Low tax-spend will uplift the poor better than welfare, infrastructure or training

Imagine a typical underdeveloped country with power and wealth concentrated in a few hands. A really poor country, but by no means the poorest in the world, with conditions certainly worse in neighbouring countries. Large numbers of people living in abject poverty, with many on the verge of starvation. A huge proportion of the adult population unemployed or wastefully underemployed. Most people working on the land.

Most on the land means it can't be South Africa. Nor Zimbabwe, poorer than its neighbours. Well, Botswana's per capita incomes overtook South Africa's in 2001. But in fact this was Britain around 1780, just before the industrial revolution.

Nowadays the average Briton is roughly six times better off than South Africans and Botswanans and more than fifty times richer than struggling Zimbabweans. Countries that are rich today underwent a development process much like what's happening today in those 'developing countries' that really are developing.

Undeveloped though it was, poor old 1780 Britain was the richest nation in the world. Did that make Britons feel better off? Better off than South Africans feel now, relatively poorer than the developed world but relatively richer than other Africans? Of course not. Those old Brits might have felt good to be the world's richest, but only one country can feel that and these days it's not Britain but Luxembourg.

Relative wealth is an abstract concept that may interest economists. But in the real world it's absolute wealth we want, and the more the better. It's cold comfort to be poor but not poorest. It's cool to be rich though not richest. Good luck to all the Joneses next door. When you're winning you forget envy's bitter taste. Rather be rich and healthy than poor and sick, however many zillionaires there are out there.

Pre-industrialised Britain, poised for urbanisation, did have a government. But by modern standards it was tiny, and financed mainly from customs and excise revenues. No income tax, company tax, tax on interest and capital gains, consumption VAT, sin taxes, fuel levies or exchange controls! Of course there was a huge British navy, largely manned by press-ganged conscripts, to beat off the French, the Spanish, American privateers, and the Muslim pirates of Africa's Barbary Coast. Thus government protected its merchants trading overseas and secured the homeland against invasion, but crime was rife. To uphold property rights, contracts and internal order there had been magistrates and law courts for six centuries already, and town prisons galore, but the world's first police force was only established much later, in metropolitan London in 1829.

Back then there was no question of the state providing welfare assistance for the poor and needy. Charitable individuals and institutions like the church did the job. Government was not 'instituted among men' for that purpose and expropriated no private funds for it. On the other hand, merchants and engineers and entrepreneurs who generated large profits for themselves and their shareholders kept and reinvested them in a virtuous cycle of capitalist growth and prosperity. Rural peasants migrated to town and factory, though not fast enough to stop the booming economy's rising tide of general wage levels.

Workers accepted the best jobs they could find, with nobody imposing minimum wage barriers or health and safety regulations. Working conditions improved thanks to the self-interest and benevolence of employers and pressure by social reformers. Perhaps union activities also helped.

There was also no question of the state creating industrial infrastructure or providing schooling or skills training. Also not government's purpose, and still no funds. Roads, harbours, canals, railways, parks, theatres, museums, schools, universities and on-the-job training, all were financed privately for profit and the public good.

Out in front, Britain grew and prospered for an incredible century. This was despite never knowing in advance how to overcome the next technological barrier, as following countries know by observation of history. Then catch-up countries like Germany and the United States overtook Britain, followed after World War 2 by Switzerland, Denmark, Japan and a whole string of other OECD countries. Of these, Ireland, Spain, Portugal and Greece were hardly richer than South Africa fifty years ago. They certainly are now - seven, four, three and three times richer.

Well, of course, none of them had apartheid's laager-protectionist national socialism stifling their growth from 1970 or earlier. And neither, since 1994, does South Africa. Yet for the last decade our growth rate has remained barely positive after discounting population growth. Something is still stifling growth. What can it be?

The 2004 budget confirmed promised tax increases of 10% in each of the next three years, or 4.7% yearly in real terms after inflation. If economic growth accelerates as forecast to 4.0%, the state's tax-share of GDP will rise from 2003's 22.7% to 27.0% in 2006/7. With targeted 3.0% deficit, state spending will rise from 25.2% to 30.1% of GDP. If rising tax-spend fails to boost growth, of course, government's share of GDP will rise still faster unless tax-spend is cut back.

Clearly you get less of what you tax. So one would expect lower growth from higher taxation. And judging by actual growth during the first democratic decade, government hasn't yet prioritised faster growth. Exercising its legitimate prerogative, it has instead redistributed wealth to progressively extend the social security system.

The good news is that President Mbeki has apparently challenged his cabinet to increase the number of people in society who depend for their livelihood, not on social grants, but on normal participation in the economy. So government's next task will be to accelerate the pace of growth and job creation and extend the scope of development and empowerment. Rather than reducing taxation and spending, this will mean shifting the growing tax-spend more towards infrastructure and capital formation, education and training.

Will it work? Will spending more tax money on infrastructure and training, and less on social grants, boost growth? Back in the nineteenth century, industrialising Britain did neither, leaving the money in the hands of those earning it. It's a question of economic models, of what has worked elsewhere in the past, and of the perceptions and confidence of savers and investors here and abroad. After all, what has worked elsewhere may not be South Africa's best remedy. So hang onto your hats for some 'teach yourself economics', trial and error, and 'wait and see'.

Author: Dr Jim Harris is a freelance researcher and writer. This article may be republished without prior consent but with acknowledgement to the author. The views expressed in the article are the authorÂ’s and are not necessarily shared by the members of the Free Market Foundation.

FMF Feature Article / 24 February 2004 - Policy Bulletin / 27 October 2009

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