PRETORIA, January 17, 2017 – Re-orienting investment tax incentives towards sectors of the South Africa economy that have high productivity and a comparative advantage would stimulate growth, create additional jobs and support poverty alleviation, according to a World Bank report released today.
The ninth South Africa Economic Update estimates growth in 2016 to be 0.4 percent, making it the third year of declining GDP growth, leaving South Africans worse off on average. GDP is expected to accelerate in 2017 and 2018, to 1.1 and 1.8 percent, respectively, a modest recovery propelled by improving commodity prices, dissipating drought effects, and domestically by strengthening consumption and cautiously, exports. Stronger growth is also expected to be supported by a markedly improved supply of electricity and smoother labor relations. Although accelerating, growth will still fall short of the pace that is needed to create 11 million jobs in order to reduce unemployment to 6 percent by 2030, and achieve significant reductions in poverty and inequality envisaged in the National Development Plan (NDP).
The Update suggests that encouraging private investment is one area where policy can help to decisively turn around the South African economy and enhance growth. “Accelerating the implementation of the NDP with strong coordination of implementing stakeholders, improving the execution of key public investment projects, strengthening cities as South African powerhouses and reducing political uncertainty are all areas that can raise gross fixed investment crucial to raising the growth potential of the South African economy and generating sustainable jobs,” says World Bank Senior Economist, Marek Hanusch.
The report’s special focus section examines the role played by Private Investment for Job Creation. Using firm level data, the report examines the effectiveness, cost, and impact of investment tax incentives (ITIs) granted to the various economic sectors for additional investment and job creation. It contends that if targeted well, ITIs can result in increased investment and job creation as intended and support poverty alleviation as each job created lifts about one person out of poverty.
However, the report reveals that the current set of ITIs, which the government of South Africa has deployed among other policy instruments that are aimed at promoting industrial development, have not yielded a significant reallocation of private capital toward industrial sectors, nor produced higher industrial employment as expected. Instead, private investment has in recent years increasingly gone to less productive sectors, generating negative total factor productivity growth. The report shows that in order to generate a post-tax return of 10 percent on investment, a pre-tax rate of return of 8.8 percent is needed in mining, against a pre-tax rate that is nearly three time higher in manufacturing which stands at 29.6 percent. This may be have resulted in investment moving away from productive sectors such as manufacturing.
“What we observe is a negative composition effect since 2012 in which capital went to sectors such as mining, electricity, transport and other services that recorded a decline in their capital productivity and away from sectors recording increases in capital productivity such as agriculture, manufacturing, construction, trade and finance, thus reducing average capital productivity,” says World Bank Program Leader, Sebastien Dessus.
The report argues that re-orienting investment tax incentives to favor agriculture, manufacturing, construction, trade and other services sectors more would increase job creation at no additional fiscal cost as overall, tax incentives have generated additional private investment which exceeded foregone fiscal revenue. Furthermore, sectors which would benefit from re-oriented incentives are also those enjoying the largest employment multipliers, thus amplifying the impact of incentives on jobs creation. The positive impact of re-oriented tax incentives would be further magnified by the emergence of new comparative advantages in sectors such as manufacturing resulting from the recent evolution of South Africa’s terms of trade.