Budget analyses of sub-national government in South Africa 2010: 16th March 2010

1. Budget analyses of sub-national government in South Africa 2010: 16th March 2010 Financial and Fiscal Commission 1

2. Overview of Presentation Introduction Definitions and indicators Budget process and outputs Situational analysis Medium term trends and budget analysis for provinces 2010 Medium term trends and budget analysis for municipalities 2010 Conclusions and Way forward

3. 1- Introduction � What does budget analysis involve? With financial data available: Review of past trends which affect future budget needs and policy priorities; Budget summaries and examinations of completeness, accuracy and conformance with regulations especially expenditure control; Estimation of resources required or available for programs, legislation and projects; Testifying before examining and fund granting bodies. With non-financial data available: Undertaking unit (beneficiary) cost and benefit analyses; Estimating value for money (efficiency, effectiveness), equity of allocations, rate of backlog reduction.

4. 1- Introduction � FFC Budget Analysis Unit Objective: To assist national and provincial legislatures to understand, review and suggest amendments to short- and medium-term budgets; Philosophy: Budget legibility and transparency for accountable institutions; Nature of recommendations: Report formats, [non-financial] data required, link to policy priorities and strategic plans, institutional capacity, transmission mechanisms

5. 2- Definitions and indicators � Medium to long term Medium-term � one to three years; long-term - three to seven years; Data sources � National Treasury for ENE (Mar 2010,11,12), PBER (Aug 2011), LBER (Aug 2010), MTBPS (Nov) and BR (Mar); other national departments; Compare three-year past trends against three-year budget forecasts for revenue, spending and deficits; Performance indicators derived from Constitution, Chapter 13, Section 214 (2) a-j; e.g. national interest, needs and obligations; service delivery obligations, fiscal capacity, efficiency of and disparities between provinces and municipalities; stability versus flexibility.

6. 2- Definitions and indicators � Short term IYM Short-term � less than one year, involves in-year monitoring or IYM; Data sources � National Treasury for Sec 32 (PFMA) reports on quarterly spending of provinces, Sec 71 (MFMA) reports on quarterly spending of municipalities, adjustment budgets; Compare quarterly (from monthly) revenue collections and spending disbursements � �hockey stick� effect Under-spending, over-budgeting, rollovers, fiscal dumping or saving? Over-spending, under-budgeting, virements or deficit financing? Who has the power to re-allocate between departments, provinces or municipalities?

7. 3- Budget process and products With implementation of Money Bills Amendment Act of 2009; annual budget process will be transformed budgeting becomes negotiated between Executive and Parliament ; National, provincial and municipal financial years?; Medium term budget landmarks � Budget Review and Recommendations reports (due July), Review of LBER (due Sep 2010) MTBPS (Nov 2010) and Division of Revenue / Appropriation Bills (Feb to Mar 2011) In-year monitoring � quarterly Sec 32 and Sec 71 reports (Feb, May, Aug, Nov), adjustments budgets (Oct)

8. 4- Medium-term trends and forecasts - Situational analysis (1) Nominal versus real annual growth; growth path stability or volatility; Since 2005/06 when economic growth peaked at nearly 6% per annum, the trend has been that of deceleration, and a decline of just over 1% p.a. in 2009/10. Over the next three years, growth is anticipated to pick up and reach 3.7% in 2012/13. By contrast, growth of general government spending has been accelerating and has averaged nearly 10% p.a. in 2008/09 to 2009/10. This is projected to decelerate sharply over the next three years to just over 1% p.a. While countercyclical during the early recession (though not the boom), government spending is now inducing large deficits which will have to be whittled back over the medium-term.

9. 4- Medium-term trends and forecasts - Situational analysis (1) The proportion of GDP devoted to state spending has increased from 29.4% in 2005/06 to 34.1% in 2009/10. This is projected to decline slightly over the next three years. There has been, and continues to be, a clear shift away from national to provincial and municipal levels of government. Provinces increase their share of general government spending from 34% in 2005/06 to 36.5% in 2011/12. The relative importance of municipalities grows even more markedly from 22% to 27.4% in 2012/13.

10. 5.1- Medium term trends and forecasts � Provincial governments � Funding (1) In 2005/06, 4.5% of provincial revenue was own raised. By 2012/13 however, this ratio is projected to continue its downward trend to 2.7%. Thus, while government is decentralizing its spending, revenue is highly and increasingly centralized, leading to characterizations of provinces as lacking fiscal autonomy. Fiscal autonomy is also being eroded by an increasing preference for conditional over unconditional grants. Conditional grants made up 11.8% of provincial funding in 2005/06. By 2012/13, this is anticipated to rise to 19.9%.

11. 5.1- Medium term trends and forecasts � Provincial governments � Funding (2) While the Provincial Equitable Share grows by less than 1% p.a. over the next three years, conditional grants grow by over 4%. Provinces generated small surpluses in 2006/07 and 2007/08, have swung sharply into deficit over past two years, but are optimistically projected to reverse course over the next three years.

