A wide array of incentives exists in South Africa to attract investment in key sectors. These incentives include targeted industrial policy interventions, tax and non-tax incentives. In this discussion we consider whether these incentives are well placed and respond to the structural changes required by the economy. We explore the measure of marginal effective tax rates implied by these incentives. This analysis indicates that the tax and non-tax incentives target traditional sectors which are in decline in terms of employment and output contribution. The discussion suggests that in prioritising a well-being approach to the economy, we need to rethink the public resources allocated to certain sectors and include new sectors for consideration.
In the past 20 years of democracy, South Africa has made considerable progress on the economic front. The 1990s saw the stabilisation of the macro economy through the adoption of prudent fiscal and monetary policies and the reform of the entire statute book to make the necessary shift towards progressive policies to transform the economy and move away from the country’s apartheid past.
From the negative economic growth rates recorded just prior to democracy, the country had been able to lift the growth rate to an average 3.2% rate per annum in the first two decades since 1994, which clearly doubled the economy in size in that period.1 This is a substantial achievement, despite recent setbacks.
However, statistics on growth do not represent the full picture of key milestones in the post-1994 narrative – or the achievements (and challenges) emerging from policy and its implementation. They also do not represent the broad challenges faced by all economic actors, many of which extend beyond the growth story. Deeply embedded structural inequalities relegate the majority of the population to the economic periphery and frustrate the best intentioned policy interventions emerging from the National Development Plan (NDP) and the Department of Trade and Industry’s (the dti’s) Industrial Policy Action Plan (IPAP). Many black township inhabitants remain locked into poverty traps with extreme disparities in income, wealth and opportunity. According to recent Statistics South Africa data, South Africa has an unemployment rate of over 25% (using the narrow definition), more than 50% of South Africa’s young people (between 18 and 25) are unemployed, the labour absorption rate is only 40% and too many people continue to live in abject poverty.2
Furthermore, by viewing progress by growth statistics alone we run the risk of conveying a message that ‘service delivery’ is the sole outcome of escalating investment and gross domestic product (GDP) growth. For South Africa to achieve the NDP target of creating 11 million jobs and 49 000 small and medium-sized enterprises by 2030, inclusive and sustainable economic development is required. It is not only the low level of growth that is the challenge: the composition (or component parts of growth) – from industry sectors to public-sector organisations – and underlying investment incentives create a conundrum for the country.
In the past 20 years, much of South Africa’s economic growth has taken place in non-tradable domestic demand sectors (retail and wholesale trades, financial and consumers services, and so on) while the export sectors (manufacturing, mining and agriculture) have languished. This unbalanced growth profile has created external imbalances, with the country running a large current account deficit and potentially challenging large internal imbalances with high levels of borrowings of the average South African household. In essence, the past decade of economic growth can be described as credit fuelled, domestic demand-driven, import intensive, unbalanced and unequal.
The net effect is a considerable amount of South Africa’s agricultural and mineral resources are exported as raw or only partially processed products. Although South Africa has steadily improved its ratio of beneficiated-to-primary products exported since the 1970s, these ratios are still well below the potential suggested by the quality and quantity of its mineral resources endowment.3 Although these enormous resources give the country a comparative advantage, deep structural problems in the economy – in this case, capital- and energy-intensive beneficiation with strategic manufacturing inputs (steel, plastics, and so on) – mean these advantages are not passed through to manufacturing.
In effect, South Africa is consuming more than it produces, and gross domestic expenditure is larger than GDP. This means the country has to borrow from the surplus savings of other countries to fund the difference. The current account deficit is about 6% of GDP.4 This reliance on fickle external capital flows creates an external vulnerability.
There are obviously causes for concern, more than two decades later, but they must be assessed from the stand of new circumstances and challenges that have come to bear on government, employers, employees and communities.
Two key (and related) structural challenges have confronted the South African economy and attempts to foster inclusivity:
These two issues are related: the assumption is that, with the right incentives in place, the private sector would invest in a way that ensures not only job creation but also greater social mobility, shared value and inclusive growth. However, this is seldom the South African reality. Corporate strategies have tended to prioritise portfolio investment over greenfield fixed investment (which is often associated with new jobs and the expansion of productive capacity).
South Africa is consuming more than it produces, and gross domestic expenditure is larger than GDP. This means that the country has to borrow from the surplus savings of other countries to fund the difference. The current account deficit is about 6% of GDP. This reliance on fickle external capital flows creates an external vulnerability.
What we need is a credible set of incentives that meet the criteria of inclusive growth and social mobility, and recognise that policy responses to the growth imperative must address wider structural challenges. If not, they will simply reinforce a winner-takes-all outcome. If the immediate challenge facing all economic stakeholders is to reverse the cumulative impact of legacy issues and build strong economic foundations for inclusion, this is of paramount importance and must guide the thinking and processes of both government and employers as primary agents of change.
The choice of strategic options on how to move forward is therefore the all-important question. Encouraging investment is always desirable but it is important to recognise that in setting forth our hopes for the country, we must also avoid the pitfall of believing that these hopes will be realised within the current investment and growth paradigm. Any model for dealing with the structural, spatial and socio-economic problems of the country must be part of a broader development agenda and integrated strategic plan.
As one reflects on the mixture of successes and failures that have evolved out of post-1995 policy choices, one is impelled to look for explanations at different levels:
The underlying issue here is not the original constitutional mandate conferred on government. It is the policy context in which incentives are fashioned that is the difference between growth that is narrowly focused on the self-interest of a few (on the one hand) and a more sustainable and inclusive set of development priorities that incentivise greenfields investment and new value creation, on the other.
