RENOWNED ECONOMIC Think Tank, the Institute for Fiscal Studies (IFS), has cautioned the government to urgently re-examine its many programmes and policies and prune them down to avert economic instability.
According to the IFS, though the government has recognised the need for broad-based economic growth as a means to tackle unemployment and is, thus, embarking on programmes in the areas of agriculture, infrastructure, and industrialisation to transform the economy, “the programmes and initiatives are too many.
“Some of them are also too grandiose. They require very large amounts of funding. How can the government fund these numerous and grandiose programmes and initiatives, given that the country is on a fiscal consolidation path; government revenue has consistently fallen short of initial budgets since 2012; and there is presently no available free fiscal space, since three rigid expenditure items in the forms earmarked expenditure, compensation of employees and debt service expenditure have consistently exceeded total revenue and grants since 2013?”
Some government projects that have a huge toll on government revenue are Infrastructure for Poverty Eradication Program (IPEP); One District, One Factor (1D1F); The National Industrialization Revitalization Program – A Stimulus Package for Industry; Industrial Parks and Special Economic Zones; US$10 million National Entrepreneurship and Innovation Program (NEIP) and Planting for Food and Jobs.
Others are establishment of a GH₵400 million Fund to de-risk Agriculture; Development of Modern Storage Facilities through ‘One-district, One Warehouse’ programme; Akufo-Addo Programme for Economic Transformation (AAPET); and the establishment of Zongo Development Fund to develop Zongos and inner cities into centers of opportunity.
“The government has also launched the Nation Builders Corps (NABCO) to directly provide jobs for the youth, specifically university graduates. These are on top of high money-consuming initiatives like the Free Public Senior High School Programme; US$1 million for each constituency; etc.
“It is commendable that the government has recognised the need for a broad-based approach to economic growth. However, the programmes and initiatives are too many. For instance in 2017, these three rigid expenditure items alone amounted to GH₵46.35 billion, exceeding total revenue and grants of GH₵41.50 billion by 11.7%. Indeed, these programs and initiatives can only be accommodated if the government resorts to large amounts of borrowing.”
Need to control borrowing
At a press conference in Accra, Dr Said Boakye, a senior fellow at the Institute, speaking on ‘IFS’ Expectations of Ghana’s 2019 National Budget,’ also urged the government to avoid large amounts of borrowing.
“Recent announcement of its desire to borrow US$50 billion in a century bond is clearly the result of its inability to raise large sums of revenue to fund these numerous programs and initiatives.
“Large amounts of borrowing stand the risk of reversing the fiscal gains made in the past two years. Why?
“It will impose additional significant debt service burden. The country’s fiscal state continues to be weak and fragile. Large amount of borrowing can therefore plunge the country into serious fiscal difficulties and macroeconomic instability.”
Speaking on ‘Revenue and Expenditure Issues,’ Dr John K. Kwakye, Director of Research, IFS, also urged the government to completely overhaul the tax-exemptions regime, plug all loopholes, deal with vested interests, check abuse and reduce exemptions to the minimum.
“Tax rebates granted to the mining sector and free zones should be reviewed to maximise intakes from those sectors. Some of those tax rebates were granted decades ago; they have become obsolete and are inimical to Ghana’s interests.
“The tax rebates need to be renegotiated to bring them in line with modern trends and standards. There is a need to revalue real properties periodically to ensure that assessed taxes are commensurate with the commercial values of the properties,” Dr Kwakye noted.
The media engagement was moderated by Prof. Newman Kusi, Executive Director, IFS.
Below are the presentations by Dr Said Boakye and Dr John Kwakye:
Revenue and Expenditure Issues
PRESENTED BY DR JOHN KWAKYE
Like the 2017 budget, the 2018 budget has also been characterized by significant shortfall in revenue. In fact, Ghana’s revenue mobilization effort continues to fall short of its own potential as well the effort of many of its peers. Ghana’s tax/GDP of 16-17% has been estimated conservatively by the World Bank to be about 5% of GDP below its potential and compares unfavorably with the average of about 25% for low-middle-income countries.
The reasons for Ghana’s low tax effort include: the near-exclusion of the informal sector from the tax net, high level of tax exemptions, pervasive tax evasion, overly-generous tax incentives offered to the extractives and free-zones companies, under-taxation of real properties, illicit financial flows and other tax fraud and corruption. The tax intake during 2017-2018 has been further affected by the decision to reduce and/or eliminate several taxes and levies in line with Government’s stated economic management philosophy of “shifting economic policy from taxation to production.”
