1. 2019 Mid-year budget review
Shebo Nalishebo, Research Fellow, Public Finance
12 September, 2019

2. CHALLENGING Macroeconomic ENVIRONMENT
GDP growth (projected at 4%) revised downwards to 2-3%;
Immediately sends red flags about revenue targets
Despite constrained growth (2.6% in Q1), revenue targets were broadly in line with the targets
Inflation breached the 6-8% threshold beginning May
Adverse weather conditions undermined agriculture production, culminating into higher food prices.
International reserves (expected to be at least 3 months of import cover) depleted to 1.6 months as at end-June 2019
Country more vulnerable to liquidity risks
Load-shedding, reminiscent of when GDP declined from US$27 billion in 2014 to US$21 billion in 2015

3. BRINGING DOWN THE DEFICIT
Government is on track to meet its fiscal deficit target
Fiscal deficit target of 6.5% of GDP (down from 7.2% in 2018)
The fiscal deficit in H1 was 2.9% of GDP
well within the 6.5% annual target
due to higher than projected revenues
largely due to improved collection of non- tax revenue, and the scaling down of recurrent expenditure
But spending is being squeezed by higher than planned debt servicing costs and capital expenditure and capital expenditure
Capital expenditure K3 billion above target
has already used 73% of total planned capital expenditure for 2019
Debt interest payments K2 billion (or 27%) above target
already gorged 65% of the approved budget on interest payments in H1 alone, squeezing out other domestic spending.

4. REVENUE Revenue collection in H1 was higher than planned
K32.6 bn in revenue and grants, equivalent to % of GDP (2019 target: >18% of GDP)
Amounts to 56% of the approved revenue target for 2019, and 8% above the projection for H1.
VAT performed better than target projections
Other major tax types disappointed
Against a target of K7.5 bn, the actual VAT collections were K8.7 bn
Impressive collection in non-tax revenues
K7.0 bn, which was 50% above target.
This is due to higher than anticipated dividends and increased collections for user fees, fines and other charges

5. RISKS TO REVENUE PERFORMANCE
Unfavourable mining fiscal regime: mining sector bombarded with a number of tax measures
Increased mineral royalty rates by percentage points at all levels of the sliding scale and introduction of new tiers
Made mineral royalty tax non-deductible for income tax purposes
Introduced an import duty at the rate of 5% copper and cobalt concentrates
Introduced an export duty on precious metals (which included gold, precious stones and gemstones) at the rate of 15%
Lifted the suspension of the export duty on manganese ores and concentrates which was put in place in 2012 and increase this duty from 10 to 15%
Business uncertainty brought about by planned introduction of the non-refundable Sales Tax in place of VAT
VAT refunds risen as businesses look to make claims ahead of the sales tax launch date
VAT claims have increased from a monthly average of K800m in 2018 to K1.4 bn per month in the first half of
Subdued growth due to the effects of load shedding and increased debt

6. EXPENDITURE
Spending in the first half of 2019 was K2.8 bn above projections
mainly due to an additional K2bn on higher than projected interest payments and extra K3 bn on capital expenditure.
Capital expenditure was the highest expenditure item.
It accounted for K15 bn or 32% of total expenditure.
Non-capital expenditure has been restrained.
The public sector wage bill, interest payments, subsidies and other recurrent expenditures were 81% of domestic revenues during the first half of 2019
This implies that all recurrent expenditures can be completely covered from domestic revenues.
Looking good for fiscal sustainability

7. RECURRENT EXPENDITURE …IN MORE DETAIL
Social benefits hard hit
Government only managed less than 20% of projected spend.
Arrears build-up due to non-payment for goods & services
reported at K17.6 billion end March 2019
Difficulties for businesses in accessing credit from commercial banks
Resulting in a reduced pace of economic activity.
In August, the Finance Minister proposed a K9.8 billion supplementary budget to cover an emerging financing gap.
K6.4 bn of this is required to meet higher than anticipated debt obligations, due to depreciation of the Kwacha against the dollar, and to cover shortfalls over maturities of Government securities.
Approximately K8.7 bn is to be financed through the declaration of savings from within the existing budget.
Likely to further worsen arrears & funding to social benefits

8. FINANCING the deficit
6.5% fiscal deficit translates to ~K20bn borrowing
Borrowing in H1 was K10.9 bn.
Mostly funded by external borrowing and this is likely to continue for the rest of 2019
More external borrowing mitigates the crowding-out effect of private sector borrowing
But it makes the country more susceptible to exchange rate risks
Govt requires an additional K6.4bn for increased debt servicing costs (supplementary budget)
1.4% of GDP target for domestic borrowing likely to be met, not because of fiscal prudence, but because of no money in the domestic market
Domestic markets remain shallow and undiversified
limited investor base – mostly banks & pension funds
Against a target of 1.0% of GDP in domestic borrowing in the first half of the year, the Government only realised a tenth of that amount.

9. KEY MESSAGES & RECOMMENDATIONS
Revenues were above target partly due to higher than planned income from dividends
The reorganisation of state-owned enterprises can bring in more dividends
Non-deductibility of mineral royalties for income tax purposes hurting mines’ bottom lines and likely to hurt growth
Consider reversal of this measure
Sales tax talk has created uncertainty and increased claims
Reconsider migration to sales tax given the adverse ramifications such as the cascading effect
Continued higher than planned capital expenditure, which is largely borrowed externally, contributing to high debt servicing payments
Debt service payments take precedence over other spending, compromising service delivery & increasing accumulation of arrears
Ministry of Finance needs to devise an arrears clearance strategy with a phased approach of how the arrears will be dealt with in the short to medium term
Government needs to ring-fence social spending

10. CONCLUSION
The Government needs to improve investor confidence and remove uncertainties brought about by the new mining fiscal regime and the impending sales tax
Increasing taxes in a constrained growth environment is a definite no-no: Government should instead consider reducing some tax rates (e.g. non-deductibility of sales tax from income tax) to lower business costs and stimulate productivity & production.
This will in turn help spur investment, bring back the growth, improve revenue receipts to fund critical social services which are presently under-funded
Externally-borrowed funds are mainly used for building infrastructure. This adds to debt servicing costs which are prioritised over other spending.
Therefore, capital spending needs to be rationalised.