South Africa: Selected Economic Issues

This Selected Economic Issues paper examines economic development in South Africa during 1995–96. The paper highlights that in 1995, the economy of South Africa grew by 3.3 percent, the third consecutive year of economic growth, and it is expected to grow between 3½ and 4 percent in 1996. Some aspects of the unemployment problem are addressed in this paper. The paper also focuses on the implications for policy of the steps taken in 1994 and 1995 to establish an outward-oriented economy, after many years of effective autarky.

Abstract

This Selected Economic Issues paper examines economic development in South Africa during 1995–96. The paper highlights that in 1995, the economy of South Africa grew by 3.3 percent, the third consecutive year of economic growth, and it is expected to grow between 3½ and 4 percent in 1996. Some aspects of the unemployment problem are addressed in this paper. The paper also focuses on the implications for policy of the steps taken in 1994 and 1995 to establish an outward-oriented economy, after many years of effective autarky.

III. Recent Developments in Trade Policy

1. Introduction

South Africa’s trade policy has long been inward-oriented reflecting, among other objectives, the promotion of industrialization through import substitution. The trade system was uniquely complex, opaque, frequently altered—all of which placed a heavy burden upon the customs services administering it—and exhibited a high degree of dispersion of protection across firms and industries. Notwithstanding a number of partial reforms to the regime in the past two decades, its essential nature remained unchanged.

In 1994, South Africa embarked on a new and comprehensive trade reform under the auspices of the Uruguay Round and the World Trade Organization (WTO). This chapter provides an overview and initial assessment of this effort. It notes that some elements of the reform—notably concerning agriculture—predated the commitments to the WTO; that the reform process is still at a relatively early stage; that some detailed information on the reforms implemented is not yet available; and that important aspects about the future implementation of the trade reform process remain unclear. It suggests that while the effort thus far represents a substantial improvement on the pre-existing situation—and will require a significant adjustment for affected firms—there may be much to gain from a further strengthening of the trade reform process in order to diminish the output and employment adjustment costs.

2. The trade regime prior to 1994

South Africa’s trade regime prior to 1994 was highly protective, employing a variety of instruments such as tariffs, formula duties (see below), direct controls, and import surcharges. The anti-export bias inherent in this protective regime was offset in part by export subsidies and duty drawbacks and rebates. Manufacturing was protected primarily by means of tariffs while the agricultural sector was protected with a variety of instruments including tariffs and direct quantitative restrictions (QRs). The mining sector was largely unprotected. For details, see Belli et al. (1993), and GATT (1993).

The tariff structure in industrial products was complex and subject to frequent changes. Ad valorem tariffs were highly dispersed, and exhibited escalation, i.e., with the exception of capital goods, the rate of tariff increased with the degree of processing. According to the IDC, the weighted average import duty in 1994 was 11 percent on capital goods, 8 percent on intermediate goods, and 34 percent on final consumption goods. The maximum tariff rate of 1,389 percent was applied to certain textile products, and 17 individual tariff lines had tariffs in excess of 80 percent. But at the same time, a large number of tariff lines were zero-rated.

Formula duties, which applied principally to agricultural commodities, were designed to maintain domestic prices above set floors, and were automatically adjusted with changes in international reference prices to achieve this goal. 1/ Their original justification was to combat dumping. However, both the tariff rates and the floor prices targeted by the formula duties were frequently altered, often in response to ad hoc requests by domestic producers.

Import surcharges were introduced as part of the response to emerging balance of payments constraints in 1985. The rates of surcharge were changed on several occasions, but at end-1993, were 5 percent on intermediate and capital goods, 15 percent on motor vehicles, and 40 percent on home electronics and luxury products. In 1990, 60 percent of tariff lines were subject to import surcharges.

These surcharges compounded the escalation inherent in the tariff structures and the combined effect of all the instruments of trade protection was to give rise to high rates of effective protection for domestic production of final goods: the World Bank estimated that the average rate of effective protection in manufacturing was some 30 percent in the early 1990s. 2/

This pattern of protection had a number of effects:

  • it raised the rates of remuneration of factors employed intensively in the protected sectors, notably those of skilled labor;

  • it raised the capital intensity of the domestic economy by encouraging the production of capital-intensive final goods; and

  • it impeded the growth of nontraditional exports by weakening the international cost-competitiveness of these products.