What we need is a credible set of incentives that meet the criteria of inclusive growth and social mobility, and recognise that policy responses to the growth imperative must address wider structural challenges. If not, they will simply reinforce a winner-takesall outcome.
Our approach is premised on an alignment of incentives based on trade-offs between different sets of priorities and interests. What could be achieved with planned interventions, coherent design, commitment and combined effort could be substantially more if we are to expect outcomes that bring the need for investment and economic inclusion into alignment.
We propose that conditions for economic inclusion are unlikely to emerge until the following priorities are addressed:
Incentives that fail to work towards these ends are likely to perpetuate a legacy of barriers to economic opportunities by those on the margins of society. And here it must be understood that individual interest groups will always find it difficult to maintain stable, productive relationships with other stakeholders in a context of misaligned incentives. The initial step in this direction, if it is to materialise, will have to come from an all-round embrace of a new development paradigm.
The framework for this strategic review balances the growth imperative of escalating investments in economic activities with the overriding need to ensure an appropriate revenue base for the creation of employment and the equitable distribution of resources.
Drawing on the vision, mission, goals and strategic objectives of the NDP, we assess key characteristics of the incentives system as a basis for crystallising ideas for most effectively addressing the unique conditions and challenges facing the country. The intended outcome is a unifying framework and roadmap that takes account of the nuances and complexities of transforming the spatially, socially and economically unique South African landscape into one that is socially integrated and economically inclusive.
We start with an overview of key elements of public incentives and industrial-policy-focused support measures. We then assess the efficacy of some of these programmes by comparing the sector multipliers of sectors earmarked for support with the employment and output multipliers calculated by the National Treasury in its 2017 Budget Review.
This is by no means an exhaustive review of the various incentives. Incentives are also provided at a local level by district and local municipalities to stimulate local investment. These incentives, important as they are, are beyond the scope of this discussion.
The intended outcome is a unifying framework and roadmap that takes account of the nuances and complexities of transforming the spatially, socially and economically unique South African landscape into one that is socially integrated and economically inclusive.
The National Planning Commission released South Africa’s first National Development Plan (NDP) in November 2011. The main focus of the plan is the eradication of poverty and reduction of inequality by 2030. The aim is to create 11 million jobs through a range of strategies that include shifting the economy away from its reliance on resourceintensive industries towards more labour-intensive beneficiation activities. In this respect, the NDP serves as an important guide. It focuses on driving an equitable, inclusive and sustainable future through building the capabilities, opportunities and conditions for prosperity and shared growth.
Key areas of focus are:
The scope of this review comes from Outcomes 9 and 14 of the NDP. These set out several long-term goals for planning towards integrated development, inclusive growth, and social cohesion and nation-building. The identified priorities highlight important interventions that broadly define the underlying principles, scope and criteria of policy interventions, and therefore planning. These goals are summarised as follows:
Fostering constitutional values
The Constitution aims to transform South Africa into a more equitable, integrated and just society. It provides the basis for a new South African identity and enables South Africans to have a common bond, providing normative principles that ensure ease of life, lived side by side.
Equal opportunities, inclusion and redress
Equal opportunity is about reducing the impact of factors such as gender, ethnicity, disability, place of birth, parental income, wealth and family background on people’s life chances. This would mean building people’s capabilities through access to quality education, healthcare and basic services, as well as enabling access to employment and transforming ownership patterns of the economy.
Promoting social cohesion across society through increased interaction
Daily interactions on an equal basis build social cohesion and common understanding. At the moment, the country is divided by the services people use, with economic wealth gradually replacing race as the key driver of differentiation. Cultural activities and art can play a major role in facilitating the sharing of common spaces, fostering values, and facilitating dialogue and healing.
Meaningful social contracts which could help propel South Africa onto a higher developmental trajectory as well as build a more cohesive and equitable society will be developed. The foundation of these partnerships must be buy-in by all stakeholders to a clearly articulated vision. The singular area that demands a social contract is the area of employment creation.
STRATEGIC GOAL: To promote social cohesion and nation-building across society through increased interaction across race and class.
AIMS: The development of policies and programmes that enable innovative and effective interventions in:
The origins of the modern South African economy can be traced to the discovery of coal in the 1840s. However, the economic importance of the mining sector in South Africa was widely recognised only with the discovery of diamonds in Kimberley in 1870, and later the discovery of gold in the Witwatersrand basin in 1886.5
By the turn of the twentieth century, South Africa’s gold output exceeded $40 million,6 partly on the back of an abundant supply of mineral reserves and partly because of a ready supply of cheap black labour.
The discovery of gold saw the rise of mining houses, which owned shares and controlled mines rather than operated them. Mining houses provided capital and technical assistance, and created capacity through cross-subsidisation and sharing overheads in a complex crossshareholding of mining concerns. These corporations went on to carve the economic landscape of South Africa from their headquarters in Johannesburg.7
The initial impetus to industrialisation from the mining industry was followed by others at key points in South Africa’s industrial development, mostly driven by policies that incentivised surges of foreign direct investment.