There is a need for far-reaching measures to increase domestic revenue to acceptable levels. IFS has written and spoken extensively on this issue, but it is important to repeat here some of our recommendations to turn the situation around in the 2019 budget. Our recommendations are actually tailored to addressing the lapses in the tax policies and administration enumerated above. Roping most of the informal sector into the tax net is key to increasing the overall intake. Here, recent efforts to digitize various areas of economic activity promise to increase taxation from the informal sector.
The efforts should, therefore, be reinforced and fully followed through, backed by close monitoring to avert any abuses. There is a need to completely overhaul the tax-exemptions regime, plug all loopholes, deal with vested interests, check abuse and reduce exemptions to the minimum. Tax rebates granted to the mining sector and free zones should be reviewed to maximize intakes from those sectors. Some of those tax rebates were granted decades ago; they have become obsolete and are inimical to Ghana’s interests. The tax rebates need to be renegotiated to bring them in line with modern trends and standards. There is a need to revalue real properties periodically to ensure that assessed taxes are commensurate with the commercial values of the properties. District Assemblies (DAs) who are responsible for collecting these taxes seem to lack the capacity and resources to undertake the property revaluations and collect the due taxes. The DAs should, therefore, be resourced to carry out their responsibility fully. To incentivize the DA’s to collect property taxes as part of their internally-generated funds (IGFs), inter-governmental transfers due them should be linked to these taxes.
Illicit financial flows under trade mis-invoicing and other malpractices are estimated to cost the country billions of dollars in revenue losses. According to DANIDA and World Bank studies, the revenue losses to Ghana through these shady deals result in annual losses of between US$2-5 billion. The recently introduced Cargo Tracking Note (CTN) represents an important step in checking trade mis-invoicing and should be rigorously enforced. There is a need to introduce other measures and systems to check other rampant fraudulent and corrupt tax practices that deprive Government large amounts of revenue annually. It has to be stressed that we can mobilize enough domestic resources to develop the country and realise government’s vision of “Ghana beyond aid” through a comprehensive revenue-enhancing strategy, involving changes in tax policies, tax systems, tax administration and enforcement mechanisms.
While making efforts to increase domestic revenue, it is equally important that we spend whatever we collect prudently and efficiently to promote national development. Concerted efforts to reduce and rationalize expenditure are urgently required. IFS has articulated extensively on expenditure rigidities—in the form of earmarked funds, wages and debt service—that virtually hold the budget hostage and leave little or no fiscal space to address critical development and social outlays.
With this limited fiscal space, it is even more important to restrict consumption spending, including relating to travel, entertainment, subsidies, free allowances, etc. Expenditure on what is obviously a bloated public sector needs to be curtailed through appropriate reforms, including possible down-sizing of the sector. In this regard, some of Governments’ policy initiatives, especially the consumption-based ones, such as nursing trainee allowances, teacher trainee allowances and some components of the FSHS policy, may have to be reexamined to reduce costs while exploringother non-Government funding alternatives. A stark consequence of the large shortfalls in revenue has been a severe depression of critical capital and social expenditure.In fact ourdevelopment budget has virtually been cut to the bone. Capital expenditure (CPEX) in the 2018 budget was a mere 2.9% of GDP.
This was further reduced to 2.6% in the mind-year review. Comparatively, wages and interest accounted for 6.9% and 6.2% of GDP respectively in the 2018 budget. The continuing skewing of expenditure against CAPEX is a trend that is inimical to long-term growth and needs to be reversed as a matter of urgency. It is our expectation that serious expenditure rebalancing will be effected in the 2019 budget in favour of productive capital spending to enhance long-term development.
Borrowing and debt
As a result of borrowing to finance averagely high budget deficits, Ghana’s debt has risen from a HIPC relief-influenced low of 26% of GDP in 2006 to 65.9%in July 2018 (latest available figure). In absolute terms, the debt stock at the end of July 2018 was GHc159 billion (compared with GHc122 billion at the end of December 2016), implying an increase of GHc37 billion over that period. Debt/GDP ratios are used internationally to roughly gauge the sustainability of countries’ debts. In this connection, 60% has become a rough sustainability threshold, although the exact threshold will vary from country to country depending on individual circumstances. For Ghana, IMF has repeatedly warned about the country “facing a high risk of (external) debt distress” in its reviews of the country’s ECF-supported program. While the debt stock may be used to indicate the degree of distress, it is actually the debt service that represents an immediate burden. In fact, Ghana currently spends over 40% of its tax revenue to service its debt. As mentioned above, this, along with other statutory obligations, has placed considerable strain on the budget, leaving limited space for critical development and social outlays. Ghana’s current debt and debt service levels were generally regarded to be above sustainable thresholds.
