Why SA needs to spend its way out of the growth crisis
Stimulating demand is the key to expanding growth
There is no fiscal problem in SA, even as debt-to-GDP creeps higher. There is a growth problem and it manifests in a fiscal problem. Until we diagnose the problem correctly, the solution will elude us.
What exactly is wrong? There are serious long-term structural issues that can be resolved only by refocusing the economy on sectors that will produce more rapid growth, mostly export-orientated manufacturing. In good times and bad times since the 1980s, the economy has not been able to produce enough new jobs to employ all workers.
But there is a second problem that often goes unrecognised due to the scale of the first problem. That is the cyclical problem that has bedevilled the economy, turning it from a 4.5% growth economy in 2002-2008 to a 1.7% growth economy since 2010. Partly this is generally due to slower global growth, but the impact has been worse on SA.
In 2000, 41 countries’ GDP per capita was 50% higher or lower than SA’s. From 2000 to 2008 these countries grew an average 4.3%, about the same as SA’s 4.2% growth. But in the seven years since the financial crisis, this group grew an average 2.9% while SA’s growth fell to 1.5%.
So why did SA’s recovery peter out? The pattern of growth provides an answer. If a stagnant economy is associated with high inflation, structural supply-side factors are limiting growth. Instead SA shows low growth and what inflation it has are due to cost-push factors such as depreciation of the rand and high oil prices. This is the hallmark of an economy suffering from a shortage of demand.
Other evidence supports this conclusion: the Reserve Bank monetary policy committee statements often mention that demand is weak. Stats SA furthermore conducts a survey in which manufacturing companies are asked why their levels of capacity utilisation are low. Insufficient demand is the most popular answer, more than skills constraints or other factors.
Instead of leaning against the weakness in demand, the government has magnified the weakness by withdrawing further demand from the economy through cutting the primary deficit
This is remarkable considering the hell Eskom has put the manufacturing sector through. A shortage of demand can be fixed: lower interest rates and a wider fiscal deficit will solve it. But this has not happened. The key is a wrong diagnosis. The government is treating a growth problem as a fiscal problem.
I worked at the Treasury for 11 years. The debate in recent years was how to hit the sweet spot of doing enough fiscal tightening to appease the ratings agencies but not so much as to harm growth. This is a delicate task and it was attempted by some extremely dedicated and talented officials. But after seven years of stagnation it is time to acknowledge that the sweet spot does not exist and the actions the Treasury took to protect bond ratings damaged demand too much.
Fiscal policy has failed. Growth has been insipid, employment growth weak and the debt-to-GDP ratio continues to rise. Instead of leaning against the weakness in demand, the government has magnified the weakness by withdrawing further demand from the economy through cutting the primary deficit. The Reserve Bank has also been procyclical through higher-than-necessary interest rates. Fiscal metrics have thus worsened because growth has been so weak, despite the government cutting spending.
The UK has had a similar experience. After eight years of David Cameron’s austerity programme, debt levels are higher than when budget-cutting began. All austerity brought was Brexit and Boris Johnson.
Some commentators argue that SA cannot have looser fiscal policy because debt levels are too high. In fact, debt levels are moderate. IMF data shows that the global mean debt-to-GDP level was 56.8% in 2018, while SA’s was 56.3%, almost exactly average. Seventy-nine countries have higher debt-to-GDP levels than SA.
More tax revenue
It is difficult to know what a country’s maximum debt capacity is, but the fact that in the past SA has had debt as high as 124% of GDP suggests there is still ample fiscal space. We just need to use it.
Structural reforms have an important role but they cannot replace that of looser fiscal and monetary policy. No structural reform can increase demand, especially in the short run. If the government could restore growth, the fiscal metrics would improve rapidly. A growing economy will raise more tax revenue.
The key issue is whether the economy’s growth rate can exceed the cost the government pays to borrow. If that happens, as it did during the 2000s, the debt-to-GDP level will fall. Faster growth will solve the fiscal problem. Policies should be judged on whether they succeeded, not whether they are approved by ratings agencies.
In the years since the global crisis, macroeconomic policy has been unable to restore growth, reduce the budget deficit, sustain SA’s credit ratings or stabilise the trajectory of debt to GDP. As well-intentioned and committed as policymakers were, we need to admit our policies have failed and do something different.
The obvious candidates are expansionary fiscal policy and looser monetary policy. Designing a fiscal stimulus is not straightforward but a combination of a VAT rebate, a temporary increase in social grant payments and further infrastructure expenditure through the SA National Roads Agency would be a significant boost to demand.
Only the government can stimulate demand. Until it does its job, the economy will continue to falter.
• Willcox, a development consultant, worked at the Treasury.