Review of investment incentives must make SA’s carrots tastier

As funds to attract companies become scarcer, government must focus on what works best, writes Duane Newman

08 March 2017

The government is conducting an important review of its basket of investment incentives, but the message from Finance Minister Pravin Gordhan’s recent budget is not encouraging — especially as references were made to World Bank studies stating that tax incentives are not effective for developing countries.

The finance minister made it clear that there would be an overall reduction in the incentive pie. And that it would be carved up in a different way.

He was vague about what will happen to the structure of support for manufacturing, but more details are expected to emerge in the months to come once the national review of incentives has been completed.

SA’s grant and tax incentives cost the taxpayer in the order of R20bn a year, and at a time of strong competition for resources, the government sees a need to assess what benefit, if any, they bring to the economy.

When they work well, incentives are a way of rolling out red carpets to replace red tape, to attract investment, both local and international. Incentives are widely used across the world, and there is a strong argument to be made that SA would be foolhardy to get rid of its investment incentives while others hang on to theirs.

While the South African bowl of carrots may seem generous to us, it is a drop in the global ocean compared with the massive sums available to footloose firms in some other jurisdictions.

A recent study of the subject, Rethinking Investment Incentives (edited by Ana Teresa Tavares-Lehmann, Perrine Toledano, Lise Johnson and Lisa Sachs), points out that in the US alone, state and local government incentives run to an annual total of more than R750bn.

In a bid to attract a Sasol investment in Louisiana, a R1.725bn grant was offered for the purchase of land and property, along with a tax exemption of R30bn to R45bn. So one American initiative to win the Sasol business was easily worth more than SA’s total annual budget for investment incentives.

The same study suggests that about 77% of investment decisions would have been made anyway, without an incentive being on offer. So why bother?

Well, it does seem to be the case that incentives can tip the balance in favour of one location over another. While they cannot make up for an unattractive business environment, they can go some way towards overcoming some drawbacks.

And if SA can’t compete in terms of sheer scale, the country can be smarter and more strategic about the way it uses its limited resources.

And we must be realistic. There are some factors in SA that deter investors. These include a volatile currency, political uncertainty, concerns over issues such as land reform and the protection of investments, a strike-prone labour force and the country’s relative distance from major global markets. Such factors cause second thoughts and can make it difficult for, say, an SA-based car maker to win new investment from its parent company. However, they are not a death knell for investment.

There are some factors in SA that deter investors. These include a volatile currency, political uncertainty, concerns over issues such as land reform and the protection of investments, a strike-prone labour force and the country’s relative distance from major global markets

Indeed, while there are wins and losses, post-apartheid SA has rebuilt a world-class automotive assembly sector. And this would not have happened without investment incentives.

They have also made a difference in reversing the decline of the textile industry, in growing the business outsourcing and film-making sectors and will be important in developing agroprocessing and renewable energy businesses.

I do believe SA must retain its incentive armoury, as I have seen at first-hand how they can help to attract investment.

The Department of Trade and Industry is already looking at putting more focus on targeted sectors, as it has done with the automotive sector, and on black business.

Gordhan made clear in his budget that the overall cake is shrinking, with fewer resources available in future, so the review of incentives is needed to identify where the country is doing well, and to establish if there is any waste in the system.

The key incentive for manufacturing, the Manufacturing Competitiveness Enhancement Programme, has been on hold for a while and it doesn’t look as if it will ever return in its existing form. This will mean less certainty for industry, and will make it less easy to attract job-creating investment to SA. The sooner we get clarity on the department’s strategy and how much is available for manufacturing, the better. As the World Bank confirmed in its recent report on tax incentives, manufacturing is a more efficient job creator than some other sectors of the South African economy, such as mining.

So as the Department of Trade and Industry and other government departments look at their incentive programmes, there are certain questions they should be asking.

Are the programmes well co-ordinated, so that they present a comprehensive and logical whole? Is the application process speedy, transparent, fair and free from external influence? Are the incentives all regularly assessed for efficiency and can we be certain they are having the desired effects in terms of boosting economic growth, employment and exports?

The review should result in a more efficient and effective basket of incentives. Of course, it is vital to see the government departments that hand out the incentives — such as the Treasury and the Department of Trade and Industry — being involved in the review.

However, there are other players who must be consulted, namely the firms themselves. What about the companies that have won incentives? Was it a smooth process? Did it anchor them in SA, or did they scoop up a time-limited incentive, cash in, and then close down and move elsewhere?

Of equal interest would be feedback from companies that either failed to get an incentive or didn’t even consider investing in SA. What is wrong with our carrots? How do we do better, and is it worth the expense?

  • Newman is a partner in Cova Advisory