But then enters rebasing of the economy that has increased the 2017 GDP, for instance, by as much as 25%. The effect of this sharp GDP increase has been to reduce the 2017 debt/GDP ratio instantly from 73% to 56%.Does this suggest, however, that Ghana’s debt is suddenly back to “sustainability,”if 60% is used as the rough threshold? Does it also imply thatmore space has been created for borrowing? We would caution that the “60% threshold” should be regarded as a rough figure only and should not be taken at its face value. Each country is different in its capacity to carry debt sustainably. This capacity is dependent on the country’s level of development, exemplified, in part, by the quality of its policies and institutions. The World Bank compiles Country Policy and Institutional Assessment (CPIA) scores that is used to classify countries as strong, medium and poor performers and used to determine their debt sustainability thresholds. Ghana is currently classified among the medium performers, and for those countries, the sustainability ofthe ‘present value’ of debt/GDP, which is not exactly the nominal debt/GDP but may be used here in its stead, is stated to be about 55%. Therefore, if our rebased GDP has “artificially” slashed our debt to GDP ratio to 56%, let us do everything to safeguard it rather than scaling it up through unplanned borrowing. Moreover, as noted immediately above, it is the debt service, not the debt stock, that creates immediate burden. The rebasing will in no way depress the debt service/tax revenue.
The way to avoid future debt crisis is to ensure sustained fiscal consolidation to contain the deficit and associated borrowing. This, in turn, will require, as noted above, increased domestic revenue mobilization to fund rationalized expenditure. One hears from time to time reports of actual and planned borrowing, in some cases involving substantial amounts. it has to be said that once the borrowing is consistent with the planned budget deficits, it would not endanger long-term fiscal and debt sustainability. Some of the borrowing may be required to finance maturing debt, which will have no net effect on the fiscal deficit. However, any borrowing that is to be used to fund expenditure beyond the planned deficits will breach the appropriations acts and should be prevented by parliament. It has to be emphasized that the scheduled disbursement of any loan must conform to the budget cycle and parliament must ensure that this rule is absolutely respected.
Ghana has a large deficit in infrastructure in the form of roads, railways, bridges, ports, harbours, housing, power distribution facilities, communications facilities, etc.Infrastructure is a critical ingredient of economic growth so the large deficit constitutes a major drag on growth in Ghana. The gap has arisen as a result of inadequate public investment over the years, since, as pointed out above, the capital budget has been continually trimmed amid revenue shortfalls coupled with growing recurrent and statutory outlays. The need to scale up infrastructure development has become urgent and finance remains a key binding constraint. Like many other African countries, Ghana lacks enough domestic resources to finance infrastructure. As such, borrowing would seem to be an inevitable option. Given the large size of infrastructure deficit, the financing requirements are equally huge. Ghana’s access to bilateral and multilateral resources is normally limited and after the country attained lower-middle-income status from 2007 and started producing oil from 2010, its access to especially concessional resources has been significantly curtailed.
To fill the gap in Ghana’s infrastructure financing need, Government has expressed its intention to access other facilities. One of such facilities is a proposed bauxite-infrastructure exchange, involving some US$2 billion with the Chinese Sinohydro Group. There has been quite a debate about whether the exchange is a barter, as Government claims, or a loan, as the opposition maintains. But this debate aside, there are unanswered questions regarding the exact terms of the agreement, including Ghana’s obligations and the consequences for possible breaches of the agreement. These matters are important especially because of experiences of other African countries that have had similar dealings with the Chinese. For instance, it is reported that in Zambia, infrastructure financed by similar financial agreements have had to be ceded to the Chinese after failure to honour some of the financial obligations. Therefore, there appears to be the real risk of what is initially intended to be a barter or loan agreement turning out to become an equity transaction with the Chinese eventually taking over our strategic and essential infrastructure. The foregoing arguments call for a careful approach to the arrangement to ensure that all the loopholes are considered and appropriately plugged to minimize the potential adverse consequences while maximizing the benefits to the country.Government has also proposed to issue a US$50 billion Century Bond for financing infrastructure development.