In agriculture, both imports and exports of most products were controlled through some 20 marketing boards. E.g., the maize board obliged producers to market their product through the board, and fixed producer prices based on production costs for each season; in some cases, these prices were well in excess of international market prices. The Department of Agriculture issued import and export permits of major products under the Marketing Act, which entitled the Minister to determine the total maximum quantity of trade. For agricultural products not protected by QRs, formula or specific duties were often applied.

The main export subsidy, the General Export Incentive Scheme (GEIS), was introduced in 1990. 1/ The GEIS aimed at mitigating anti-export bias that resulted from the high level of import protection, and at increasing the share of higher value-added manufactures in total exports. The GEIS provided a tax-free subsidy to exporters based on export turnover, the degree of processing, and the local content of exported products. 2/ The subsidy under the GEIS amounted to approximately R 2 billion in 1995/96.

3. Trade reform commitments under the Uruguay Round of the GATT/WTO

The 1994 trade reform initiative under the Uruguay Round of the GATT/WTO was based on the work of the IDC, the Department of Trade and Industry (DTI), and the Board on Tariffs and Trade (BTT). Following negotiations with external parties and the affected domestic producers, the Government’s final offer was accepted by other countries participating in the Uruguay Round. These countries also accepted South African eligibility under the Generalized System of Preferences (GSP), despite its WTO classification as a developed country, which usually excludes such preferences.

The industrial offer comprised the following commitments:

  • all QRs and formula duties would be tariffied to equivalent ad valorem rates;

  • 98 percent of all tariff lines would be subject to tariff bindings with effect from 1999, up from 55 percent in 1993;

  • the average of all bound tariff rates would fall by 1/3 over 5 years;

  • tariff rates would be standardized at six levels (0, 5, 10, 15, 20, and 30 percent), except for “sensitive” industries: clothing, textiles, and motor vehicles. The maximum tariff rates would be lowered to 45 percent for clothing and textiles and to 50 percent for motor vehicles over eight years; 1/

  • the number of tariff lines, some 12,000, would be reduced by 15 percent at the outset, and by at least a further 30 percent to the six-digit Harmonized Code level by the end of 1999;

  • rebates and the duty drawback schemes would be retained.

The agricultural offer, which also covered processed agricultural products, such as canned foods, beverages, and cigarettes, included the following commitments:

  • tariffication of all QRs to equivalent ad valorem rates;

  • a reduction in the average level of these tariffs of 36 percent over six years;

  • a 21 percent decrease in subsidies, weighted by export volume.

The WTO rules allow signatory countries to use anti-dumping, countervailing, and safeguard duties only against abnormal competition, i.e., “the result of Government intervention which distorts cost and price structures, or of an imbalance between supply and demand which results in abnormally high or abnormally low prices.” 2/ The South African antidumping legislation is currently under review.

Detailed schedules—defining how tariffs will be reduced over time—had been worked out for most of the individual tariff lines by early 1996, but these are not formally part of the offer to the WTO, which only specifies formal commitments applicable from 1999 onward. Thus, alterations can be made to these time schedules—and even to the tariff rates applying after 1999 if these adjustments are consistent with the bound rates—without reference to the other parties to the Uruguay Round agreement. It is envisaged that a number of reasons might be advanced for such alterations, including claims of dumping, and economic difficulties in individual sectors, and even sometimes difficulties faced by individual firms; such requests for alterations will be assessed on a case-by-case basis. In the event that these adjustments imply that the formal commitments to the WTO are breached, there is provision for other countries to lodge formal challenges at the WTO, and these are subject to reviews by that body. These aspects of the commitments to the WTO underscore the considerable degree of discretion retained by the authorities concerning the pace and extent of trade liberalization, within the formal offers made by the South African authorities to the WTO, and motivate a discussion of progress thus far.

4. Trade reform during 1994–1996

a. Import surcharges

The Government began dismantling the system of import surcharges in 1994, removing the 5 percent surcharge on intermediate and capital goods in June and the 15 percent surcharge on motor vehicles in September. It subsequently abolished the 40 percent surcharge on home electronics and luxury products in October 1995. No import surcharges remain in effect.

b. Customs duties in the nonagricultural sector

A large number of changes to the tariffs on nonagricultural commodities have occurred in 1994 and 1996. A summary of these changes—insofar as they concern ad valorem tariff rates—is shown on the first six columns of Tables 6 and 7. These show the import weighted average tariff rates, excluding lines on which the tariff is zero, and the portion of imported commodities, under each category, that enters free of duty. A striking feature of the developments shown is the large number of categories for which average tariff rates have risen between 1994 and 1995: the weighted average tariff rates on lines with tariffs exceeding zero rose in 9 out of 30 categories between 1994 and 1995, and a similar pattern can be seen in final goods, where average tariff rates rose in 15 of the 34 categories. No such increases occurred in the capital goods categories. Tariff rates on some 580 individual tariff lines (out of some 7,000 lines for industrial products) were raised in 1995, many on lines applicable to relatively large volumes of imports.

