epa06550355 President of South Africa Cyril Ramaphosa gestures during the annual budget speech delivered by Finance Minister Malusi Gigaba (unseen) at the house of parliament in Cape Town, South Africa, 21 February 2018. The main element of budget speach is the rise in the value-added tax (VAT) for the first time since 1993, from 14 to 15 percent. EPA/BRENTON GEACH
President Cyril Ramaphosa in parliament during the annual budget speech on Wednesday when VAT was raised by one percentage point © EPA

South Africa has raised value added tax for the first time in the democratic era as new president Cyril Ramaphosa seeks to turn around state finances battered by years of corruption and mismanagement.

Malusi Gigaba, the finance minister, said in Wednesday’s budget that the treasury was forced to take the politically sensitive decision to increase VAT and income tax to prevent South Africa falling further into junk status and to tackle rising debt.

The tax hikes suggests that Mr Ramaphosa is cementing his hold on the government and willing to gamble as he pledges to revive the fortunes of Africa’s most industrialised nation. The 65-year-old, who is one of the country’s richest black businessmen, replaced Jacob Zuma as president last week after a protracted power struggle in the ruling African National Congress.

Under Mr Zuma, the economy stagnated, state-owned firms were engulfed by allegations of corruption and rating agencies downgraded South Africa’s credit rating to subinvestment grade.

“These fiscal proposals will cause economic discomfort but they are necessary to protect the integrity of the public finances,” said Mr Gigaba, calling the one percentage point increase in VAT “unavoidable”.

The country has one of the lowest VAT rates in emerging markets, but the increase from 14 per cent to 15 per cent indicates that the cost of repairing state finances will fall on consumers — a risk for the ANC a year ahead of national elections.

It was the first increase in VAT since 1993, the year before the ANC swept to power at the country’s first democratic election.

“While the budget takes a bold step in terms of the decision to hike the VAT rate, and bigger fiscal buffers provide some scope to absorb unforeseen spending and revenue shocks, there remain too many unanswered questions for us to be comfortable with the fiscal framework,” said David Faulkner, economist at HSBC.

“What is still missing is fundamental budget reform that seeks to shift the composition of expenditure away from wages, and a credible South Africa growth story supported by a coherent set of policies that tackle the structural constraints in the economy,” he said.

Civil society groups said that they opposed raising VAT as a “disproportionate burden on the poor”.

Mr Gigaba said that increasing VAT and personal income taxes would raise R36bn ($3bn) in revenue and cut the fiscal deficit from an expected 4.3 per cent of gross domestic product in the financial year ending 2018 to 3.5 per cent in 2020. The government is facing a R50bn shortfall in tax revenue due to the weak economy.

The treasury must also find extra funding for higher education to meet a pledge made by Mr Zuma last year when he was in the midst of the ANC leadership battle. The policy, which is part of efforts to tackle inequality, is due to cost R57bn over the next three years.

Mr Ramaphosa is expected to reshuffle the cabinet to assert his authority, with analysts predicting that Mr Gigaba is likely to lose his job alongside other ministers who were considered allies of Mr Zuma.

The president has also pledged to crack down on state corruption, and since he took over the leadership of the ANC in December, authorities have launched a string of probes into graft.

These include investigations into the influence of the Gupta business family, which is alleged to have used its friendship with Mr Zuma to infiltrate state institutions and win lucrative government contracts. The Guptas and Mr Zuma have repeatedly denied any wrongdoing.

Police have called the Guptas fugitives from justice following raids on the family’s home and businesses last week as Mr Zuma resigned.

Parliament also announced on Wednesday that it would launch an inquiry into Mosebenzi Zwane, the mining minister allied to Mr Zuma, over his ties to the Guptas.

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