Freeing South Africa's Economy for Growth

Published on 21st September 2010

Finance Minister Pravin Gordhan recently said that, “South Africa needed to set itself a target of growing by around 7 per cent over a 20-year period in order to deal with unemployment and poverty in the country.” The fact that Mr Gordhan recognises economic growth as an important factor in reducing unemployment and poverty should be applauded. His view is in stark contrast to that of some partners of government who believe that the redistribution of wealth would be a more effective vehicle. If a 7 per cent rate of growth is achieved, incomes will double roughly every 10 years as opposed to every 14 years if we return to our pre-crisis growth rate of 5 per cent. But the question remains: Can SA achieve a 7 per cent level of growth?

Looking at SA’s history, the only times we have achieved a growth rate of 7 per cent or more were: 1963 (7.4%), 1964 (7.9%), 1965 (8.7%) and 1967 (7.1%). Over the last 40 years we have averaged a mere 3.3 per cent. The interventionist policies adopted by the apartheid government severely retarded growth, but the growth rate over the last 16 years averages only 3.5 per cent.

An economic policy of redistribution was clearly favoured these last 16 years. This is particularly evident when we see that SA’s 5.5 million taxpaying individuals now support over 13 million welfare recipients. Economist Mike Schussler commented that SA is the biggest welfare state in the world. In the last few decades, the world has witnessed an unprecedented number of people being lifted out of poverty; the majority of these reductions happening in high growth countries like China and India. In contrast, in spite of its redistribution of wealth policies, over the last 16 years, SA has barely succeeded in lifting a significant proportion of its population out of poverty

The Chinese economy has grown at an average annual rate of 9.8 per cent for two and a half decades, while India’s economy has grown at around 5 to 6 per cent per year over the same period. According to the World Bank, in China, the number of people living on less than US$1.25 a day in 2005 prices has dropped from 835 million in 1981 to 207 million in 2005. In India, the poverty rate as a share of the total population went from 60 per cent in 1981 to 42 per cent in 2005. According to Standard Bank, between 1986 and 2006, the size of India’s middle class quadrupled and, every year, 1 per cent of the country’s poor crossed over the poverty line.

Both China and India adopted market-orientated reforms. In late 1978, the Chinese leadership began moving the country from a sluggish, inefficient, Soviet-style centrally planned economy to a more market-oriented system through the implementation of special economic zones (SEZs) in strategic areas of the country. The result has been a quadrupling of GDP. These reforms attracted investment in wholly owned facilities by corporate giants such as Nokia, Motorola, Philips, Intel, IBM, HP and Procter and Gamble.

However, although trade liberalisation is a necessary condition for growth, it is not entirely sufficient. Without complementary conditions, such as macroeconomic stability, credibility of policy, enforcement of contracts and respect for private property rights, the benefits of openness may fail to materialise. SA has it directly within its power to increase economic growth by adopting policies that will rapidly reduce poverty. All of these policies relate to economic freedom.

In the annual Economic Freedom of the World report, there are published indices that measure the degree to which the policies and institutions of countries are supportive of economic freedom. This data unequivocally demonstrates that economic freedom is strongly related to prosperity and growth. It reveals that the foundations of economic freedom are personal choice, voluntary exchange, freedom to compete and security of privately owned property. If, in SA, these fundamental freedoms are not increased, it is difficult to envisage how the country can grow and become more prosperous. Adam Smith, Friedrich Hayek and Milton Friedman, the great liberal economists, all maintained that freedom of exchange and market co-ordination provide the fuel for economic progress. Without exchange and entrepreneurial activity, co-ordinated through markets, modern living standards would be impossible. This notion is supported by a brief look at the countries that have been at the top of the economic freedom ratings over the past few years.

In the 2009 report, Hong Kong was rated 8.97 out of 10, closely followed by Singapore at 8.66. New Zealand, Switzerland, and Chile ranked third, fourth and fifth respectively. The other top 10 nations were United States, Ireland, Canada, Australia, and United Kingdom. Most of these countries appear in the top ten of the United Nations’ Human Development Index and all of them rank amongst the top 25. Economic freedom is common to all these nations and ensures not only high standards of living for their people through high economic growth rates, but also all the other positive benefits of high scores on the United Nations measures of human development.

In the same report, SA was ranked half way down the list of 141 countries measured. Zimbabwe was ranked in last position. Africa’s top rated economy was Mauritius; another country that has embarked on a market-orientated development path. The Mauritian government has repeatedly stated that it has set itself the target of achieving a top 10 position in the World Bank’s “Doing Business” report; an announcement that sends positive signals to international investors that Mauritius is committed to accepting and accommodating investments and assures local investors that they will also gain in an environment that is conducive to doing business.

SA could achieve higher levels of economic growth and improved economic freedom ratings if the government instituted reforms in the following areas (ratings are based on a range from 1 to 10 with lower values reflecting poorer scores): reduce government consumption expenditure (4.66), reduce top marginal tax rates (5.5), remove restrictions on foreign capital transactions (0.77), reduce the effect of minimum wages (1.36), increase flexibility in hiring and firing (2.22), reduce the negative consequences of collective bargaining (4.19), reduce the burden of regulations (3.05), reduce bureaucracy costs (3.77) and remove price controls (3.2).

Government is under pressure to increase intervention in business and reduce economic freedom. But, on the other hand, there are signs that influential members of government are well aware of the potential negative consequences of adopting the type of ‘command economy’ policies that were pursued by the apartheid government. Authoritarian government, for twenty years, gave us a shrinking economy. If we want to boost employment and reduce poverty, we cannot afford another similar period of stagnation. Redistributing existing wealth by taxing productive individuals and companies reduces the incentive for them to produce goods and services, and thereby retards growth. Rapid growth in a flourishing economy is essential and the route to achieve that desirable end is through increased economic freedom.

History demonstrates that economic growth is the key to reducing poverty and that the key to economic growth is economic freedom. SA can achieve a 7 per cent growth rate if it follows the tried and tested route to prosperity.

By Jasson Urbach

The author is an economist with the Free Market Foundation.

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