During the 1950s and 1960s industrial policy was based mainly on state-owned corporations and tariff protection in favour of large-scale capital and energy-intensive industries within the minerals– energy complex. From this point onwards, the corporate economy that was built on the mining industry gained a shape and structure in which a number of very large enterprises dwarfed much of the rest of the economy and consolidated control in only a few hands. This enabled the mineral industrialisation process to unfold in a particular way.8
The initial impetus to industrialisation from the mining industry was followed by others at key points in South Africa’s industrial development, mostly driven by policies that incentivised surges of foreign direct investment. Refined and processed precious ores were mostly exported. As major mining companies such as Anglo American diversified into other sectors, the flow of investment provided the basis for support and repair firms that were linked to the mining industry so that they became larger and increasingly derived earnings within other industries.9
This relative independence from the mining sector saw the emergence of manufacturing companies that were able to produce for the local as well as the international market. A good example is Boart Hardmetals, which was established in 1936 as a support company within the Anglo American– De Beers stable and branched out to develop improved drilling techniques for the mines.10
The second catalytic force that impacted on the structure and growth of the metal and engineering sector was state incentives to develop the automobile manufacturing industry. Motor vehicles were first sold in South Africa as fully assembled units. However, by the early 1920s Ford and General Motors had established assembly plants in South Africa. Initially, a large percentage of the components that were used in these early plants were imported. Local maintenance and repair services and components manufacturers tended to become involved only indirectly, providing non-functional parts such as tyres, window glass and batteries. This changed fundamentally with the introduction of the government’s local content incentive programme, which evolved through three phases. In the third phase, a range of tariffs incentivised motor vehicle manufacturers to source 66% of the vehicle weight from components manufactured in South Africa.
The catalytic effect of the investment by foreign vehicle manufacturers coupled with state incentives on local content impacted significantly on the development of the metal and engineering sector.11
Initially, the large mining companies were central to a network of suppliers of infrastructure and services. The enterprises that emerged to provide specialised services to the core operations of mining, including metal and engineering firms, found markets in the agricultural, transport and manufacturing sectors. This created opportunities to expand their operations beyond maintenance and repair. So it was that the activity of largescale mining, which had very specific technical demands, created a supporting industrial infrastructure to meet its engineering challenges, which in turn provided a catalyst for a much wider range of operations.12
By the 1970s, the entrenchment of the minerals– energy complex was predominantly at the hands of South Africa’s state corporations in joint ventures with private capital. In the metal and engineering sector, state-owned enterprises were established to stimulate the sector and provide a ready supply of cheap energy and material inputs (ingots and ancillary products derived from pig iron and scrap iron) to firms within the sector.
Following the 1973 gold and energy price boom, industrialisation around the mining industry intensified. The growing intermingling of Afrikaner and English capital in specific sub-sectors such as coal (which facilitated large-scale coal exports) and manufacturing propelled such policy decisions.13 The diversification of mining houses as well as a strong beneficiation focus from the then-parastatals SASOL, ISCOR and FOSKOR gave impetus to the development of the industrial sector.
The catalytic effect of the investment by foreign vehicle manufacturers coupled with state incentives on local content impacted significantly on the development of the metal and engineering sector.
The economic-spatial form of the apartheid economy was peri-urban townships which served as labour reservoirs initially for the mining industry and later for manufacturing and services. By 1986, the National Party government finally came to terms with reality in a new policy of orderly urbanisation, set out in the 1986 White Paper on Urbanisation. The spontaneous urbanisation of the African population was to be turned from a problem into a solution. The outcome was hardly orderly, however. Having abandoned its earlier role as direct provider of housing for urban Africans, as seen in the construction of townships, the state sought the benefits of accelerated urbanisation without all the costs. The result was the spontaneous spread of informal settlements and survivalist informal enterprises in and around the major metropolitan areas, a legacy which stubbornly persists in second-tier cities today.
The structure of South Africa’s townships and cities since 1986 revealed a complexity reflecting the divided society of apartheid. The vision of a white heartland that drew in African workers from peripheral reserves, on a purely temporary basis, was patently unstable. By the time the government was ready to allow a large and permanent African presence in the cities, it had been overtaken by events. An economy that was never seriously tempted by business incentives to decentralise to the then-homelands or ‘border areas’ needed a local and settled workforce, and this coincided with the wishes of workers themselves. A largely spontaneous reorganisation of South Africa’s spatial structure, centred on the major metropolitan nodes, was under way well before the government proclaimed its policy of orderly urbanisation, although there had been strong hints of a change in official thinking in regional development strategy at the beginning of the 1980s. The emerging deconcentrated urban structure in effect transferred part of the old rural labour reserves to the growing peri-urban shack settlements in the outer metropolitan peripheries.
By the close of the 1980s the classic apartheid city, which sought to externalise African population growth, surplus to what the economy could absorb, by confining it to peripheral homeland reserves had all but collapsed under the impact of a massive shift of the African population from rural to urban metropolitan areas.
The origins and development of a territorial mechanism for racial domination – the location strategy in South African cities since the midnineteenth century – have had far-reaching consequences that persist to this very day. Various urban planning and urban administration networks coalesced to promote urban segregation for the better part of the twentieth century. All promoted the concepts of physical order, social stability, and visibility which were seen to be met by the enforced segregation of African people in formal, neatly laid out townships which were closely administered by a bureaucracy headed by white officials.
Such was the model which the apartheid state promoted in its efforts to solve the urbanisation problem.
The origins and development of a territorial mechanism for racial domination – the location strategy in South African cities since the mid-nineteenth century – have had farreaching consequences that persist to this very day. Various urban planning and urban administration networks coalesced to promote urban segregation for the better part of the twentieth century.
The present period marks a key discontinuity in the legal deployment of the apartheid spatial technique. However, the socio-economic and spatial gap has required examination and strategic engagement in terms of its continuity beyond apartheid.
