Re-imagining South Africa’s state structure for inclusive growth

When economies lose momentum and stagnation becomes entrenched, a shift in thinking and action is imperative. So urged Kofi Annan at a Davos panel decades ago—a call that now rings true for South Africa, where economic growth has languished and policy has too often wavered.  The likes of Singapore, Vietnam and Poland have shown that sweeping, resolute reform can spark lasting development and social change.

Yet South Africa’s blueprint for transformation remains undecisive, stymied by a web of economic and political constraints that breeds cautious incrementalism over bold progress. Escaping this impasse will require a re-examination of the state’s architecture and, in particular, rethinking its sprawling and inefficient system of transfers a legacy that has held back both economic dynamism and social advancement.

South Africa’s unbalanced state structure

South Africa’s state architecture, conceived three decades ago, was built on the idea of a powerful central authority amassing tax revenue and redistributing it through a labyrinth of transfers to provinces, municipalities, and citizens. The aim was virtuous: to mend deep historical scars and deliver essential services to all. Yet, the country has taken fiscal redistribution to impressive heights, orchestrating a system where roughly three-quarters of public spending flows through its coffers—a proportion double that of middle-income peers, and triple the continental norm (see Figure 1). Central authorities hold 80% of public resources, but control merely a fifth of actual spending.

Such over-reliance on transfers would be less concerning if it had yielded positive results, as the three main channels of public transfers illustrate (see Figure 2). First, local governments, which receive close to half of all transfers, remain unable to provide reliable social and infrastructure services; a staggering nine out of ten teeters on the edge of insolvency. Second, transfers to households, though a lifeline for millions, are marred by inefficiency: South Africa’s current grant system is roughly 30% less cost-effective than that of Brazil or Mexico. Last, but certainly not least, the transfers lavished on state-owned enterprises (SOEs) have become notorious: since 2009, the central government had to bail them out to the tune of R520 billion (about $26 billion)—an intervention that has failed to halt the well documented decline of their services in energy, transport and water.

Three game-changing structural reforms

Incremental reforms may provide temporary improvements; however, enhancing the performance of the above transfer system’s model may require a departure from current practices. South Africa could consider three potential and bold actions, based on international examples, that may impact outcomes.

Redistribute responsibilities between central and local governments based on the preferred level of fiscal decentralization. For less decentralization, centralize major infrastructure and some education and health spending (e.g., Norway, Singapore, China; South Korea, France, Turkey). For more decentralization, devolve revenue collection—as in Switzerland, Canada, or Vietnam—and consider consolidating small municipalities lacking capacity. Ultimately, political preferences drive the choice, but aligning revenues with spending responsibilities is key for economic efficiency.

Enhance the efficiency of transfers to households for addressing extreme poverty. A fraction of existing social grants, currently amounting to approximately 4% of GDP, could be consolidated and directed towards the 18 million South Africans living on less than $3 per day. This measure would be bold, but it could ensure that these individuals are lifted above the World Bank’s threshold for extreme poverty. Furthermore, integrating new digital platforms and authorizing e-money can minimize transaction costs and reduce leakages. Additionally, implementing conditional cash transfers may yield improved outcomes compared to the broad, non-conditional grants presently available.

Encourage partnerships between SOEs and the private sector. Recent reforms have limited Eskom and Transnet’s monopolies and expanded private sector involvement, while enhancing regulations, coordination and accountability in the power and freight transport sectors. This aims to improve delivery service and attract investment, as the state cannot fund all needs alone. The transformation now needs faster implementation across power, freight, passenger transport, and water & sanitation sectors, building on the country’s previous successes in telecommunications and aviation.

South Africa’s poor economic performance stems from complex issues, but meaningful progress requires restructuring the state, especially the current transfers system, which does not follow international best practices. While policymakers acknowledge this, urgent and decisive reforms are now needed.

Source : World Bank