The Structure of Growth in the South African Economy - Example

Macro & Micro economics Introduction Franklin D. Roosevelt depicts the condition of the United s in his first inaugural speech. He stressed on the economic conditions prevailing in the economy during the year 1933. The challenges that were noticed in the United States eighty year back seem to be quite similar to South Africa’s current situation. There were also major differences in the condition of both the countries. Both the countries experienced adverse economic scenarios due to the effect of a financial crisis. The common issues and the differences between South Africa’s current situation and the USA’s situation during 1930s need to be identified for a better understanding of the economic conditions of both the nations (First Inaugural Address (March 4, 1933), 2014). Common Issues and Differences The common challenges faced were associated with the tax level and income level prevailing in the United States and Africa. The United States experienced a situation where people’s ability to pay constantly deteriorated while the tax level increased exorbitantly. Similar situation is prevailing currently in many parts of South Africa. According to the reports provided by the World Bank and various other agencies, Africa still ranks high with respect to total tax rate for the different regions. South Africa, particularly, also has a high tax. There was continuous fall in income level of the people in the United States. Africa in the present scenario experiences high income inequality as measured by various studies. This high inequality in income level has led to labor unrest in many parts of South Africa. The United States also experienced a fall in industrial productivity eighty years back. Both the countries experienced similar unemployment situations. South Africa has huge unemployment rate owing to the financial crisis. The country has the highest rate of young unemployed individuals. The USA also had similar unemployment problems in 1930s (Fedderke, 2002). South Africa and the USA, however, differed with respect to the different economic sectors. With the advancement of time and technology, South Africa concentrated more on the retail and tourism sector for enhancing economic growth. Other sectors related to financial market are also taking shape. There is ample scope for the e-commerce industry. The USA had different sectors in the 1930s. Manufacturing sector was the main economic sector then. South Africa’s international trade position is very liquid in the present scenario. South Africa is now in a position where it can strategically use the competitive and comparative advantage for understanding the trade policies. The USA had a relatively closed economy during the 1930s. South Africa spends around 3.4 percent of its GDP on providing social grants currently. More emphasis is given on child security. However, the USA emphasized more on social security during 1930s (Scholtz, 2014). Economic Ideas behind the ‘New Deal’ The New Deal model was based on the Keynesian Theory. This was different from the idea supported by President Hoover. Both the theories can be discussed on the background of the Keynesian theory and the classical theory. Financial Crisis and Business Cycles can be explained by the Keynesian theory. The New Deal model was also build on same grounds. According to Keynesian theory, business cycle is a disequilibrium phenomenon. Recessions or boom are nothing but deviations from natural rate of output. This is the situation which leads to consideration of policy measures by Keynes. There is no wage price flexibility in this model. This explains the rigidities prevailing in the economy. Keynesian economic theory focused on the demand factors. When there is deficiency in demand, government takes expansionary monetary policy. Unemployment is involuntary according to Keynes. Government intervention plays an important role. However, President Hoover’s idea depends on the classical economic theory. According to the classical economists, the supply factors do not change in the short run. Supply factors change only in the long run. Classical economists were unable to explain business cycles as in the short run, output was not affected and there was no recession. There was a gap in macroeconomics and therefore Keynesian short run macroeconomics was developed (Keynes, 2006). Policy Recommendations The government should adopt several policies to address the problems related to unemployment and poverty in the South African economy. It has been seen that the people in South Africa focus more on spending rather than saving. Thus policies should be designed to maintain a balance between aggregate demand and aggregate supply in the economy (King and Levine, 1993). Policy 1: The government should encourage entrepreneurial activities by cutting costs of doing business. This can be done by making relaxation in the policies that discourage growth of business in an economy. Lowering business cost can encourage more people to start their own business. Aggregate Supply would increase due to increase in productivity with the growth in business opportunities in a country. This would reduce unemployment to a great extent (Wang, Dennis and Tu, 2007). Figure 1: Shift in AS curve P LAS AS1 AS2 P1 P2 AD Y1 Y2 Y* (Source: Author’s Creation) The figure above shows the effect of increasing entrepreneurial activities by government. The horizontal axis measures the output (Y) in an economy. The vertical axis gives the price level (P). The Long run Supply Curve (LAS) is vertical, since in the long run, the output is always