Fiscal policy impacts demand in the economy directly through government spending and indirectly by affecting the income of households and firms through tax changes and transfers and subsidies. Over time, higher government expenditure comes at the cost of higher taxes to ensure a balanced budget, so one cannot assume that government spending necessarily boosts economic growth. To the extent that looser fiscal policy does add to demand, it may also cause inflation and interest rates to rise. Since the global financial crisis of 2008/9, there has been an active debate about whether fiscal policy has remained loose in spite of lower growth and so has been stimulating economic activity or whether tighter budgets have worsened the economy’s slowing growth (see here or here).
A recent UNWIDER paper by du Rand, Hollander and van Lill (2023) estimate the SA fiscal multiplier government consumption on output of 0.16 and investment of -0.12, with both estimates not statistically different from zero. These estimates imply that R1 of unexpected government consumption would only raise GDP cumulatively by 16 cents and R1 of government investment would actually tend to weigh on economic growth. Their estimates are negative for government consumption in their largest model, though still statistically insignificant.
Unfortunately, the paper does not explore whether different forms of taxation have different multipliers than different forms of expenditure. Its also a pity that there has not been research into the macroeconomic consequences of the VAT increase in 2018 and corporate tax rate adjustment in 2022.
These estimates are low compared to other less up-to-date estimates for SA, but not out of line with what others have found for many other economies. SARB estimates suggest the overall fiscal multiplier fell to zero in 2019. Fiscal multiplier estimates are notoriously sensitive to the empirical approach and methodological choices used. Commonly used approaches require stationary data to be used, so in a South African context where, for example, debt has been rising rapidly, researchers have to torture our data to get them into a form that they can be used as an input in their models. It is likely that higher public debt, the deterioration in investor confidence, corruption and deteriorating state capacity have reduced the impact of spending on the economy, but there is little empirical work on the contribution of these factors to South Africa’s macroeconomic performance. These factors have weighted on our potential growth. Even if government is not adding to demand pressure, government-determined prices are adding to inflation and deteriorating our international competitiveness.
But these estimates, taken at face value, cast doubt on the potential role fiscal policy might play in actively stabilising the business cycle in SA or the possibility that government spending has boosted growth. In fact, the paper provides support to the idea that fiscal consolidation would be less painful than if multipliers were higher. Now that SARB’s model includes a fiscal block, one also hopes SARB will communicate its assessment of the impulse from the fiscal stance to growth and inflation in future monetary policy communication.
