South Africa should make the R350-a-month Social Relief of Distress (SRD) grant permanent, increase the rate of value-added tax from 15% to 17%, and reform the “distortive” personal income tax system, the Organisation for Economic Co-operation Development (OECD) said in its latest economic survey of South Africa.
The Paris-based OECD is an intergovernmental organisation with 38 member countries. According to the organisation, its goal is “to shape policies that foster prosperity, equality, opportunity and well-being for all”.
Making permanent the SRD grant, which benefits about 10.5 million unemployed people, would cost the fiscus about R42 billion a year and would assist in reducing inequality and increasing social cohesion, according to the OECD.
Its report suggested that a permanent SRD grant could be financed by savings on spending, strengthened public procurement procedures, increasing the VAT rate, or broadening the bases of corporate and personal income taxes. Environmental taxes could also help to raise revenue.
It said the grant, which has been in place almost continually since March 2020, has effectively targeted poverty and filled a gap in the social security system, reaching the unemployed for the first time.
“The Covid-relief grant was highly redistributive and helped low-income households cushion the impacts of the pandemic. An early assessment indicates that Covid-related grants substantially increased the disposable income of the households in the first three deciles, and, in particular, by more than 100% for the first decile. The SDR grant seems to play an important role in the overall impact of the relief plan on [the] disposable income of low-income households,” the report said.
The OECD’s report was published a day before the South African Social Security Agency said it had received slightly fewer than 12 million applications for the SRD grant at the beginning of August.
Earlier in August, the Department of Social Development increased the income threshold for the grant’s means test from R350 to R624.
‘Too many tax breaks’
The OECD’s report said that in the context of limited budget space, the government must strike a balance between increasing already high social transfer spending and increasing social cohesion in a very divided and unequal society.
It said that “considerable fiscal space will be needed in the years ahead to finance health, infrastructure and higher education gaps, which are key to raising growth and well-being”. More efficient spending and revenue collection were necessary.
The OECD proposed broadening the estate tax base by reducing exemptions for life insurance, retirement savings and trust vehicles, as well as closing other tax avoidance schemes.
“Overall, tax rates are already high or comparable to OECD levels, but there is a wide range of tax provisions and exemptions that reduce effective tax rates significantly below statutory tax rates.
“The progressivity of the personal income tax is undermined by sizeable tax deductions and allowances benefiting mostly high-income earners.
“Reducing tax allowances (travel expenses, share options exercised and others), deductions and the tax relief for pensioners would increase tax collections. In particular, deductions for medical expenses should be reduced. Moreover, fringe benefits should be brought more substantially into the taxable income base.”
‘Raise VAT, reduce corporate tax’
According to the OECD, the government could raise additional revenue by increasing the VAT rate by two percentage points.
“The VAT rate is relatively low, and additional VAT revenues could finance spending needs, including the social grant, education or infrastructure,” the report said.
However, a higher VAT rate should be accompanied by increased transfers to low-income households “to mitigate any potentially adverse distributional effects and to increase the political acceptability of a further VAT rate reform”.
The OECD said there was evidence that the wealthy shoulder more of the VAT burden, while VAT exclusions, such as on basic food stuffs, have cushioned the poor. VAT “is among the less distortive tax and is less regressive in South Africa than in other countries,” the report said.
The rate of corporate income tax should be reduced below 27%, because it was slightly higher than in OECD countries. To compensate for this, National Treasury should redesign the corporate system, which, the report said, made generous allowances for companies to carry forward assessed losses and for interest costs, which reduced the tax take.
Electricity supply is the biggest obstacle to growth
The OECD projects that the economy will grow by 1.8% this year and 1.3% next year, saying the risks to the outlook remain high. The South African Reserve Bank (Sarb) has forecast growth of 2% in 2022 and 1.3% in 2023.
The OECD forecasts an inflation rate of 6.3% this year, which is slightly below the Sarb’s forecast of 6.5% headline inflation.
The OECD said that without stronger economic growth, South Africa will struggle to improve the sustainability of public finances and living standards.
Electricity shortages were the most pressing bottleneck to economic activity, with firms hit by worsening power cuts following several years of deteriorating energy supply. Proceeding with a planned split of Eskom into three distinct entities for generation, transmission and distribution and easing regulatory barriers to firm entry would enable other producers to enter the market, adding supply, as well as bringing down prices, the survey said.
It welcomed recent amendments allowing distributed renewable generation projects to proceed without licensing but said steps should be taken to ensure that registration processes do not delay implementation.
“Admitting private providers of renewable energy would quickly increase electricity availability,” the reports stated, adding that it would also help lower South Africa’s carbon emissions, which are particularly high when measured per unit of gross domestic product.
Increase spending on infrastructure
Apart from the shortage of electricity, the report said growth in productivity was held back by an insufficient provision of high-quality infrastructure, from roads and railways to telecommunications.
Reliable infrastructure provides the basic foundation for productive economies, the report said. Improving the effectiveness of public investment, in part through strengthening the selection process for large infrastructure projects, would be a step towards restoring productivity growth.
Public and private sector investment, which amounted to 17.9% of GDP in 2019, was far from the National Development Plan’s target of 30% of GDP, the report pointed out.
The financing of road infrastructure, the OECD stated, was insufficient, adding that the lack of systemic and regular maintenance was accelerating road deterioration.
In addition, the lack of competition in port services has contributed to lower investment, higher tariffs and a diversion of sea traffic.
Low-quality and unequal telecommunication infrastructure was slowing digitalisation of the economy.
The OECD recommended that the funding of road infrastructure from the general government budget be augmented based on cost-benefit analyses, and that transfers of maintenance funds to local authorities be made conditional on the implementation of preventive maintenance.
At the same time, it proposed that prepayment and mobile payment systems be developed for e-tolls, for which payment should be enforced.
In the area of digital infrastructure, the report recommended that new frequencies be allocated in a fair manner and that the sector regulators and the Competition Commission be aligned to strengthen competition policies and their enforcement.
Lack of skilled employees
The OECD said that improving skills in line with employer needs will also be key to reviving GDP growth. Although educational performance has improved in recent years, progress has slowed since 2015, and the supply of graduates remains limited.
It said the government’s education policy should focus on increasing the quality of primary and secondary schooling and developing vocational training and adult learning.
The report suggested that the current limited access to higher education might be remedied through a move to a formula-based funding for universities, taking the number of students, their socio-economic background, and outcomes into account.