at full employment. The Aggregate Supply (AS) Curve shows the combination of price and output supplied. The Aggregate Demand (AD) curve shows the combination of price and output demanded. In the figure, we see that due to increase in business activities and productivity in the economy, the AS curve shifts rightward. In the short run, we see that there is an increase in output. There is a drop in price level. In the long run, the output increases more to reach a sustaining level. This shows the effectiveness of the policy over time. So the government can follow such a policy but it has to be aware of some limitations associated with the model. Policy 2: The government should decrease spending. This would lower aggregate demand and reduce unemployment. Prices would fall due to the fall in government spending. So this policy can be evaluated on the basis of the aggregate demand of an economy. It can be seen that if government spending is decreased, it would affect output in the long run. However, output in the short run would fall (Ligthelm and Niekerk, 1990). Figure 2: Shift in AD curve LAS SAS P1 AD2 AD1 Y2 Y1 Y* (Source: Author’s Creation) The figure above shows the effect of decrease in spending by government. The horizontal axis measures the output (Y) in an economy. The vertical axis gives the price level (P). The Long run Supply Curve (LAS) is vertical, since in the long run, the output is always at full employment. The Aggregate Supply (AS) Curve shows the combination of price and output supplied. The Aggregate Demand (AD) curve shows the combination of price and output demanded. In the figure, we see that due to decrease in government spending in an economy, the AD curve shifts leftward. In the short run, output and price level fall. However, the long run effects are more vital for the economy. In the long run, the output increases more to reach a full employment level. The growth is more sustaining. Unemployment problems are mitigated effectively over time. Though in the immediate short run the effects are not noteworthy but later on there are chances of a long term growth (Rosenberg, 2003). Consequences of the policies: In case of the first policy, increasing business activities will have some consequences in the form of a negative impact on the economy. This policy would encourage only a particular sector of population to start taking up business plans. People would also be skeptical of opening their own business owing to the considerable amount of risk associated with a business activity. There are other limitations of opening business as well. Firms with medium and small scale of operations will only be benefitted. For a large scale firm, managing supply alone would not help in bringing adequate change in output and price (Second Inaugural Address (January 20, 1937), 2014). In case of the second policy, reducing government spending would again act negatively for an economy. It is evident from the Figure 2 that both price and output would fall in the short run. During this time, unemployment would sharply increase and reach a level that would surpass previous levels of unemployment. Fall in output can bring detrimental effects for an economy (Wolfson, 1994). Conclusion The paper clearly stated that there have been numerous common issues between the current situation of South Africa and the USA in 1930s. For example, the income inequality and labor unrest had led to severe problems for the countries. In the similar way, differences in the two countries were realized in the form of differences in the economic activity of the different sectors. This report has recommended some policies by which the discussed issues can be surmounted. However at the same time, the policies reveal that they have various disadvantages associated with them. Yet, if we look closely, the result shows that the positive effects dominate the negative effect. So even if the policies might have an adverse effect on output in the short run, the problems are mitigated in the long run. The economy is expected to achieve sustaining growth in the long run. Reference List Fedderke, J. W., 2002. The Structure of Growth in the South African Economy: Factor Accumulation and Total Factor Productivity Growth 1970‐97*(1). South African Journal of Economics, 70(4), pp. 282-299. First Inaugural Address (March 4, 1933), 2014. Rector and Visitors of the University of Virginia. [online] Available at: [Accessed 11 September 2014]. Keynes, J. M., 2006. General theory of employment, interest and money. Washington: Atlantic Publishers & Dist. King, R. G. and Levine, R., 1993. Finance, entrepreneurship and growth. Journal of monetary Economics, 32(3), pp. 513-542. Ligthelm, A. A. and Niekerk, L. K. V., 1990. Unemployment: The role of the public sector in increasing the labour absorption capacity of the South African economy. Development Southern Africa, 7(4), pp. 629-641. Rosenberg, E. S., 2003. Financial missionaries to the world: The politics and culture of dollar diplomacy, 1900–1930. Durham: Duke University Press. Scholtz, L., 2014. World Bank highlights SA’s child grants. [online] Available at: < http://www.fin24.com/Economy/WB-report-highlights-SAs-child-grants-20140521> [Accessed 11 September 2014]. Second Inaugural Address (January 20, 1937), 2014. Rector and Visitors of the University of Virginia. [online] Available at: [Accessed 11 September 2014]. Wang, X., Dennis, L. and Tu, Y. S. J., 2007. Measuring financial condition: A study of US states. Public Budgeting & Finance, 27(2), pp. 1-21. Wolfson, M. H., 1994. Financial crises: Understanding the postwar US experience. Armonk: ME Sharpe. Read More