Achieving shared growth:some ideas on how to advance the goals of ASGI-SA

International Growth Advisory Panel

June, 2008

A Busy Two Years 4 Visits to South Africa Met with various government departments, labor, private

sector, and academics throughout South Africa Pursued research in teams focused on :

Research outputs: 20+ papers Seminars, conferences and presentations to cabinet

Macroeconomics Labor

Trade Competition Problems

Industrial Policy BEE

Crime Procurement

Small enterprise development

The team

The core team Philippe Aghion, Harvard University Matthew Andrews, Harvard University Abhijit Banerjee, MIT Jeffrey Frankel, Harvard University Sebastian Galiani, Washington U. Lawrence Harris, LSE Ricardo Hausmann, Harvard University Steven Kelman, Harvard University Asim Khwaja, Harvard University Bailey Klinger, Harvard University Robert Lawrence, Harvard University Jonathan Leape, LSE Jim Levinsohn, University of Michigan Roberto Rigobon, MIT James A. Robinson, Harvard University Dani Rodrik, Harvard University Christopher Stone, Harvard University Federico Sturzenegger, Harvard Lynn Thomas, LSE

Other international co-authors Daron Acemoglu, MIT Matias Braun, UCLA Alberto Ortiz, Boston University South African Authors Stanley du Plessis, University of

Stellenbosch Lawrence Edwards, University of Cape

Town Johannes Fedderke, University of Cape

Town Stephen Gelb, The EDGE Institute Ben Smit, University of Stellenbosch Ingrid Woolard, University of Cape Town

The fundamental question in 2004 The country underwent a very successful political

transition It had benefited from improved relations with the rest

of the world From sanctions to role model

It had drastically improved macro performance Inflation, credit ratings, reserves

It had carried out substantial economic reform After 10 years, what did it have to show for it?

Disappointing growth

4.2

4.2

54

.34

.35

4.4

LY

PC

LC

UK

1960 1970 1980 1990 2000year

Log

GD

P p

er c

apita

High and rising unemployment

About 4 million people are unemployed

.1.1

5.2

.25

.3Oct9

5

Oct96

Oct97

Oct98

Oct99

Feb00

Sep00

Feb01

Sep01

Feb02

Sep02

Mar

03

Sep03

Mar

04

Sep04

Mar

05

15 to 65 - Male - UrbanUnemployment Rate

.2.2

5.3

.35

Oct95

Oct96

Oct97

Oct98

Oct99

Feb00

Sep00

Feb01

Sep01

Feb02

Sep02

Mar

03

Sep03

Mar

04

Sep04

Mar

05

15 to 65 - FemaleUnemployment Rate

Inequality on the rise

  1991 1996 2001

African 0.62 0.66 0.72

White 0.46 0.50 0.60

Coloured 0.52 0.56 0.64

Asian 0.49 0.52 0.60

Total 0.68 0.69 0.77

Source: Human Sciences Research Council

As we arrived in the country, the situation appeared to change Growth accelerated since 2004 Unemployment started to come down Had the long-lost check-in-the-mail finally

arrived? Was the market anticipating the success of

our study?

However, since 2004 growth has improved

Did the market anticipate our effectiveness?

Growth accelerated

-6

-4

-2

0

2

4

6

8

1980 1985 1990 1995 2000 2005

% c

han

ge

Ave 1985-93:0.6% pa

Ave 1994-05:3.2% pa

2004H2/ 05:5.1%

South Africa Current Account

-9.0%

-8.0%

-7.0%

-6.0%

-5.0%

-4.0%

-3.0%

-2.0%

-1.0%

0.0%

1.0%

2.0%

20

03

20

04

20

05

20

06

…but with a widening current account deficit

The boom…

Had been driven by an investment boom in nontradables…

Total investment

Investment in tradables and nontradables

and a consumption boom in durables

Consumption of non durables

Consumption of durables

In conclusion

The growth acceleration was temporary Growth was based on a boom in domestic spending

financed by foreign borrowing The money borrowed was not used to increase

future exports so as to have increased resources to pay back

Eventually, borrowing would slow down, cooling off domestic spending

When this happens, export growth will be key to sustain GDP growth

We tried to develop a fresh look at the facts

Here are a few that we found surprising

Some not so well known facts

Participation and employment rates in South Africa are very low

The tradable sector has been shedding jobs in a massive way, while employment growth has been concentrated in non-tradables

