From inclusive growth to radical economic transformation

Apr 11 2017 05:00
Jac Laubscher*

THE rationale given by President Zuma for his recent Cabinet reshuffle is to improve the efficiency and effectiveness of the government in furthering the agenda of “rapid economic transformation” that has dominated his public pronouncements in recent months.

By a stroke of the pen, the rhetoric coming from the National Treasury in particular has changed from promoting inclusive economic growth to radical economic transformation. Although the two ideas may share similar ultimate goals, they differ in terms of methodology and envisaged time frames. The first takes a dynamic approach, emphasising growth as a vehicle for transformation, while the latter is essentially static in nature by focusing on reconfiguring what already exists.

As set out in the State of the Nation Address at the opening of parliament on February 9 2017, radical economic transformation means “fundamental change in the structure, systems, institutions and patterns of ownership, management and control of the economy”.

A broad range of measures is set to be employed in pursuing these objectives, including “legislation, regulations, licensing, budget and procurement as well as Broad-based Black Economic Empowerment Charters to influence the behaviour of the private sector and drive transformation”.

The “radical” aspect of radical economic transformation should at this stage be understood to refer to the results that it will aim for rather than the methods employed. For example, using rents created through the public procurement process to promote black business, establishing a state bank to drive the transformation of the financial sector or requiring state-owned enterprises to play a developmental role hardly qualifies as radical ideas.

However, the challenge is to evaluate government actions objectively against a background of severe political contestation.

The method employed will by implication create opportunities for rent-seeking and patronage that will have to be well managed if they are not to end up enriching a select group of people at the expense of taxpayers, rather than promoting real and lasting change in the structure of the economy.

Merely introducing middlemen (and -women) between government and suppliers, increasing the cost of obtaining the required goods and services by adding a mark-up for the middleman, can by no stretch of the imagination be construed as transformation or empowerment.

In a recent review of the literature on the role of the state in economic development, Pranab Bardhan argues that creating rents to incentivise particular behaviour and achieve stated policy objectives is not in principle wrong and has been used successfully in the past as a development tool, but then it must be subject to market discipline.(1.) 

An often-mentioned example is the support the South Korean government lent to business in its industrialisation drive. The necessary discipline was introduced by exposing the beneficiaries to international competition (they were required to become competitive in export markets) and setting a time limit to the granting of government support. Underperformers were simply culled, in other words the beneficiaries were subjected to a hard budget constraint.

If the procurement budgets of public entities, ranging from central government to state-owned enterprises, are to be used for the promotion of black business any steps taken will have to be subjected to similar disciplines and NOT the removal of market discipline.

For example, a black supplier may be granted a contract to supply the state with certain goods, even at a price slightly higher than the cheapest alternative, for a limited period, say three years, at the end of which he/she will be required to meet the lowest price and to have expanded his/her client base so that government business accounts for at most 40% of his/her turnover.

Progress in achieving these goals should be continuously monitored and support immediately withdrawn if the beneficiary does not perform.

The role of SOEs should be clearly defined

If it is accepted that state-owned enterprises have an important role to play in promoting transformation, their developmental role should be clearly defined and separated from their commercial activities, costed separately and explicitly provided for in the national budget.

Here again state-owned enterprises must not be allowed a soft budget constraint because of the moral hazard it creates.

In comparing capitalism to socialism, the Hungarian economist Janos Kornai points out that a hard budget constraint encourages competition and innovation and therefore supports the growth in productivity so essential to sustained economic growth and improvement in average living standards.

Without a hard budget constraint, the process of creative destruction cannot do its work in promoting economic development.

The dynamism enforced by a hard budget constraint is a fundamental reason for the relative success of capitalism compared with socialism with the latter’s preponderance of soft budget constraints.(2.)

A similar approach should be adopted with the mooted state bank, should it become a reality.

In his analysis of the causes of inequality in a capitalist system such as we currently have in South Africa, Geoffrey Hodgeson highlights the role played by debt/credit and therefore collateral in the functioning of the system and the material advancement of its participants.

He then makes the telling point that this favours the current owners of capital compared with labour as the latter cannot use their labour services as collateral, for example to obtain capital to start a business.(3.)  

This is very much applicable in the South African situation due to the post-apartheid lack of assets that can serve as collateral in the black population, many of whom have only their labour services to offer. A state bank that does not require collateral from its borrowers would be one way of getting past this obstacle, although using the assets of the state to provide collateral to the commercial banking sector for specific categories of borrowers would be a better option as it would still tap into the established credit management function of the banks (provided banks continue to carry part of the risk).

The challenge will of course be how to manage rent-seeking behaviour, while the market discipline introduced in this way will have to be accepted and not interfered with. This also applies to the objective of creating black industrialists. The South Korean example once again comes to mind.

That the South African economy is in need of transformation cannot be denied, although I prefer “normalisation”, which is a less contentious way of expressing the same objective of bringing black people into the mainstream of the economy (which they ultimately should come to dominate because of sheer numbers).

South Africa has a troubled history that requires purposeful (and, yes, even radical in the sense of thinking out of the box) measures to achieve this normalisation.

And this is where we come full circle back to inclusive economic growth. A static approach will just not be sustainable.

(1.) Bardhan, Pranab: State and Development: The Need for a Reappraisal of the Current Literature. Journal of Economic Literature. March 2017, pp. 862-892.
(2.) Kornai, Janos: Dynamism, Rivalry, and the Surplus Economy. Oxford University Press. 2014.
(3.) Hodgson, Geoffrey M.: Conceptualizing Capitalism: Institutions, Evolution, Future. University of Chicago Press. 2015.

* Jac Laubscher is economic adviser for Sanlam Limited. Opinions expressed are his own.

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