One of the more recent (post-apartheid) characteristics of the South African economy is investment patterns that have emerged from the global integration of many of its economic sectors and sub-sectors. Before 1994, the local mining and manufacturing industry was largely domestically owned and focused almost exclusively on raw material exports and important machinery and services. Following the reintegration of South Africa into the global economy in 1994, multinational manufacturers and services companies reinvested in domestic manufacturing and services industries, partly in pursuit of opportunities and markets in sub-Saharan Africa.
The result is that both the structure and ownership profile of the economy have changed. Although the country’s global footprint is small, the tertiary sector is growing – in the case of Gauteng, contributing to more than 90% of the province’s growth – as part of a totally integrated value chain, with annually increasing exports and imports. The automotive and metal sector for exports is highly integrated into the global economy. The primary steel sub-sector earns the province and country considerable revenue in foreign exchange from exports. Ranking about twentieth in the world, Gauteng procures in the region of 1% of the world’s crude steel. Total South African crude steel production is in the order of 10 million tonnes a year. Primary steel producers manufacture over 8 million tonnes of finished steel products a year, of which about 5 million tonnes are consumed domestically.14
Overall, these structural economic shifts have shaped new geographies and economies that are vastly different from the days of mining. Government now has a plethora of strategies and policies (backed by commitments) aimed at facilitating global integration and investment and, in the process, supporting economic and employment growth in manufacturing and infrastructure development. However, we have yet to see whether recent interventions will be enough to address some of the underlying structural problems, and reconcile the social and spatial reality with the current economic reality.
Beyond formal apartheid, the legacy of economic concentration and urban apartheid in the form of residential segregation, buffer zones between races, the peripheralisation of township economies and long dislocations between residence and work opportunities may no longer have been legally enforceable. However, the kind of spatial and economic patterns constructed under apartheid and investment incentives themselves have conspired to constrain the capacity of the post-apartheid government to respond to the imperatives of inclusive growth.
Moreover, there have been extensive disincentives to investment in South Africa, such as electricity shortages and energy-mix challenges (the debates around nuclear versus renewable energy paths), policy uncertainty, and disruptions to production as a result of tense industrial relations.
There are a number of reasons for this, including:
Confronting these challenges from a publicsector perspective has often involved a mixture of incentives and disincentives, from direct fiscal transfers and subsidies to tax rebates, to which we now turn.
The kind of spatial and economic patterns constructed under apartheid and investment incentives themselves have conspired to constrain the capacity of the post-apartheid government to respond to the imperatives of inclusive growth.
Fiscal incentives and industrial-policy-focused support measures
Between 1994 and 2014 R476.5 billion was devoted to national industrial development programmes, 71% in the form of tax incentives and the remainder allocated to providing public services in support of industrial sectors, spatial development, export promotion, small business development, and transformation and skills development. In this discussion, we start by exploring the industrial policy measures undertaken by the Department of Trade and Industry (the dti) under successive iterations of the Industrial Policy Action Plan (IPAP). These policy measures include non-tax forms of incentives, although they are driven from the fiscal framework.
Industrial policy measures
South Africa’s industrial policy focus is driven largely by a view of economic history which suggests that, owing to value-added exports and strong multipliers, manufacturing is the only path to inclusive development. This view is often determined by comparative insights drawn from East Asia, mercantilist Great Britain and even the industrialisation of North America. It is also strongly informed by the work of Cambridge economist and former Labour Party adviser, Nicolas Kaldor, who suggested that the ‘most important component of demand relates to export growth’. The 2017 iteration of the IPAP suggests that, despite being a wide-ranging incentive aimed at labour absorption, the scheme places specific priority on manufacturing because of strong multipliers emerging from the industry:
[...] the manufacturing sector has high economic multipliers because of its value addition, linkages to upstream production sectors of the economy (mining and agriculture) and downstream sectors, including services; and because of its all-round contribution to strengthening integrated value chains.16
Manufacturing also confronts a structural barrier: vulnerability to commodity prices because of South Africa’s reliance on mineral exports.
The other dimension of the IPAP is more future focused. In previous editions of Benefits Barometer, we discussed the role that exponential changes in technology, including additive manufacturing and 3D printing, were playing in manufacturing. This, it seems, is something the IPAP acknowledges as an area for support, with its emphasis on research and development and moving towards a knowledge economy.
South Africa’s industrial policy focus is driven largely by a view of economic history which suggests that, owing to value-added exports and strong multipliers, manufacturing is the only path to inclusive development.
Approaches to supporting local industry
The IPAP has two related approaches to supporting local industry: a direct sectoral focus and a transversal focus. The direct sectoral focus refers to designating key sectors, using direct incentives (for example, for the business process outsourcing sector), policy guidelines and supply-side interventions (skills development, production subsidies and exporter-focused incentives). The transversal focus involves industrial financing, public procurement, clustering models (in the form of special economic zones), research and development support, and developing localisation initiatives in priority sectors.
