assets, such as the equities it holds. This would likely drag down the value of equities and harm the pension savings of all South Africans. Secondly, the fund's very large assets are matched by equally large pension liabilities. If assets were sold to finance the purchase of government debt, the fund would not be able to pay its pensioners.
The government would still have to make good on its commitments, in effect trading one set of creditors (bondholders) for another (pensioners and employees), but there would be no reduction in total debt.
At a macroeconomic level, if asset managers and the savings industry are required to buy low-return public sector assets, savers will change the composition of their portfolios. They will try to export more capital and allocate more capital to asset classes that are not subject to prescription, such as property and private equity.
In the medium term, there will be less savings available in the economy for investment.
SA's fiscal problems cannot be dealt with by printing money or forcing pension funds to finance the deficit. Monetary financing has its place and can work in some conditions, but the underlying economy must be able to support growth in excess of the rate of money creation over the medium and long term. That is not the case in SA, where we run into capacity constraints in logistics, electricity, and skills.
What is required is the implementation of economic reforms to raise growth (including alleviating the electricity supply constraint), and managing down the fiscal deficit by reining in compensation growth. There is no doubt that this is a tough budget, but the path we were on was unsustainable, leading to increasing debt-service costs and risking major market disruption.
• Mogajane is director-general of the National Treasury
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