Here also, there are questions regarding the financial terms, the timeframe for sourcing these funds, etc. Obviously, the bond is going to impose a huge financial burden on the country in terms of the long-term repayment cost as well as the short-term servicing cost. Also pertinent is the question of the capacity of the country to absorb such a huge amount in an efficient manner—especially if it is to be disbursed in short order. The choice of projects is equally important, since they must be able to produce adequate economic returns to enable repayment of the cost of the bond. IFS has expressed widespread views on the Century Bond in a published paper, to which we refer the media.
At this juncture, we want to draw attention to the availability of the Ghana Infrastructure Investment Fund (GIIF) with initial seeded capital of us $250 million and wonder why it does appear that the fund is not playing its original role of serving as a source for funding a diversifeied portfolio of infrastructure projects to promote national development. Creating parallel systems, as it appears is being done, stands the risk of inefficiency and counter-productiveness.
The point we made above about the need to synchronise borrowing with the budget cycle also applies here. In other words, it is critical that every borrowing is consistent with the budget financing requirements so that long-term fiscal and debt sustainability would be guaranteed. And here also, parliament needs to be extremely vigilant to check any extra-budgetary borrowings.
Financial sector developments
The Ghanaian financial sector has faced major challenges in recent years. An Asset Quality Review (AQR) exercise carried out by Bank of Ghana (BoG) in 2015 reportedly revealed serious deficiencies in the balance sheets and operations of several banks, including: large capital deficits, high levels of impaired assets, irregular loan practices, and prevalence of liquidity shortfalls that had led to persistent dependence on central bank support. To address the observed deficiencies and sanitize the banking sector, BoG initiated a series of intervention measures that have led to closure of two banks and merger of five others. In all the cases, Government provided funding to the acquiring banks to safeguard depositor funds. This move prevented, to some degree, panic withdrawals by customers—and potential systemic risk to the industry—although at considerable cost to the state and taxpayer.
The deficiencies in the banking sector revealed by the AQR were due to numerous factors—some of which were internal to the industry, and others, external. Among the internal factors were: weak credit management and corporate governance practices along with high administrative and other operational costs. On the other hand, external to the industry, weak financial oversight had allowed irregular practices to prevail. Loans to Government creditors were pervasive in the banking sector and although many were reported to be backed by approved certificates, some were still downgraded by BoG, which worsened the NPL and capital positions of the banks involved. Banks’ cost of funds had remained high as a reflection of the prevalence of macroeconomic instability. High cost of public services had compounded banks’ operational costs, as had high taxes. Inadequate information on customers, in terms of addresses and credit status, had exacerbated credit defaults and NPLs. Monetary policy had imposed additional financial burden on banks in the form of high and currency-differentiated reserve requirements. General macroeconomic instability had increased banks’ costs and risks. SO, CLEARLY, THE Problems facing the banking sector were multifaceted and had not only internal origins but external origins as well. in the circumstance, restoring sanity to the banking sector requires a holistic approach to address all the factors simultaneously.
It has to be said that indigenous banks faced more serious challenges than their foreign counterparts. They appeared to be plagued by weaker corporate governance and credit management practices. But these aside, the indigenous banks were more exposed to SMEs and unpaid government contractors and other suppliers—customers that are usually shunned by the foreign banks for being too risky to deal with.
The indigenous banks, therefore, had to bear the brunt of most of the NPLs, which eroded their capital adequacy. Their problem was compounded when BoG prescribed the same minimum recapitalization level of GHc400 million for all banks irrespective of their size or nature of operations and stipulated the same deadline for all of them.
The intervention measures introduced by BoG will certainly result in a more consolidated banking industry. Some people have argued that Ghana had too many banks for its size and that consolidation was an inevitable outcome for efficiency and stability of the industry. While these arguments may be valid, unless some of the fundamental factors that gave rise to the crisis are seriously addressed, there is a risk of re-emergence of similar crisis in future—after all, a similar episode occurred in the late eighties.
Among others, there is a need to strengthen corporate governance and risk management practices while also reinforcing safety nets such customer information and credit status to reduce the incidence of NPLS. Also, it is important for government to honour its payment obligations promptly to reduce associated proxy borrowing from banks. Sustaining macroeconomic stability is also key as persistent instability will quickly erode the enhanced capital base of banks, thereby necessitating another round of recapitalization. Not giving special dispensation to local banks, including by allowing them more time to recapitalise, in view of their peculiar circumstances, was also probably a missed opportunity that could have save many from eventual collapse.