Figure 1.4.1: Industrial Policy Action Plan 2017–18: sectoral focus 1
Figure 1.4.2: Industrial Policy Action Plan 2017–18: sectoral focus 2
Figure 1.4.3: Industrial Policy Action Plan 2017–18: transversal focus 1
Some of the interventions involve targeting key investments crucial to reducing supply-side bottlenecks in certain sectors, such as high transaction costs in the case of the rail localisation programme. Much of the industrial policy incentive expenditure is undertaken by the dti. Its 2016/2017 annual report states that between the 2015/16 and 2016/17 fiscal years there was an increase of 18.9% in the disbursement of development incentives to manufacturing and services companies and incentives supporting industrial infrastructure, from R5.8 billion to R6.9 billion.17
Impact of incentives
In the same report, the dti states that R30 billion in investment was attracted in 2017, on the back of a R6.9 billion investment. Put simply, of the roughly R30 billion in investments, R6.9 billion was ‘subsidised’ by the state, making the net investment R23.1 billion.18
Incentives have also been used to aid struggling sectors, such as the textile sector, a dominant employer of working-class women in the Western Cape that was decimated by the lifting of import tariffs in the 1990s. The Clothing and Textiles Competitiveness Programme, a partnership between the Industrial Development Corporation and the dti, has extended incentives to the tune of R4.2 billion to this industry. This has saved 70 000 jobs and created an estimated 9 550 new jobs in the textile sector.19
Recognising that the economy is dominated by the growing influence of the services sector in terms of national output and employment, the dti’s incentives have also extended to the business process outsourcing (BPO) sector and the creative economy, including film and TV production. Notable investments have been made in the BPO sector and the South African government. The dti has developed an incentive programme which pays employers R124 000 for each job created in this sector. This is quite interesting as, in some instances, this amount covers more than three-quarters of the salary of someone typically employed in such work (for example, a call centre agent). In the BPO sector, such subsidies are similar in scope to some of the far-reaching tax subsidies and capital allowances provided to historically dominant sectors in South Africa, like mining.
Having discussed non-tax and industrial policy-focused incentives, we now turn our attention to the allocation of incentives.
Incentives have also been used to aid struggling sectors, such as the textile sector, a dominant employer of working-class women in the Western Cape that was decimated by the lifting of import tariffs in the 1990s.
Table 1.4.1: Some of the industry- specific public incentives on offer in South Africa
Other notable incentives worth mentioning are the tax breaks, rebates and exemptions that organisations in various sectors receive for activities in production processes that require the significant use of resources or capital. These include the import of machinery (as is the case in manufacturing and mining), the expansion of production, and normal wear and tear on working capital (for which depreciation allowances can be claimed).
There are elements of the tax incentive structure that penalise or advantage certain sectors or businesses on the basis of the mix of debt and equity they have in their capital structure (something we discuss below). The intention behind these incentives is not only to attract investment but also to reduce the marginal effective tax rate (METR).
The METR is often used to assess incentives for investment. It measures the impact of a tax applied to an additional rand of capital income. University of Texas academic, Don Fullerton, states that the measure accounts for the impact of multiple composite elements, including an investment tax credit, a statutory corporate tax rate and accelerated depreciation allowances.20
It is calculated as follows:
Fullerton states that the METR is a ‘forward-looking measure that summarises the incentives to invest in a particular asset as provided by complicated tax laws’. Put simply, the METR is a measure weighing up the mix of taxation and incentives for a marginal investment. A higher METR would disincentivise investment and lead to fewer investment projects; a lower METR would serve as a stronger incentive to investment. Table 1.4.2 shows METRs by sector in 2015, which helps us understand which sectors in South Africa benefit most from existing tax incentives.
In 2015, the World Bank conducted a sector study of the tax burden and investment incentives in South Africa.21 Some of the findings are unsurprising and suggest that the continued predominance of the minerals–energy complex in policy thinking about the tax incentive structure favours sectors associated with the complex. From a macro-economic perspective, in 2015 the METR across all sectors of capital investment was lower than the statutory corporate income tax rate of 28%.
This is important to note, as in public discourse this rate of taxation is often used interchangeably with the actual tax paid by corporations. It does not consider the allowances on capital costs that make the effective tax paid lower than 28%. These allowances in South Africa include accelerated depreciation schedules, investment allowances and interest deductibility, all of which work to reduce the effective tax burden considerably.
Table 1.4.3: Marginal effective tax rates in South African industries, 2015
The differences in METR between the different sectors shown in Table 1.4.2 imply differences in not only the tax treatment of different sectors but also the sensitivity of tax incentives to different capital structures and asset mixes (which influence rates of depreciation). For instance, the mining sector and qualifying small businesses enjoy 100% depreciation on plant and machinery, while the agricultural and manufacturing sectors receive much lower depreciation benefits.
The World Bank study suggests that accelerated depreciation allowances generate tax advantages that depend on how the tax rate of depreciation compares to the actual rate of economic depreciation (for example, buildings depreciate far slower than heavy machinery). The other comparative advantage some sectors would enjoy would depend on the mix of debt and equity they have on their balance sheets. This is because the tax system allows for the deduction of interest payments from the calculation of taxable income,22 which serves to lower the cost of financing capital investments through debt instruments. This is in line with a longstanding concept in capital structure theory, the Modigliani–Miller theorem, which states that the value of a company increases in proportion to the amount of debt used (ignoring other frictions and transaction costs) as a result of the tax deductibility of the interest on that debt. This would introduce advantages to sectors that rely on debt to finance investments. In South Africa, the tourism sector has the highest debt-to-asset ratio, 0.78, followed by the construction and electricity sectors.
The current corporate tax code may encourage greater investment in capital, which at times may be labour-displacing. It may serve certain sectors (such as the minerals–energy complex) at the expense of employment and output expansion in other sectors – sectors that could offer greater growth and employment potential. In simple terms, these are the opportunity costs and trade-offs in the existing raft of tax incentives that this discussion seeks to make visible.
The current corporate tax code and system of depreciation and investment allowances may encourage greater investment in capital, which at times may be labour-displacing. It may serve certain sectors (such as the minerals–energy complex) at the expense of employment and output expansion in other sectors – sectors that could offer greater growth and employment potential. In simple terms, these are the opportunity costs and trade-offs in the existing raft of tax incentives that this discussion seeks to make visible.