Table 6.

South Africa: Trade Reform—Intermediate and Capital Industrial Goods

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Weights are shares in 1994 imports.

Including zero-rated tariff lines.

Table 7.

South Africa: Trade reform—Industrial Final goods

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Source: Industrial Development Corporation.

Weights are shares in 1994 imports.

Including zero-rated tariff lines.

In some of these cases, these increases in tariff rates were offset by increases in the share of lines on which tariffs were reduced to zero. In addition, the increases may have reflected the elimination of QRs, formula duties, and import surcharges and therefore do not necessarily imply increases in protection. While detailed information is not yet available to determine the extent to which such steps rationalizing the protective regime account for the frequency of the tariff increases, it is the impression of officials that they explain many of the increases. It is also notable that no such increases are anticipated for 1996, but this is subject to review during the year.

Overall, however, the import-weighted average tariff rate for the whole manufacturing industry dropped from 15 percent in 1994 to 12 percent in 1995 and to 11 percent in 1996. 1/ Nevertheless, the sectoral variation remained high, and the degree of tariff escalation was not substantially altered by the tariff reforms. The major contributor to reducing that escalation was the elimination of the import surcharges.

c. Sensitive industries

Within the confines of the offer to the WTO, the Government developed a plan for restructuring the textile and clothing industries in 1995, reflecting policy recommendations listed in the “Swart Report” issued by the BTT. The plan accelerated the process of tariff reduction-envisaged in the “Swart” report-by shortening the program period from ten years to eight years.

The program specifies progressive tariff reductions over the 8-year period from 90 percent to 40 percent for clothing, from 55 percent to 30 percent for household textiles, from 42 percent to 22 percent for fabrics, from 30 percent to 15 percent for yarn, and from 24 percent to 7.5 percent for polyester fiber. As with other non-agricultural tariff lines, weighted average tariffs for some groups of textile or textile-related items rose between 1994 and 1995, and some are scheduled to do so again in 1996, but a number of tariff reductions were also implemented. Specific duties will be abolished by the end of 1998, with a possible extension of one year in exceptional cases. All duty drawbacks and rebates will be phased out by the end of 2004.

Trade reform in the motor vehicle industry was introduced in September 1995 under two separate development programs: One for medium and heavy commercial vehicles, and the other for motor cars and light commercial vehicles. The implementation of these programs is to be completed by 2000 and 2002, respectively. In September 1995, these two programs eliminated the previous local content regulations aimed at protecting local component manufacturers, and reduced import duties on completely built-up vehicles (CBUs) and components. In contrast, however, the Government introduced an import-export trade balance rebate system to promote domestic production of parts in the motor vehicle industry. 2/

In the case of cars and light commercial vehicles, the Government lowered tariff rates for CBUs from 115 percent in September 1994 to 65 percent in September 1995 and further to 61 percent in January 1996. These tariffs are to be lowered to 40 percent by January 2002, according to a pre-announced schedule (Table 8). Over the same period, tariff rates for components were reduced from 50 percent to 49 percent, and then to 46 percent. They will be lowered to 30 percent by 2002. In addition, the duty-free allowance granted to motor vehicle manufacturers on import components was reduced from 35 percent of wholesale turnover to 27 percent in 1995.

Table 8.

South Africa: Timetable for Tariff Reduction in the Motor Vehicle Industry

(cars and light commercial vehicles)

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Source: “Motor Industry Development Programs,” National Association of Automobile Manufacturers of South Africa.