The tradable sector is unskilled-labor intensive This aggravates the skills constraint …and makes Keynesian policies ineffective Long run export performance has been dismal

Participation and employment rates in South Africa are very low

Employment is unusually low, unemployment unusually high

Lesotho

Egypt

South Africa

Namibia

Tunisia

BotswanaAfrica average

Ethiopia

Poland

Cameron

Mauritius

GreeceSpainFranceLatin America

United StatesUnited Kingdom

01

02

03

04

0U

nem

ploy

me

nt

40 50 60 70 80Employment

This is problematic for shared growth Unused productive potential

Bad for growth Many families not participating in the growth

process Bad for equity If South Africa had Latin American employment

ratios, over 6.6 million more South Africans would be working today

Full employment of highly skilled, low employment even of those with Matric

Particip. Employ Unemp

Less than Matric 49.2 34.2 30.4

Matric 69.2 49.7 28.2

Post-Matric 86.2 76.1 11.7

University 88.5 85.6 3.3

Matric is equivalent to a high school diploma

Unemployment rate by race in South Africa, 2005

Unemployment Rate

0

5

10

15

20

25

30

35

White Indian Colored African

Unemployment affects disproportionately the young

0

10

20

30

40

50

60

70

80

16-19 20-24 25-29 30-34 35-39 40-49 50-64

Participation

Employment

Unemployment

Conclusion

The South Africans excluded from the labor market are predominantly less skilled, black, young and female

If South Africa had “normal” employment rates, these groups would be the main beneficiaries

Increasing employment ratios productively would achieve shared growth

The tradable sector has been shedding jobs in a massive way, while employment growth has been concentrated in non-tradables

Massive losses in employment in the tradables sectorEmployment shares: all skill categories

0.15

0.2

0.25

0.3

0.35

0.4

0.45

0.5

1970 1972 1974 1976 1978 1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000 2002 2004

Tradable

Private non-tradable

Public non-tradable

Tradable

Private non-tradable

Public non-tradable

Absolute employment losses across all tradable sectors

500

000

100

0000

150

0000

em

ploy

me

nt n

umb

er

1970 1980 1990 2000 2010year

employment number employment numberemployment number

Manufacturing

Agriculture

Mining

The tradable sector happens to be less skill intensive

Low skill intensity by sectors: Shares of low and unkilled workers in sectoral employment

0

0.1

0.2

0.3

0.4

0.5

0.6

0.7

0.8

0.9

1

1970 1972 1974 1976 1978 1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000 2002 2004

TradablePrivate non-tradablePublic non-tradableManufacturing

Tradable

Manufacturing

Public non-tradable

Private non-tradable

What does this mean?

The sectors that have been shedding jobs have been intensive in unskilled labor

The sectors that have been growing have been intensive in skilled labor

This has aggravated the skills constraint

One uncomfortable implication: in this context, Keynesian policies do not work Keynesian policies increase the demand for (skill-

intensive) non-tradables But there is full employment of high skilled workers …so they have to be taken out of the tradable sector But for every skilled person you take out of

tradables, you loose more non-skilled jobs in tradables than those that you make up in non-tradables

So, unemployment may very well rise!!

