Here is why South Africa’s budget statement is a critical event for the rand

The South African rand which hit its three year high last week has weakened along with other emerging currencies. The rand traded at 11.72 per dollar as against last week high of 11.56 per dollar. This comes as the dollar gained the ground it lost last week. 

Investors are also waiting to see Ramaphosa’s cabinet line up, the future of the finance minister and the budget that he is going to present. It is still uncertain if the Finance minister  Malusi Gigaba who is due to deliver the South African Budget speech would still remain as the minister.

“This is the time to walk, to reflect even about cabinet and all that,” he told reporters on television news channel eNCA during his walk in response to a question on whether there was time to shake up his cabinet ahead of the budget speech.

Currently, a lot is at stake for Ramaphosa whose major task is to rebuild the ailing South African economy which he inherited from his predecessor Jacob Zuma. Jacob Zuma’s administration was marred by a lot of scandals, corruption allegations, uncertainty in policies and the reshuffling of cabinets. All these led to the stagnant economic growth of the once Africa’s largest economy and first Africa’s industrialized economy, South Africa. There are hopes that the new change in political leadership might bring the necessary change needed in South Africa.

“Expect sharp rand reaction directly after the budget, and again when Moody’s provides its response presumably within a day or two of the event,” said Rand Merchant Bank chief strategist, John Cairns in a note.

What should we expect from the 2018 Budget

Looking at the deficit of South Africa’s economy in the past nine years due to Jacob Zuma’s mismanagement of the economy,  it is expected that the budget would be able to close the country’s 50.8 billion rand ($4.36 billion) revenue gap in 2017/18 fiscal year.

Tax hikes which include higher value-added taxes will also be expected. This could help the country gain more revenue that could close the existing revenue gap.

“The (October budget) built up a very clear honest picture of the economic environment we are in. What people should expect is some repairing type of interventions taken to restore the books of National Treasury,” South Africa’s National Treasury spokesman, Mayihlome Tshwete, told Reuters when asked what was expected of Wednesday’s budget.

However, according to Reuters, Economists said that a two percent VAT hike could be effective in wiping out the 50.8 billion rand revenue shortfall. The VAT rate, currently at 14 percent, has not been adjusted since 1993. But a VAT hike runs the risk of adding a heavy financial burden to the daily lives of the poor.

“In a low-savings economy, consumption should rather be taxed, but I think a VAT hike is likely to be politically unpalatable ahead of the 2019 national elections in particular,” Standard Bank economist, Elna Moolman told Reuters.

Rating agencies are also monitoring the budget closely, S&P Global Ratings and Fitch downgraded South African debt to “junk” status last year, citing the dismal economic outlook.
However, if the downgrade is not avoided this could see South Africa will lose its place in the Citi World Government Bond Index, the biggest of the global benchmarks and tracked by about $3 trillion of funds.  If it loses its place it would mean that the country will no longer be eligible for inclusion in investment grade bond funds. This would definitely force a large number of investors to sell their bond and this would in turn pressure the rand to fall.