For medium and heavy commercial vehicles, the tariff rates on CBUs were reduced from 75 percent in September 1994 to 40 percent in September 1995, and to 36 percent in January 1996; they will be lowered gradually to 20 percent by January 2000. The tariff rates on components (e.g., engines, transmissions, drive axles, and tires) dropped from 30 percent in September 1995 to 27.5 percent in January 1996, and will be reduced gradually to 15 percent by 2000. Other components will be duty-free by 2000.

d. Agricultural trade reform

The restructuring of agricultural marketing has made significant progress in 1993–94. This included a shift from systems of surplus removal at floor prices to complete domestic deregulation. In addition, the Government has taken numerous steps to transform the 15 agricultural control boards, and abolished six of them in 1993–94. 1/ The Government also launched a large-scale conversion of import controls to ad valorem duties in 1994, and this process is scheduled to be completed by the end of 1996. It is not known at this stage the extent to which this conversion has yielded tariffs which are below, equivalent to, or above the tariff equivalents of the instruments they replaced, but in none of the categories of agricultural commodities did import weighted average tariff rates rise between 1994 and 1995.

The Meat Board has deregulated auctions and allowed new entry of abattoir firms since 1992. In 1994, the surplus removal operations were stopped, and since then private meat markets have been developed. In addition, the centralized auction system was privatized so that farmers are now allowed to bring their cattle to the auction of their choice as well as market on a private contract basis with dealers. Also in 1994, QRs were replaced by tariffs (R 1.75 per kilogram) though evasion continues to be a problem. 1/

Since May 1995, the marketing system for maize products—which account for 44 percent of all cultivated area and 40 percent of the value of all crops in recent years—has been largely liberalized. Previously, the Maize Board had the sole marketing right of maize products, and maintained prices significantly above world levels. Exports were subsidized with the funds obtained from the difference between domestic consumer and producer prices. The new marketing scheme is based on free market determination of domestic prices, while a surplus removal scheme continues to be operated by the Maize Board as the buyer of last resort. Under the new system, quantitative import controls were removed and the imports of maize products were freed. The operations of the Maize Board are self-financed.

e. Export subsidies

In 1995 the Government initiated the three-year process to eliminate the GEIS, as envisaged under the commitments to the WTO. In June 1995 the GEIS benefits became taxable and the Government reduced the number of export categories eligible for the subsidy and cut the level of the subsidy. 2/ In March 1996, the Government announced its decision to accelerate a phasing out schedule of the GEIS: the GEIS subsidy for processed products was cut from 14 percent of the export value to 12 percent in April, and is scheduled to decline further to 6 percent in July; the GEIS subsidy for raw materials was cut from 3 percent of the export value to 2 percent in April and is scheduled to be phased out in July.

The Government has expressed its intention to utilize fiscal savings obtained from the phasing out of the GEIS to reinforce supply-side measures and develop alternative, WTO-consistent export promotion measures. As part of this, the Export Marketing Assistance scheme was extended further to small, medium, and micro enterprises (SMMEs) in 1995. The Government also extended export credit assurance and guarantees to financial institutions against potential losses resulting from the nonpayment of loans made to exporters who default or experience insolvency.

f. Trade reform and macroeconomic developments in 1994–95

Firm evidence on the contribution of the reforms to the major macroeconomic developments during 1994–95—rapid private investment and import growth alongside stagnant employment (see Chapter I)—is not yet available.

It may have some role in stimulating imports; the contribution is perhaps most apparent in the case of imports of motor vehicles. But other factors, including the rapid growth of inventories stimulated by strong domestic demand and the strength of the rand, appear to have been the primary causes of the rapid growth of import volumes in 1995.

While gross fixed investment may have been stimulated by the beneficial signal provided by trade reform, there is little evidence thus far that its sectoral composition closely reflects the anticipated pattern of protection implicit in the specific targets that the authorities have set themselves.

The reduction in export subsidies, notably following the reforms to the GEIS, have not had an obvious effect on nongold exports, which have grown rapidly through 1995 especially to sub-Saharan Africa.

5. Future trade reform under the WTO

Central to assessing the impact of the commitments to the WTO is the extent to which the commitments will reinforce the authorities’ own trade reform goals by requiring reductions in actual tariff rates.

Data presented in the last three columns of Tables 6 and 7 may form the basis of an initial assessment of this. These data show the weighted average tariff rates (including zero rated tariff lines) in 1995, those implicit in the WTO commitments, and those specified by the authorities as their own targets.

This shows that tariffs in 25 final goods categories, 25 intermediate goods categories, and all but one of the capital goods categories were already below the WTO commitments in 1995. Although individual lines within each of these categories may have to fall to meet the WTO commitments, this is not necessary in a great many cases. In addition, the WTO commitments retain a degree of tariff escalation, implying a higher degree of effective protection for final goods than for intermediate goods.