The mining sector receives the most generous tax treatment (with the lowest METR). Not only are some of its capital investments subsidised but ‘mining companies can immediately and fully write off their capital investment in the year it is incurred’. This generates a significant subsidy to capital investment in the sector. Table 1.4.3 gives a detailed outline of the respective METRs for each type of capital investment.
Table 1.4.3: Marginal effective tax rates on capital in South Africa
Furthermore, in the gold mining sector (which is in serious decline in South Africa and characterised by deeper ore bodies), the corporate tax rate is determined by the gold tax formula, which starts at 45% for highly profitable projects but can go as low as single digits for companies whose ratio of taxable income to revenue is less than zero. It is worth noting that such a tax may also serve to incentivise the understating or repatriation of profits through complex and aggressive tax-planning approaches.
From the discussion above, a clear picture emerges:
Which leads us to ask: Do the sectors that receive the greatest advantages from tax incentives on capital deliver the most in terms of output and employment, especially the employment of unskilled and semi-skilled South Africans? This is a question we address in our main story.
A noteworthy finding of our assessment of incentives is that their allocation is closely linked to the characteristics of the minerals–energy complex – in particular, high levels of poverty and concentrated wealth. The World Bank’s 2017 Economic Update on South Africa found that South Africa’s investment tax incentives and private investments have increasingly gone towards sectors that are not very productive and which generate relatively weaker total factor productivity growth (mining, electricity and transport) and away from sectors with increasing factor productivity (manufacturing, agriculture, construction, trade and finance).
Our METR analysis showed that tax incentives have favoured mining and tourism in particular. Has this relative advantage been well placed?
Every year, during the budgetary process, the National Treasury publishes its budget review. The review contains the key information and evidence used to inform the budgetary choices adopted by lawmakers for the next one-year and three-year periods, and for setting a medium-term framework. One of the most useful pieces of information in the Budget Review is the calculation of sector multipliers. These sector multipliers show the relationship between demand, output and employment. They explore the impact that a R1 million expansion of output in a sector will have on employment and national output. Table 1.4.4 on page 72 shows how an expansion of R1 million in output in mining and quarrying creates one unskilled job, and even fewer (0.6) for those who have a post-secondary-school qualification. In sectors like construction, every R1 million of expansion in sector output creates over three unskilled jobs. Table 1.4.4 shows that agriculture, forestry and fishing have the strongest multipliers in absorbing unskilled labour, with close to four people employed for each R1 million of expansion in output and, by extension, they have a R1.7million impact on national output. The electricity, gas and water sector has the weakest employment multipliers for unskilled labour, followed by mining and quarrying.
The World Bank’s 2017 Economic Update on South Africa found that South Africa’s investment tax incentives and private investments have increasingly gone towards sectors that are not very productive and which generate relatively weaker total factor productivity growth (mining, electricity and transport) and away from sectors with increasing factor productivity (manufacturing, agriculture, construction, trade and finance).
The fixation on traditional large industries with greatest export growth potential is clearly out of sync with South Africa’s pressing development priorities. Within this context, a major recent development is the change in approach by the NDP which suggests that the only way that the country can meaningfully reduce unemployment, poverty and inequality is through higher, sustainable, more balanced and more inclusive economic growth. The NDP recognises that higher and more balanced growth requires faster growth in the country’s tradable export sectors. This will result in better export performance, less vulnerability to capital flows through smaller current account deficits, greater and more balanced employment creation and a faster reduction in unemployment, poverty and inequality.
As shown in this discussion, South Africa is host to considerable mineral reserves of strategic significance to the global economy. The NDP seeks to place the national economy on a production-led growth trajectory in order to tackle the country’s developmental challenges of unemployment, inequality and poverty. A particular focus is to ensure greater local processing of South Africa’s abundant natural resources. This policy framework prioritises the mining value chain, which includes mineral beneficiation, as one of the key economic activities that present the highest value proposition towards the attainment of its objectives.
The beneficiation strategy for South Africa’s minerals industry focuses on developing mineral value chains and facilitating the expansion of beneficiation initiatives in the country, up to the last stages of the value chain. The South African ferrous industry shows some of the benefits of higher stages of mineral beneficiation. In 2008, a sale of 65.4 metric tons (Mt) of ferrous ore realised R45 billion in revenue, while a sale of 4.2 Mt of processed ferrous metals realised a revenue of R52 billion. In the same year the total sale of South African minerals (excluding diamonds and strategic minerals) was R300.3 billion.23 In 2000, it was established that a tonne of stainless steel containing chromium was worth 147 times more than a tonne of chromium chromite ore, and the value of polished diamonds was between 30 and 173 times more than that of rough diamonds, depending on where they were along the value chain.24
The strategy is also aligned to other broader national programmes, including the industrialisation, energy security programme and the Advanced Manufacturing Technology Strategy (AMTS). The strategy is premised on the need to unlock downstream and side-stream values and provides the initial analysis of opportunities and challenges in downstream beneficiation as well as suggesting instruments that must be investigated and implemented to enhance value addition. The total net beneficiation of minerals is maximised by a combination of downstream and side-stream linkages.
The strategy seeks to advance development by optimising linkages in the mineral value chain and facilitating economic diversification, job creation and industrialisation. It also aims to speed up progress towards a knowledge-based economy and contribute to incremental GDP growth in mineral value addition, the transformation of ore into smelted or manufactured products, per capita, in line with the vision outlined in the New Growth Path (NGP) and IPAP 2014.
