South Africa narrowly avoided entering into a recession because GDP for the second quarter of 2014 managed to grow at a paltry 0.6%. At a 0.6% growth rate, for incomes to double, it will take roughly 120 years. Now, if the economy were to grow at a level of 5%, as envisaged in the National Development Plan, incomes would double roughly every 14 years. Much more inviting.
How do we overcome the current anaemic growth? Government may sorely be tempted to increase taxes to bolster its coffers, especially soft taxes such as levies, import duties, and “sin” taxes that are easily hidden. It could also be tempted to increase personal income tax – mainly targeted at middle and upper-income groups –and increase corporate tax. But to increase taxes would be a serious mistake.
The best way to stimulate growth is to allow people to work, save and invest. Unfortunately, the labour policies in this country discourage the hiring of low skilled workers, and the high income and corporate tax rates and other pernicious taxes discourage savings and investment. When we combine all taxes, many people are paying upwards of 40% of their annual earnings. Typically, these are the individuals who would fund new investment in the economy, which in turn would create the essential new jobs that we so desperately need.
SA’s 28% corporate tax rate is relatively high which serves to deter investment. A lack of investment retards capital accumulation and a lower capital to labour ratio reduces real wages and perpetuates the poor savings and investment cycle. In simple terms, without investments to fund and establish new ventures that create jobs, the smaller the economy and the lower the economic growth rate will be.
The elimination of currently pervasive double taxation justifies the need for a policy that removes pernicious taxes such as estate duties, transfer duties, taxes on retirement funds, and capital gains taxes. Double taxation occurs because personal and corporate incomes are taxed and then whatever returns derive from savings and investments are taxed again. One of the government’s first priorities should be to eliminate taxes on savings and investment.
The Davis Tax Committee (DTC) is currently considering ways to minimise corporate tax avoidance by companies that have activities in more than one tax jurisdiction and have considered aligning South African laws with those adopted by the OECD countries. For many years a debate has raged on how ‘unfair’ it is that some multinational enterprises (MNEs) have found legal ways to reduce their tax burdens by running some of their operations through low-tax jurisdictions or so-called ‘tax havens’. Although these practices are not illegal and the OECD has no idea to what extent these activities occur, it has taken it upon itself to provide solutions to tackle what it refers to as ‘aggressive tax planning’.
However, as the OECD states, “Tax policy is at the core of countries’ sovereignty, and each country has the right to design its tax system in the way it considers most appropriate”. Moreover, the OECD notes, “Businesses cannot be faulted for using the rules that governments have put in place.”
The OECD explicitly argues for more international harmonisation of corporate tax laws to make it easier for countries to tax corporations worldwide. These calls should be rejected. Colluding to maintain corporate tax is neither necessary nor appropriate. The world continues to become more interconnected and countries will use their various comparative advantages to compete in order to attract MNEs. Rather than conspiring to adopt a one-size-fits-all policy, the government should consider the option of switching to a better-designed and more simplified tax system.
Corporate taxes not only deter investment but also constitute an additional tax on income that is ultimately borne by individuals. Taxes may be levied on corporations but people pay taxes in their roles as employees, consumers and shareholders. Agreeing to internationally devised policies, with far-reaching consequences, is the thin edge of the wedge for South African policymakers. South Africa must retain its sovereignty and be free to adopt policies that increase its global competitiveness and attractiveness as a viable investment destination if it is ever to enjoy increased economic growth and provide opportunities that will enable all South Africans to prosper.
Most large corporations listed on the Johannesburg Stock Exchange (JSE) are owned by people through their pension funds, including government and union-managed pension funds. When government and labour unions propose increasing corporate taxes, it is invariably a call for reduced pensions for civil servants and union members. Pension and mutual funds are merely collections of the savings of millions of middle- and low-income individuals. High corporate tax rates serve to reduce the returns to these individuals’ investments and life savings.
The government will do well to avoid inflicting further pain on South Africans by increasing taxes. Reducing personal and corporate taxes and eliminating pernicious taxes would boost economic growth, lead to more people being employed and higher real wages. Reducing the burden of taxes will also increase the country’s competitiveness and attractiveness as an investment destination. Most of all, it would be welcomed by the man in the street who struggles to make ends meet.
Author Jasson Urbach is an Economist and director of the Free Market Foundation. This article may be republished without prior consent but with acknowledgement to the author. The views expressed in the article are the author's and are not necessarily shared by the members of the Foundation.