To go BIG or not?

Our article on the basic income grant debate was published in the Business Day today, Below I repost our article.

SA stands out globally for its high rate of unemployment, which is currently well over 40% (when discouraged workers are included). In recognition of the need to mitigate poverty and the extent of inequality, our fiscal system is already highly redistributive.

Government spends over 10% of its budget on grants — a similar proportion as healthcare expenditure. This makes SA one of the emerging markets that spends the most on social assistance. Almost 30-million people, about 50% of our population, receive a grant of some form. This is up from about 7% in 1996.

Yet there have recently been calls on government to extend these grants further or to institute a basic income grant (BIG). What advocates of a BIG underplay is just how stretched our public finances are, and how much pressure further extensions of transfers would place on other government spending. Since 2009 government has consistently spent more than it earns, leading to our debt to GDP ratio doubling to over 70%. As a result, government spends almost 15% of its consolidated budget on servicing its debt, crowding out other forms of spending.

SA also has a small tax base. Of the 5.5-million taxpayers above the tax-free threshold, more than 1-million are government employees. While it is common for the wealthy to pay a large share of the total collected in many countries, SA has an unusually small absolute number of such taxpayers. The latest available data shows that the roughly 200,000 taxpayers who earn over R1m per year pay about 45% of the total personal income tax take, with almost 40,000 of them working for government.

This means that as a share of the total population we have far lower numbers of taxpayers than most G20 economies. A rough comparison puts our proportion at about 9%, compared with about 13% in Brazil, 18% in Turkey and between 40% and 70% in leading advanced economies. And we have relatively high tax rates compared with most emerging market and upper middle-income economies. It is hard to compare tax regimes across countries, but a good example is that our top marginal personal tax rate (at 45%) is comparable to those in relatively high tax countries such as Australia, France, Germany, or the UK.

For example, a grant at about the lower bound poverty line (about R900 a month) for 33-million people would cost more than R300bn to implement. This, the model suggests, would increase debt by more than 40 percentage points of GDP, requiring higher VAT of three percentage points and personal income tax to essentially double. Even just converting the current R350 social relief of distress grant into a permanent grant would require higher public debt and tax increases to cover the R50bn or so required (almost 1% of GDP) per year that this would cost.

While it would help poor households in the short term, our model predicts that there would be some job losses from the contractionary impact on investment and growth that higher debt and higher taxes would have. Our modelling shows that funding additional transfers without resorting to large tax increases and much higher debt requires higher economic growth.

The debate about whether to implement a BIG has drawn attention away from one about what our society needs to do to create sustained welfare improvements. We should be debating what can be done to create jobs and generate the resources with which to sustainably expand the social safety net. The most important right now is economic reform, starting with energy market reform to unleash private sector participation in electricity.

We argue in our paper that addressing the triple challenge of poverty, inequality, and unemployment “is critical for the future of the country, but an unfunded expansion of the social transfer system could lead to even worse economic outcomes — the medicine should not be worse than the disease.” The recent financial market turbulence after the announcement of unfunded expansionary fiscal policy in the UK demonstrates the danger of trying to pursue unsustainable economic policies.

Dr Daan Steenkamp, CEO at Codera Analytics

Dr Hylton Hollander, Department of Economics, Stellenbosch University

Dr Roy Havemann, Research Associate, Stellenbosch University

The full paper is available here: https://econrsa.org/publications/technical-background-paper-the-macroeconomics-of-establishing-a-basic-income-grant-in-south-africa/