The broader context of the NDP (and this review) has therefore related to the challenge of enhancing the role of traditional sectors such as mining and agriculture in improving the country’s tradable sectors.
The beneficiation strategy for South Africa’s minerals industry focuses on developing mineral value chains and facilitating the expansion of beneficiation initiatives in the country, up to the last stages of the value chain. The South African ferrous industry shows some of the benefits of higher stages of mineral beneficiation.
South Africa faces the challenge of diversifying away from resource extraction and a reliance on commodity exports towards a manufacturing, value-adding and more labour-intensive growth path with the highest economic and employment multipliers and spillover effects.
Economic data suggests the current growth trajectory is unsustainable. GDP contraction is evidence of the importance of mining but there is a critical need to move up the value chain. Upstream mining, downstream beneficiation and linkages to the manufacturing sectors are critical (and should not be equated with further mega-capital and energy-intensive investment projects).
Most growth industries are part of the fast-growing tertiary sector of the South African economy. Although the importance of tertiary industries in recent times is acknowledged, we argue that the primary sector of the economy, in particular mining, can still contribute significantly to the economic well-being of the country.
Through its connectedness in the South African economy, mining can stimulate growth in secondary and tertiary sectors of the economy if appropriate policies are adopted. For example, the resource-based research that is linked to mining and mineral beneficiation competency and enterprise development could be engineered to create the required labour absorptive employment opportunities in the manufacturing industry, with finance provided by institutions in the tertiary sector.
Slow growth in the tradable export sectors and higher growth in the non-tradable sectors exacerbate the structural mismatch in the labour market, which aggravates the country’s unemployment challenge. Tradable export sectors (agriculture, mining and manufacturing) that traditionally provide permanent employment to unskilled, semi-skilled and some skilled workers, have grown slowly and reduced their labour numbers. Non-tradable sectors, which tend to offer temporary employment for semi-skilled and skilled workers, have grown quickly. The result is less demand for unskilled and semi-skilled workers – categories which cover the majority of the country’s unemployed people.
Through its connectedness in the South African economy, mining can stimulate growth in secondary and tertiary sectors of the economy if appropriate policies are adopted.
Government’s industrialisation strategy is essentially a labour-intensive, urban-employment creation and black industrialisation policy that aims to supplement new economic strategies of export promotion in services and manufacturing. It’s acknowledged, however, that these sectors have limited capacity to employ people because they rely heavily on technology and automation.
At one level, government’s black industrialisation strategy is of prime strategic importance to the long-term ambition of inclusive and sustainable development – or development through an industrialisation strategy using clusters to build synergies in value chains. These industry clusters are a selection of contiguous industries identified by government to build synergies across value chains and attract investment through a range of complementary incentive schemes. It’s also an attempt to direct investment through the creation of economies of scale.
However, bringing together the data on incentives in a more structured way highlights the broad spatial and structural characteristics of the economy, a direct result of legacy issues and ongoing barriers. This is important for an assessment of policy, current planning and future interventions.
One factor to consider is the issue of structural economic reconfigurations. This is particularly important now because of the challenges the country has historically faced (and continues to face), brought about by racially skewed patterns of ownership and, beyond 1994, the structural economic problems that hinder an inclusive development trajectory. The dominant themes emerging from the data which are shaping the economic landscape include the phenomenon of economic dualism – that is, the skewed distribution of income and opportunities towards the minerals–energy complex economy, resulting in economic inequalities, spatial separation, and township deindustrialisation – have resulted in the unintended consequence of entrenched apartheid patterns of accumulation and concentration, a spatial and structural economic configuration that is unsustainable in the long term.
Other issues to be considered include:
The key message from this discussion is that we need to reallocate both tax and non-tax incentives to sectors like tourism, agriculture and construction, and community and personal services. Although they have high METRs, they have the strongest employment multiplier impacts for people whose highest qualification is a secondary-school certificate. For instance, construction has strong employment multiplier effects on unskilled labour, but with an METR of 19.5% has a much higher effective tax rate on capital investment than mining (-1.2%).
In addition, they have a greater capacity to absorb unskilled workers. High METRs are a disincentive to significant and long-term investment in these sectors. Public funds could be better used by investing in the prospects of these sectors rather than funding the full capital costs of a sunset industry like mining, which has a finite and very capital-intensive shelf-life.
It stands to reason that tax incentives should support sectors such as agriculture, wholesale and retail trade, and construction.
Jargon buster: Multiplier effect : The ability of an investment to stimulate broader economic and social benefits to a country. (In one of the following sections, we point out that, managed effectively, direct investing into long-term care could have a multiplier effect of as much as 1.5 times over three years.)
The key message from this discussion is that we need to reallocate both tax and non-tax incentives to sectors like tourism, agriculture and construction, and community and personal services.
Table 1.4.4: Multiplier effects in different sectors of South African economy
The tourism sector is where some of the tax incentives on capital spend seem well placed. This sector has strong employment multiplier effects on people without a post-secondary-school qualification, with just over three people employed for every R1 million invested.
The World Bank, in its 2017 Economic Update on South Africa, suggested that policy should consider targeting capital allowances to sectors generating the same amount of additional investment at much lower fiscal cost. We would suggest going much further: policy should consider targeting capital allowances to sectors which display strong employment multipliers for people without a secondary-school qualification. On average, the cost of capital investment tax allowances to create one job is R188 377, whereas average gross labour remuneration for the same year (2012) stood at R107 509.25 This implies that, on average, the fiscal cost of creating one job through capital allowances (and foregone revenue) is greater than the cost of fully subsidising the remuneration of one employee.26 What accounts for this high fiscal cost, relative to average remuneration, is the large extent to which incentives are targeted at sectors which do not generate additional investment, increased output returns or even more employment.