Long run export performance has been dismal

The real purchasing power of exports per capita is at 1960s levels

500

100

01

500

200

0X

PC

KU

S

1960 1970 1980 1990 2000year

A rather unusual performance

0

50

100

150

200

250

300

350

400

450

500

1960

1962

1964

1966

1968

1970

1972

1974

1976

1978

1980

1982

1984

1986

1988

1990

1992

1994

1996

1998

2000

2002

ARG

AUS

CAN

MYS

ZAF

South Africa

Malaysia

Canada

Australia

Argentina

The pattern of South African low growth

1000

1500

2000

2500

3000

3500

4000

1960 1965 1970 1975 1980 1985 1990 1995 2000

500

700

900

1100

1300

1500

1700

1900

2100

2300

GDPPCKUS

CPCKUS

XPCKUS

GDP per capita

Consumption per capita

Exports per capita

…driven in large part by declining mining per capita

23

45

6M

ININ

GP

ER

CA

PIT

A

1960q1 1965q1 1970q1 1975q1 1980q1 1985q1 1990q1 1995q1 2000q1 2005q1Period in Stata format: 1960q1=0

..not compensated by manufacturing

11

.52

2.5

3M

AN

UF

PE

RC

AP

ITA

1960q1 1965q1 1970q1 1975q1 1980q1 1985q1 1990q1 1995q1 2000q1 2005q1Period in Stata format: 1960q1=0

Implication

Whatever is holding back economic growth seems to affect differentially the tradable sector

We need to search for binding constraints that could explain this outcome

Camels & Hippos

Why are there so few animals in the Sahara? It is informative to know that the few animals

you do find tend to be camels and not hippos The successful / surviving sectors are least

intensive in the binding constraint You can infer binding constraints by the

revealed structure of production

The Heart of the Matter

New export jobs aren’t being created quickly enough to replace contracting tradable industries Unemployment

or quickly enough to keep up with growing import demand Current Account Deficit

‘Exporting for jobs’ is the key

The Heart of the Matter

With the export dynamism you have, you cannot achieve the ASGI-SA targets

Export jobs are the harder to create Need to compete with other countries

They are needed to make the other jobs possible If you got more jobs in exports, you would get more

demand for the other jobs. The reverse is not true. Therefore, export jobs are the binding constraint.

Good jobs (of any kind) are the key to shared growth

In conclusion

Achieving shared growth is about creating jobs for those who are currently not working, i.e. the lesser skilled

To do it in an externally sustainable way the tradable sector must expand

…but that happens to be the sector that hires mostly low-skilled people

…which are the people who are currently out of jobs In synthesis: export for jobs

Explaining the binding constraint It has been relatively unprofitable to invest in

tradeables This is related to the level and volatility of the real

exchange rate How to achieve this?

Structural transformation Market failures in changing what you produce: the chicken and

egg problem Specific and complementary public inputs

Costs that the non-tradable sector can pass on to consumers but the tradable sector cannot

New activities require new public inputs that are hard to identify

Achieving shared growth has not been the only goal of the government An additional goal has been empowerment (BEE) …and this has implied mainly ownership and control

Equity participation Senior management Preferential procurement

There may be a virtuous circle between empowerment and employment

…but there may also be important trade-offs

The trade-offs of BEE

BEE is creating many opportunities at the top …but it is exacerbating the skills constraint,

making it harder to create jobs at the bottom It attempts to redistribute ownership and

control over capital …but may be taxing new investments Two goals that may collide:

Making the top black Making the bottom better

What did we suggest South Africa should do?

Increase the speed limit

Drive at the speed limit

How to increase the speed limit?

Eliminate the binding constraints that have been identified

The components

Macro policy The level and volatility of the real exchange rate The sustainability of growth Creating the space for needed infrastructure spending

Labour market policies Easing the skills constraint

Industrial Policy Allowing faster structural transformation

Trade and competition policy Creating more competitive input markets

BEE and Public Administration Rebalancing the scorecard Making political decentralization compatible with administrative

efficiency

Achieving a competitive and stable real exchange rate The real exchange rate is an outcome

It depends on a stable balance between domestic savings and investment

A more competitive exchange rate requires higher domestic savings A tighter fiscal policy can contribute Needed given current account deficit and inflation For any given inflation target, it is compatible with a lower interest rate …and hence a more competitive exchange rate

A more stable exchange rate requires a less volatile evolution of supply and demand To achieve stability the government must shift from targeting the fiscal

balance Which is pro-cyclical

…to targeting a cyclically adjusted balance Monetary policy needs to pay more attention to the exchange rate

And announce that it will do so

Easing the skills constraint

High skill and low skill are complements Like coffee and sugar, not like coffee and tea You want more of one if you have more of the other

If you do not have enough supply of high skilled, you will have lower demand for low skilled And greater wage inequality

The skills constraint is going to get even tighter as the continues to grow

What to do about it?