However, as shown in the last columns of Tables 6 and 8, the authorities’ own targeted tariff reductions are more ambitious—and sometimes considerably more ambitious—than those to which they are bound under the commitments to the WTO, and these are often below the tariff rates applied in 1995. But even the authorities’ own target rates retain a degree of tariff escalation.

These aspects of the current program of trade reform—that actual tariffs do not have to fall from present levels in many cases to meet the WTO commitments, that the authorities are nevertheless targeting more ambitious goals for tariff reduction than obligated to under the terms of their WTO offer which will often require further actual tariff reductions, and that the authorities’ own targets retain a degree of tariff escalation—convey mixed signals concerning the future path of trade reform. While the targets are a sign of the authorities’ intention to open the economy to international trade, the fact remains that they leave considerable room to postpone downward adjustments or even raise tariffs, as well as to raise the ultimate targets for tariff rates.

This room for discretion introduces a degree of uncertainty over the paths that tariffs will actually take. Notwithstanding the authorities’ repeated undertakings not to adjust the schedules or end-targets, the scope for such adjustments was illustrated by a decision in early 1996 to raise the import tariff on alumina in light of the circumstances of the single local supplier, albeit on condition that the supplier provides regular reports concerning measures it is taking to improve productivity.

Given that tariffs can be raised above the authorities’ own targets, this gives rise to some uncertainty over the path of effective protection in individual industries. And because the authorities have not targeted an elimination of tariff escalation, an increase in the protection of final goods can be achieved by reducing tariffs on imported inputs faster than scheduled, while maintaining the scheduled reductions on final goods.

This room for discretion has important disadvantages because it increases the adjustment costs associated with the trade reform. It may encourage attempts in the private sector to reverse—or at least delay—the reform process. Such attempts may include more than straightforward lobbying against individual tariff reductions. They could also include resistance among both employers and employees to make the necessary adjustments. This will tend to increase the loss of employment during the implementation phase of the reform, and these losses may be used as a means of increasing pressure on the authorities to slow or reverse the process. Losses of employment from this source may be compounded by a “wait-and-see” attitude by potential new investors, particularly those investing in outward-oriented activities—who would prefer to make new investments only once the “final” trade regime is in place. In turn, this slows the pace at which unemployed labor is absorbed into such activities.

In view of the output and employment costs arising from this degree of discretion, there may be considerable gains from efforts to pursue the overall strategy of trade reform while diminishing the degree of discretion in the process. This consideration forms part of the motivation for the discussion that follows in Chapter IV.

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1/

While the definition of the reference price left room for discretion, in practice, the price of an American or European product was widely used.

1/

Prior to 1990 there were four types of export subsidy: (i) an input compensation, whereby exporters could receive half the cost of protection afforded to imported inputs; (ii) a value-added compensation, whereby exporters could receive 10 percent of the value added of export sales; (iii) a marketing development scheme; and (iv) a marketing allowance provided under the Income Tax Act. The GEIS replaced the first two.

2/

The GEIS stipulated that for manufactures to be eligible for a tax-free cash payment or a promissory note, the local content had to be at least 35 percent.

1/

Motor vehicle imports comprised 14 percent of total imports in 1994, while textiles comprised 4 percent of total imports, with leather products, footwear, and clothing comprising 1 percent, 1 percent, and 0.5 percent, respectively.

2/

See Green Paper on Customs Tariff Policy with regard to Agricultural Products, 1996, p. 20.

1/

These figures do not include import surcharges.

2/

The rebate permits the duty-free importation of vehicles and components equal to the local content value of motor vehicles and components exported. The rebate is transferable. In some cases the rebate induced a domestic producer to export components in exchange for imports of CBUs.

1/

The Banana Board was abolished in March 1993; the Chicory, Dried Beans, and Rooibos Tea Boards in September 1993; the Potato Board in December 1993; and the Mohair Board in January 1994.

1/

At a price of R 5 per kilogram, this specific duty would imply a tariff of 35 percent. The evasion takes place, inter alia, by qualifying meat products as processed meat products.

2/

Under the GEIS, exports were categorized into four types depending on the degree of processing: (a) primary products (e.g., logs, mineral products), (b) beneficiated primary products (e.g., saw logs, billets), (c) material intensive products (e.g., planed planks, sheet metals), and (d) manufactured products (e.g., furniture, steel cabinets). The higher the level of processing, the larger the subsidies became. In April 1995, the Government abolished GEIS benefits on products listed in category (a) and reduced subsidies for products in category (c) by reclassifying them as category (b).