The government’s capacity for carrying out its policy mandate is, in principle, determined by two main variables:
A fundamental trade-off in designing appropriate policies, strategies and systems (which in theory is the modality for matching investment with needs) is the balance between different sets of incentives: between investment and employment; between investment and taxation; between employment and taxation; between taxation and well-being.
However, even if government appreciates the efficiency of private investment in the economy, there is frequently concern about the ability of the authorities to secure a ‘fair share’ of resources for the state. To be clear, the objective of government is to create a conducive environment for development and revenue-generation by providing tax and nontax incentives. Compensation should not be levied at such a high rate that it discourages companies from investing. By contrast, policy should avoid a vicious cycle of value destruction, where value is lost to vested interests, consequently leaving less value for circulation in the economy. Policy and strategy need to be evaluated from the perspective of all stakeholders: both vested interests and general interests ought to be considered.
The task before us is to identify the optimal mix of tax instruments and non-tax incentives towards investments that meet the NDP objectives. We suggest a framework for analysing an investment– incentive balance between (a) the national imperatives of growth and escalating investments in new activities, and (b) the overriding need to ensure an appropriate revenue base for creating employment and reducing poverty.
The framework has three dimensions of analysis:
The framework provides a holistic and integrated view of the processes by which value is created, captured and circulated as a basis for a new alignment of incentives. It suggests a feedback from the total value created within the sector to the country’s financial and economic welfare in a virtuous cycle of growth and employment creation.
Embedded in this approach is the coordination of fiscal, tax and non-tax incentives around the NDP. The NDP is a foundation for inclusive growth based on a combination of incentives and cast within an overall industrial strategy. Its long-term effectiveness depends on all stakeholders to cohere around a new investment paradigm.
A systemic, structural multistakeholder and collaborative response to the issues outlined above, involving both the public and private sector, is needed to align and trade off public incentives with sectors that have the proven potential to create jobs and value (in the form of innovation, structural change and transformation). This will require, as the World Bank suggests, ‘reorienting investment tax incentives towards more responsive sectors (those with greater employment multipliers), which would stimulate growth, create employment and support the alleviation of poverty’.27
Figure 1.4.4: Framework for analysis an investment- incentive balance
Our emphasis is on assessing the effectiveness of tax and non-tax incentives as an instrument to cause structural changes in the economy towards a more inclusive and sustainable growth path. We have looked at the array of tax and non-tax incentives on offer in South Africa, the relative advantages they bestow on key sectors, and the investment some of these incentives have been able to attract. We discussed the important dimensions of tax incentives, and how sector and organisation-level dynamics influence their efficacy. Lastly, we explored what should be taken into account when assessing the value of incentives, in particular the important role of employment and output multipliers.
We believe there is a role that corporations receiving support (or industry bodies representing them) can play in ensuring that incentives do not focus on capital in a way that displaces labour. This is important as we consider the changing world of work. Moreover, it is important to prioritise sectors that have a wide-ranging and significant impact on the employment of unskilled workers, the largest group of unemployed people in South Africa. In this way, both the private and public sector can contribute to developing an ecosystem that limits the tendency to narrowly privatise returns while socialising losses. This is not just the role of policymakers and policy and tax advocates, but of all parties interested in enabling greater and more widespread individual and collective well-being.
1 Chamber of Mines. 2014. Facts and Figures (online).
2 Statistics South Africa. 2018. Quarterly Labour Force Survey, Q1: 2018 (online).
3, 4: Davis Tax Committee. 2014. Draft Interim Report on Mining.
5 Robinson, IC & Von Below, MA. 1990. Role of the Domestic Market in Promoting the Beneficiation of Raw Materials in South Africa, Research Gate (online).
6 Curtis, M. 2009. Mining and Tax in South Africa: Costs and Benefits, p. 1 (online).
7 Mawby, AA. 2000. Gold mining and Politics – Johannesburg, 1900-1907: The Origins of the Old South Africa, Edwin Mellen Press, New York, p. 172 (book).
8 Feinstein, CH. 2005. An Economic History of South Africa: Conquest, Discrimination and Development, Research Gate p. 172 (online).
9 Feinstein (2005), pp. 172–176.
10, 11: Innes (1984).
12, 13: Feinstein (2005).
14 Davis Tax Committee (2014).
15 Feinstein (2005).
16 Department of Trade and Industry. 2017. Industrial Policy Action Plan 2017/18 – 2019/20. Presentation to the Portfolio Committee on Trade and Industry, 13 June 2017 (online).
17 The Department of Trade and Industry. 2017. the dti Annual Report 2016/2017 (online).
18, 19 The Department of Trade and Industry (2017).
20 Fullerton, D. 1999. Marginal effective tax rate. In Cordes, J, Ebel, R & Gravelle, J (eds.): The Encyclopedia of Taxation and Tax Policy, Urban Institute Press (online).
21 World Bank. 2015. South Africa: country-level fiscal policy notes. Sector study of effective tax burden and effectiveness of investment incentives in South Africa – Part 1 (online).
22 World Bank (2015).
23 Department of Mineral Resources, Briefing Note, 2009.
24 Chamber of Mines (2014).
25 Davis Tax Committee (2014).
26 World Bank. 2017. Private Investment for Jobs: South Africa Economic Update, January 2017 (online).
27 Davis Tax Committee (2014).