Proposals to relax the skills constraint Immigration policy

Liberalize work visas for those with higher education …and work to retain those you have

Reform of the training system Allow SETAs to self-organize Allow firms to affiliate to the SETAs of their choice

Targeted wage subsidy to accelerate school to work transition and encourage firms to experiment Subsidize approximately a year’s worth of employment

6 monthly minimum wages over the course of 12 working months

Coupled with a probation period with no-questions-asked dismissal

Obstacles to structural transformation Countries grow rich by changing what they produce But new products require new inputs This poses a chicken and egg problem

Why accumulate the inputs if there is not demand for them? How to produce if the inputs are not there?

In practice, countries move from the products they are in to products that require similar inputs

Publicly provided inputs are part of what needs to be provided But governments don’t know what is important

Information, incentives, resources How can the government find out?

“Industrial Policy”

Four Principles for Public / Private Cooperation

Four principlesTransparenc

yDemands,

evaluations and decisions should

be public knowledge

Open Architecture

Whenever possible, elicit

information about required public inputsCo-financing

Self-Organizatio

nAllow self-

organization around critical

inputs. Imposing “industry”

definitions / requiring

agreement is inefficient

Experimentation and

EvaluationBold moves, tolerance for

failures, frequent

monitoring, correction over

time

Some policy initiativesCode of Dialogue

Open architecture Self-organization Co-financing Transparency Gov: only public goods

Google-likeSearch

Mechanisms Create search mechanisms Focus them on space of

possibilities Empower them to eliminate

obstacles E.g., Development banks,

Industrial parks

VirtualInter-Ministry

Market Budgetary mechanism

to create an internal market within the government for public inputs

Beneficiation is not the right way to think about transformation One stylized example – Finland Follow the capabilities, not the products Beneficiation already benefits from lower

transportation costs It limits the search to a set of processes that

are neither the most valuable nor the “nearest” to the current set of capabilities

No justification for special treatment

Improve the performance of key public sector functions Impose ISO standards on government

services Home affairs: work visa Medicine Certification Customs DME licensing

Allow (require) (200) weak municipalities to use external providers for water, sanitation, roads, electricity and housing

Tariff structure complex and poorly grounded Explain this:

Mangoes 35%, Pineapples 15%, Pears 5 %, Strawberries 15%, Cranberries 0%, Apples 5%.

100 different tariff rates! Costly way to protect jobs: R2 million per protected

job Costs fall disproportionately on the poor Protects industries of the past not the future Discourages exports We proposed a dramatic simplification

Trade and competition policy initiatives: create a competitive input market A radical simplification of the tariff structure with the

aim of liberalizing input tariffs in order to create a competitive input base

Move from a complaints-driven to a more proactive competition policy

The SACU revenue sharing formula needs to be renegotiated with distinct revenue sharing and development components

African integration should focus on free trade areas and institutional and infrastructure issues but should not move towards a customs union

BEE

Appendix

South Africa has surprisingly low participation and employment ratios

LesothoEgypt

South AfricaNamibia

TunisiaBotswanaAfrica average

EthiopiaPoland

CameronMauritiusGreece

SpainFranceLatin America

United StatesUnited Kingdom

40

50

60

70

80

40 50 60 70 80Participation

Employment Participation

Labor Force / Working age population

Em

ploy

men

t /

Wor

king

age

pop

ulat

ion

Full employment

Recent participation trends are not rising

Year

Male   Female

Participation Employment Unemployment   Participation Employment Unemployment

1995 62.1 54.5 12.3   41.1 32.7 20.5

1997 57.9 47.7 17.7   39.2 28.2 28.1

1999 63.3 50.2 20.7   48.1 33.8 29.7

2001 66.5 48.7 26.7   53.0 34.8 34.4

2003 64.2 47.7 25.6   50.3 34.2 31.9

2005 65.2 50.5 22.6   49.8 34.0 31.7

Why are employment rates lower in South Africa than in Latin America?

