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2015 budget issues

ECONOMIC Association of Zambia vice president Robert Liebenthal (left) with Chambers of Mines President Jackson Sikamo during the 2015Budget analysis organized by Konkola Cooper Mine in Lusaka. Picture: COLLINS PHIRI.

ROBERT LIEBENTHAL From the point of view of the impact of the budget on the Zambian economy (and leaving aside mining tax) – the most important piece of news is that the budget deficit is decreasing to 5.5 percent of gross domestic product (GDP) from 6.5  percent last year, and that the minister is targeting it to fall further to 4.6 percent next year, with domestic borrowing at 2 percent of GDP for 2015.  Apart from food and fuel prices, it is the budget deficit and the way it is financed that has the greatest short-term impact on inflation, interest rates and indirectly the exchange rate. Domestic borrowing through treasury bills and bonds has drained bank liquidity in the early part of the year.  With the 6-month TB rate at 17 percent, it is not surprising that bank lending rates have remained high, though it is not the only factor.  Therefore reducing domestic borrowing from the banking system is, and should remain, a high priority.  Likewise, inflation, now at eight percent, is slightly above target, and so the statement and the commitments to control it better are welcome. External financing of the deficit for 2015 is targeted at 2.8 percent of GDP.  The Minister of Finance Alexander Chikwanda is correct in saying that Zambia’s external public debt is still within acceptable limits. Indeed, one might be surprised that, within 8 years of Zambia’s debt being written off by Highly Indebted Poor Countries (HIPC) and Multilateral Debt Relief Initiative (MDRI), we would even be raising that question.  But there are concerns.  First, the rate at which external debt has been increasing (i.e. the size of the deficit) suggested at one point that it was getting out of control. The large exchange rate depreciation earlier this year was, one suspects, partly a reaction to that fear.  Then there are the terms on which external finance is available, notably the latest Eurobond.  External debt service on the two Eurobonds is now running at US$120 million per year; not a small sum. It is the quality of the expenditure financed by the external borrowing that is crucial.  And it is important to note that it is not the projects directly financed by the Eurobond that are to be considered here, it is the marginal expenditure which is made possible by the extra financing. The target for domestic revenue is K35.1 billion, or 18.5 percent of GDP.  It is set to increase further during the Revised Sixth National Development Plan (R-SNDP) period.  A large part of the increase is from mining, and we are told that this is because of the change in the mining tax regime, notably the increase in mineral royalties.  There is no doubt that revenue from mining needed to increase, but there are some questions: Is the increase due to the change in the system, or were we not going to see an increase, anyway, from corporate income tax (CIT) as the capital allowances and loss carry-overs were fading out? There has been widespread frustration with the CIT because of transfer pricing and other forms of tax evasion by some mining companies.  But is this not throwing the baby out with the bathwater?  ZRA and other branches of government, and their international partners, cannot give up on ensuring compliance, which means verifying results through tax audits and investigations.  Sooner or later, a profit-based tax system will be needed.  All countries exporting minerals use a mixed system. For open-cast mines, the royalty rate goes up more than threefold.  Presumably the difference with underground mines is a device to deal with different cost structures.  But what effect will this have on new mine investment, especially since capital costs presumably cannot be carried forward any longer?  And what effect will it have on exploration? Little is said in the budget speech about tax administration, yet we know that tax evasion is rampant.  A recent study by Zambia Institute and Research (ZIPAR) concludes that potentially uncollected PAYE could be as high as 6.7 percent of GDP and 40.3 percent of total tax revenue.  Similar calculations could be made for VAT and CIT.  ZRA is trying to improve its performance and address these issues.  But there is a long way to go, and it is surprising that the issue is not being flagged by the minister. Last, the expenditure side.  Much will be said about the wage freeze.  Whether this is the right answer or not, public sector wages and salaries currently absorb more than 50 percent of the budget, probably more than 10 percent of GDP.  This cannot be sustained, so something needs to happen.  At the same time, government is right to increase the number of extension workers, teachers and community health workers, crucial frontline people who offer services that directly address poverty.  So it is hard to see how a wage freeze can be avoided.  Likewise, the small allocation to the cash transfer programme, which has been shown to be effective in reducing poverty in many countries, is welcome, and could indeed be larger. This brings me to the thorny issue of expenditure management.  Parliament will now spend several weeks debating the yellow book (or whatever replaces it under the proposed reforms) vote by vote and line by line.  But we know that, based on past experience, actual spending will probably diverge significantly from the approved estimates, for all sorts of reasons, some good some not so good.  On some accounts, the expenditure system has all but broken down, with the Ministry of Finance effectively operating a cash budget system. Against this background, the minister tells us that the Public Finance Management reform was launched; that Integrated Financial Management Infoation System is being rolled out to more sites; that the new planning and budgeting policy has been published. Nothing could be more laudable than making expenditure more results-oriented, but will it address the fundamental problem of the apparently broken expenditure system? Where has it worked and where is it working?  Is it true that even highly developed and sophisticated countries are struggling with it?  Will it become yet another well-intentioned innovation that ends up complicating things while not addressing the basic problems with the system? My plea would be to introduce, as part of the planning and budgeting cycle, an annual public expenditure review, that systematically scores the successes and failures, studies the causes and ensures that, year by year, there is learning from mistakes and from successes.  Other countries, like South Africa, Tanzania and Uganda, have used such a system.  Why wouldn’t it work in Zambia? The author is an economist and consultant

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