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Government borrowing and the private sector

On June 6, the Reserve Bank of Malawi (RBM) published ‘Report and Annual Accounts’ for the year ended December 31 2016. Those who have time and are concerned about the economic performance of this country would do themselves a service to read this report.

One problem with reconciling the figures in the RBM report and the Ministry of Finance annual reports is the differences in the fiscal years. It would be interesting to find out the rationale for keeping the fiscal year of the RBM from January 1 to December 31 while the official Malawi Government fiscal year runs from July 1 to June 30.

The Nutcracker might be naïve but would it not make economic planning easier if the two synchronised their accounting years. This would make planning and assessment of the economic indicators easier and assist in making the right judgements when it comes to major economic decisions.

This confusion makes economic decision making unrealistic. Take, for example, the assertion by Minister of Finance Goodall Gondwe when presenting the 2017/2018 budget statement. In his statement, he claimed that the economy grew by 2.7 percent in 2016. Is this figure a reference to the growth between January and December 2016 or July 2016 to June 2017? If the figure is for January to December 2016, then it is problematic since the economic growth assumption is including two financial years? These are the last half of 2015/2016 fiscal year and the first half of 2016/2017 fiscal year. Reading the RBM annual report gives the impression that the figure of 2.7 percent is for January to December 2016. So, when the minister claims that the economy in 2017 will grow by 6.1 percent, is this the growth for January to December 2017 or indeed July 2017 to June 2018? Can someone out there clear this confusion?

That said the focus of this submission is not about the synchronisation of the RBM and Ministry of Finance accounting years. Going through the RBM report, one cannot but marvel at the rate at which the government is crowding out private investment. This is extremely important because the major constraint to a national budget that would massively impact growth is the capacity to generate revenue. It is common sense that the amount of money that a government and, in fact, any entity can spend depends on how much that entity can generate in revenue. For a long time, this country has been unable to finance its annual needs from its revenue. Due to the reduction in the donor support to the country, the difference in expenditure and revenue has been bridged by increased borrowing. What is more disheartening in Malawi is that sometimes revenue is less than recurrent expenditure. This means the country is technically borrowing to pay salaries. Unfortunately, the country cannot continue to borrow ad infinitum without consequences. This is because there is a cost to borrowing.

According the RBM report, in 2016, domestic credit increased by K152.9 billion (25.3 percent) to K757.3 billion compared to an increment of K146.1 billion (31.9 percent) recorded in 2015. This increase is mainly attributed to net claims on central government which increased by K130.8 billion to K339.8 billion compared to a growth of K55.6 billion in 2015. A total of K135.0 billion was extended to the public sector, of which K130.8 billion (96.9 percent) was extended to the central government with only K4.1 billion (3.1 percent) channelled to statutory bodies.

Other than the argument of crowding out of the private sector, there is also the issue of cost of borrowing which is bound to continue to go up. This would put further pressure on the budget as debt servicing whose budget is put at K185.8 billion or about 14.3 percent of budget or 19.6 percent of recurrent expenditure is sure to go up. Since the economy has not fully recovered from the two years of negative growth in agricultural production (-1.0 percent in 2015 and -0.2 percent in 2016), the government must continue to reduce wasteful expenditure while at the same time increasing productive expenditure to stimulate the economy and consumption, generate employment, improve capacity utilisation and ensure positive economic growth.

The easiest way to avoid borrowing massive amounts of money to meet the country’s annual expenditures is to increase government revenue. Introducing a new tax bracket of 35% for wage income above K3,000,000 per month to enhance income distribution is one way but it is not adequate. The most sustainable option is to expand the tax base and bring more people into the tax net. The private sector can be a very important source of this increased tax base and ease the tendency to rely on VAT on commodities that are consumed more proportionately by the poor. Unfortunately, the private sector is a bit shallow in this country. Most of what the country has today as private sector is dependent on the government as the main customer. The public sector had over the years assumed a larger-than-life image dominating every facet of the economy. That has created a private sector that is filled with government contractors and vendors. This not only fuels corruption but can also lead to the habit of patronage in the private sector. Without a vibrant private sector, then the estimated tax revenue of K900.8 billion will not be realised. Without those tax revenues, then we should brace ourselves for a partial implementation of the 2017/2018 budget yet again.

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