Rural UrbanYear (15-19) (20-24) (25-34) (35-49) (50-64) (15-19) (20-24) (25-34) (35-49) (50-64)

South Africa 2004 3.9 16.5 38.3 52.3 36.3 4.0 25.3 55.4 65.8 49.4Latin America 2000- 43.1 60.8 68.6 72.0 65.7 24.0 53.1 70.9 75.7 60.7and the Caribbean 2004

•South Africa has a higher share of rural population•South Africa’s 15-19 year old do not work•South Africa’s 20-24 year old work very little•But there is a lower participation rate in all cells

Why are South African’s not working?

Age NHome-

maker StudentRetired /

Age Health

Lack of Skill

s

Cannot find ANY work Other

15 – 19 67,564 0.8 81.33 0.56 1.05 2.03 10.65 3.59

20 – 24 45,906 2.08 29.16 0.19 2.37 7.43 51.01 7.75

25 – 29 27,342 5.1 4.29 0.15 4.59 9.12 67.98 8.78

30 – 34 20,173 9.5 1.14 0.15 7.27 8.12 64.12 9.69

35 – 39 15,629 14.26 0.48 0.46 11.48 7.14 56.87 9.31

40 – 44 14,311 15.54 0.2 1.71 17.44 6.19 48.96 9.94

45 – 49 12,063 18.9 0.2 3.64 22.96 5 39.72 9.59

50 – 54 11,916 18.4 0.15 16.21 27.42 3.07 26.49 8.26

55 – 59 10,622 15.24 0.07 31.3 26.92 1.77 17.65 7.05

60 – 64 12,641 6.1 0.06 76.12 10.82 0.28 3.97 2.67

65 – 69 11,000 3.2 0.1 89.87 4.6 0.1 1.22 0.92

Total 249,167 6.54 27.77 9.5 7.63 5.04 36.79 6.74

Why are South African’s not working?

Age NHome-

maker StudentRetired /

Age Health

Lack of Skill

s

Cannot find ANY work Other

15 – 19 67,564 0.8 81.33 0.56 1.05 2.03 10.65 3.59

20 – 24 45,906 2.08 29.16 0.19 2.37 7.43 51.01 7.75

25 – 29 27,342 5.1 4.29 0.15 4.59 9.12 67.98 8.78

30 – 34 20,173 9.5 1.14 0.15 7.27 8.12 64.12 9.69

35 – 39 15,629 14.26 0.48 0.46 11.48 7.14 56.87 9.31

40 – 44 14,311 15.54 0.2 1.71 17.44 6.19 48.96 9.94

45 – 49 12,063 18.9 0.2 3.64 22.96 5 39.72 9.59

50 – 54 11,916 18.4 0.15 16.21 27.42 3.07 26.49 8.26

55 – 59 10,622 15.24 0.07 31.3 26.92 1.77 17.65 7.05

60 – 64 12,641 6.1 0.06 76.12 10.82 0.28 3.97 2.67

65 – 69 11,000 3.2 0.1 89.87 4.6 0.1 1.22 0.92

Total 249,167 6.54 27.77 9.5 7.63 5.04 36.79 6.74

Unions have been able to create rising wage premia, especially for unskilled Africans  OLS – Union interacted with skill level

  Unskilled Semi-Skilled Skilled

Year Coef. t Coef. t Coef. t

   