12. 5.2- Medium term trends and forecasts � Provincial governments � Spending (1) The largest component of provincial spending is education, but its share has declined by 3% over the past 4 years to 42%. Education budgets have grown rapidly over the past two years, but below the average for provincial spending. Save for the past two years, health spending has been slightly below average. The contribution of health has remained roughly constant. Spending on infrastructure was well above average during the boom years, but has been well below average during the recession, with high levels of volatility recorded. Capital spending is pro-cyclical and serves as a �shock absorber� by government. Administrative services are similarly pro-cyclical but due to the large personnel component exhibit less volatility.

13. 5.2- Medium term trends and forecasts � Provincial governments � Spending (2) Personnel spending was relatively subdued during the boom years, leading to a build-up of wage demand pressures. Higher than inflation increases and the occupation-specific dispensation have led to 9-12% real annual increases in the wage bill during the recession. Personnel costs are projected to rise very moderately over the next two years and even decline in the outer year. Actual and budgeted spending on goods and services is more volatile, growing when resources allow and decelerating or declining when budgets are tight. As indicated earlier, capital spending is the most unstable and pro-cyclical component of provincial government budgets. This is passed on by national government through its capital conditional grant programmes.

14. 6.1- Medium term trends and forecasts � Municipal governments � Funding (1) The aggregate of local government spending is dominated by metropolitan and urban municipalities; and aggregate trends therefore strongly reflect urban rather than rural localities. Own raised revenue constitutes 69% of municipal funding; and whilst this ratio has been declining in recent years, the trend is budgeted to reverse itself over the medium-term. The share of own revenue derived from property rates and service charges has been and is projected to continue rising (to 16.4% and 37% respectively). The recent disestablishment of the RSC levy has been compensated for by, respectively, a conditional grant, the LES and now the fuel levy sharing arrangement with the metropoles. This transition has imposed high volatility on municipal budgets, especially through conditional grants from both national and provincial governments.

15. 6.1- Medium term trends and forecasts � Municipal governments � Funding (2) Municipalities do not report deficits on their capital accounts, but external loans are recognised as a source of capital funding. Municipalities generate operational surpluses averaging 5-6% of funding. During the boom years, these surpluses more than covered the value of external loans for capital; and are projected to do so for the next two. However, during the recession (2008/09 to 2009/10), the operational surpluses have declined below that of loans. This implies net deficit financing. The capital accounts make up 21% of municipal spending compared to about 7.5% of provincial spending.

16. 6.2- Medium term trends and forecasts � Municipal governments � Spending (1) Disaggregated data by function (e.g. water, electricity, transport) is only available for one year, hence no trends have been analysed yet. Personnel constitutes nearly 25% of municipal spend and this has been rising slowly. Budgeted wage restraint over the medium-term does not stop this trend. Bulk purchases of electricity and water are also projected to rise well above the government average, reflecting expectations of tariff increases.

17. 6.2- Medium term trends and forecasts � Municipal governments � Spending (2) Repairs and maintenance reflect a more pro-cyclical pattern, rising and decelerating faster than average during the boom and recession respectively. However growth has been and is projected to above average. This item increases its contribution from 5.3% to 6.3% over the seven year period of analysis. As with provincial governments, capital spending is the most volatile and pro-cyclical. Average real annual growth averaged 25% over the past three years but is projected to decline by 4.6% over the next three. The impulses for capital spending volatility are derived from all sources of capital revenue, but especially inter-governmental grants.

18. 7- Conclusion (1) Government revenue tends to be pro-cyclical and at municipal level, may even exaggerate the business cycle on local economies. This places limits on the capacity of government to act as a counter-cyclical force. Governments generally ensure a relatively stable growth path for personnel and essential goods and services. Basic services such as education and health at provincial level and water and sanitation at municipal level are more consistently funded along stable growth paths. If certain portions of the budget are relatively fixed, others must be more flexible �shock absorbers�, exhibiting exaggerated pro-cyclicality.

19. 7- Conclusion (2) At all levels of government, capital spending is the first to be cut during recessionary periods but also most likely to be rapidly increased during the boom � �golden rule of budgeting�. To a lesser degree, this is also true of repairs and maintenance, non-essential goods and services; as well as administrative, training and infrastructure services. Whilst this may be an operational necessity, cutbacks in infrastructure and training are counter-productive to laying the foundations for future growth.

20. 8- Way forward? (1) Defining elements of the results chain from financial inputs to physical outputs, outcomes and developmental impacts � requires non-financial data to measure efficiency and effectiveness; Analysing linkages between policy objectives, the legal framework, institutional and governance capacity, service delivery levels and modalities, accountability mechanisms and developmental impact; Assist development of capacity of Parliamentary Budget Office. What value can we add?