16 May 2013

The Motor Industry, Industrial Policy and SA's Trade Deficit

South Africa's motor industry alone accounts for about 40 percent of the country's trade deficit. In a recent post I suggested that this is evidence of the sector's lack of international competitiveness. The industry is able to survive in SA only as a result of massive subsidies, ranging from import taxes and controls, to tax incentives, and direct cash handouts.

But focus on the trade deficit asks not about the underlying competitiveness problem but rather what would happen to sectoral imports and exports if government support were reduced. This looks at the trade deficit as a sectoral issue rather than a broader macroeconomic phenomenon.

One of my early reports on MIDP illustrates the risk of this approach by showing that replacing imports or increasing exports through subsidized domestic production is a very costly way to earn foreign exchange.

I estimated that in 2005 vehicle exports were being subsidized at a rate of about 30 percent of domestic value added and production for domestic sale at a rate of at least 60 percent. At these rates, each R100,000 of vehicle exports was costing South Africa R130,000 of domestic resources. That is, earning $100 of foreign exchange through vehicle exports was costing South Africa $130. Similarly each $100 of foreign exchange saved through sourcing vehicles domestically rather than through imports was costing at least $160.

Reducing the trade deficit through subsidies to a non-competitive motor industry is very costly indeed.

Is the APDP any better? I have estimated that in the final year of MIDP vehicle exports were being subsidized at a rate of 17.3 percent of local value added and production of vehicles for domestic sale at a rate of 62.5 percent. By my estimates the APDP has increased the export subsidy to 27.7 percent and the import substitution subsidy to 71.7 percent. At these increased rates we might hope to see some reduction in the motor industry trade deficit. But the cost will be even higher than it has been in the past.

What does the dti make of this? Viewing everything from the perspective of its industry clients, it looks at the trade deficit and most other longer term development problems as sectoral issues. Rather than examining and dealing with underlying structural and regulatory barriers to development, it asks its industry clients how large and what type of subsidy they require to overcome the problems of investing and producing in South Africa.

At my last count, the government was giving subsidies of well over R10 billion per year to a few auto firms, and imposing a cost on consumers of close to R20 billion per year. Over its first decade MIDP subsidies came close to R100 billion. The government continues to "negotiate" with the big auto firms about improving their competitiveness. The dance goes on and the subsidies continue. We will certainly see new forms of support. This has not produced a competitive industry and it has not solved any real or imagined trade deficit problems.

Unfortunately the motor industry is not an isolated case. The textile and garment industry receives large subsidies, mostly paid for by consumers, even as much of it disappears or migrates to Swaziland and Lesotho. The dti has recently revived a failed policy from decades ago by releasing a list of 10 "special economic zones," defined by product and province, that it wishes to support.

The lesson for investors is that success in South Africa is enjoyed by cozy monopolies and those with access to generous government support in the form of subsidies and barriers to competition. This is good for some investors, but not for South African development. Longer term growth depends on the creation of an environment in which investors can and do compete, domestically and internationally.

02 May 2013

The Malaysian Model and its Relevance for South Africa

Malaysia has had a strong allure for South Africa and other countries in the region. Of particular interest have been its policies aimed at redressing racially-based economic imbalances and its willingness to question the merits of conventional macroeconomic and industrial policy advice from international financial institutions.

Like South Africa, Malaysia has been ruled since independence by a single coalition dominated by the interests of the majority ethnic group. An election this Sunday will provide a real possibility of political change. The occasion calls for a realistic assessment of what has come to be regarded as the "Malaysian model."

My own view is that a) the divergence of Malaysia's macroeconomic policies from conventional "best practice" has been greatly overstated, b) whatever the merits of "bumiputra" affirmative action policies, the costs have also been large and by now certainly outweigh the benefits, and c) key features of targeted industrial policies have impeded rather than promoted the country's economic growth.

These views are echoed concisely in a Financial Times opinion piece. According to the columnist, David Pilling, failures of past policies make political change a real possibility.

"There is huge anger at entrenched corruption and buddy-buddy crony capitalism. Many Malaysians have come to the conclusion, almost certainly correct, that affirmative action has outlived its purpose and is holding the country back.

"There is increasing recognition, too, that economic performance is not all it might have been....Manufacturing exports have been stalled for years and attempts to build an indigenous steel and car industry have flopped. It has been easier for cosseted businessmen to jostle for lucrative state contracts than to compete internationally."

Pilling's view is that there is a "need to roll back a system based on race and patronage in favour of one based on competition and merit."

Whether political change happens, and whether it will result in meaningful policy reform remain to be seen. But discussions in South Africa and elsewhere need to be informed by a realistic view of the nature and impacts of the "Malaysian model." Otherwise the dti and others will continue to copy Malaysia's failures rather than learning the real reasons behind its successes.