1995 0.21 12.43 0.15 5.37 -0.05 -0.58

1998 0.26 9.45 0.26 5.69 -0.28 -1.49

2000 0.36 17.08 0.28 8.3 -0.08 -0.8

2004 0.37 16.08 0.33 10.95 -0.35 -3.92

The tradable sector is less skill-intensive in most countries

ARG

BOL

CHL

COLCRI

DOMGUA MEX

PANPER

SAF

SLV

URYVEN

0.0

5.1

.15

.2

.04 .06 .08 .1 .12 .14per_labor

per_trad per_nontradper_labor

SAF nt

Proportion with post-Matric degrees, tradable

Pro

port

ion

with

pos

t-M

atric

deg

rees

, no

n tr

adab

le

Red, non-tradables, blue, tradables

Average of labor force

Manufacturing employment (as share of labor force)

0

0.02

0.04

0.06

0.08

0.1

0.12

0.14

0.16

0.18

1970

1971

1972

1973

1974

1975

1976

1977

1978

1979

1980

1981

1982

1983

1984

1985

1986

1987

1988

1989

1990

1991

1992

1993

1994

1995

1996

1997

1998

1999

2000

2001

2002

ZAF

MYS

And here is the crux of the matter: a premature de-industrialization … Employment losses in manufacturing appear premature

Unimpressive tourism sector

AGO

ALB

ARG

ARM

AUS

AUT

AZE

BDI

BEL

BGD

BGR

BHR

BIHBLR

BOL BRA

BRB

CAN

CHE

CHL

CHNCOL

CPV CRI

CYP

CZE DEU

DZA

ECU

EGY

ESPEST FINGBR

GEOGHA

GRC

GTM

HKG

HND

HRV

HUN

IDN

IRLISL

ISRITAJAM

JORJPN

KAZ

KENKGZ

KHM

KORKWT

LKA

LTU

LUX

LVAMAR

MDA

MEX

MKD

MLT

MNG

MOZ

MUS

MWI

NIC

NOR

NPL

OMN

PAK

PAN

PERPHL

POL

PRT

PRYROM

RUSSLV

SVK

SVN SWE

THA

TJK

TUN

UGA

UKR

URY

USA

UZB

VEN

ZAF

ZMB

-50

510

LTO

UR

ISM

PC

6 7 8 9 10 11LYPPPK

Log of income per capita

Log

of t

ouris

m r

ecei

pts

per

cap

ita

Tourism income not very impressive

Algeria

Argentina

Australia

Austria

Azerbaijan

Belgium

Brazil

Bulgaria Canada

Chile

ChinaColombia

Czech Republic

Denmark

Ecuador

Egypt

FinlandFrance

Germany

GreeceHong Kong

Hungary

India

IndonesiaIran

Ireland

IsraelItaly

Japan

KazakhstanMalaysia

Mexico

Netherlands

New Zealand

Nigeria

Norway

Pakistan

Peru

Philippines

Poland

Portugal

RomaniaRussia

Saudi Arabia

Singapore

Slovakia

South AfricaSouth Korea

Spain

Sri Lanka

Sweden

Switzerland

TaiwanThailand

Turkey

Ukraine

United Kingdom

United States

VenezuelaVietnam

South Africa

02

46

8L

TO

UR

PC

6 8 10 12LYPCA

LTOURPC LTOURPC

…but tourism receipts have been rising quickly in the recent past

20

40

60

80

100

120

TO

UR

PC

1990 1995 2000 2005 2010year

Tourism receipts per capita

Source: Economist Intelligence Unit

South Africa after 2000

.2.2

5.3

.46

.48

.5.5

2.5

4.5

6no

ntra

d_o

ver_

lf

2000 2002 2004 2006 2008year

nontrad_over_lf trad_over_lfunemp_over_lf

Relative prices moved against manufacturing

Relative price of manufacturing, compared to

0.6

0.8

1

1.2

1.4

1.6

1.8

1970 1972 1974 1976 1978 1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000 2002 2004

SIC 6

SIC 8

GDP deflator

IDC as a Google-like institution

Reform the way DTI talks to the private sector

2000