Over the past hundred years, the role of government in the economy has oscillated in most countries between the individualistic and the collectivist view of the state. The former is associated more with free-market thinking and individual welfare, the latter with socialist thinking and social welfare. The political-economic systems associated with both revealed their strengths and weaknesses over the years. In practice, the way in which governments across the globe fulfilled their role reveals a continuous pendulum swing in search of the ideal balance between these two approaches, which are often characterised (and crucified!) by their polar extremes. Waxing and waning market failure and government failure continue to prevail.
Whatever the role in any country, the World Development Report’s (WDR) (World Bank, 1997:3) clarion call is as relevant 27 years later:
“For human welfare to be advanced, the state’s capability – defined as the ability to undertake and promote collective actions efficiently – must be increased.”1
The Spence Commission (2008:21)2 resonate with this:
“a capable government was one of the features found to characterise all of the 13 countries in the world that managed to grow at an average annual real economic growth rate of at least 7% for at least 25 years between 1960 and 2005. “
Five of these countries are included in the sample of emerging market economies with which South Africa’s performance is compared in this paper, namely Botswana, Brazil, China, Malaysia and Thailand. This immediately brings into focus another view of government, namely the developmental state view3. The ANC government propagates this model, although the 2022 state-of-the-nation address by President Ramaphosa gave the impression that some rethinking was taking place. Growth policies associated with this view remain controversial in South Africa.4
Notwithstanding, but not unrelated to, the role of government is the type of monetary and fiscal policy. The views on fiscal policy have changed substantially over time.5 After the Second World War, fiscal policy evolved from its initial micro nature to an important macro policy instrument. Shortcomings in the way in which Keynesian economics was implemented – in particular, the failure to reduce debt financing countercyclically during economic upswings, made way for the advance and dominance of monetary and neoclassical policies during the last quarter of the 1900s and up to the global financial crises off 2007-08.
A partial comeback of Keynesian fiscal activism followed. Historically high budget deficits and government debt gave rise to the so-called expansionary fiscal contraction6 (EFC) hypothesis. The argument is that, under certain circumstances, a major reduction in government spending (such as austerity measures) that changes future expectations about taxes and government spending will expand private consumption, resulting in overall economic expansion.7 This is somewhat counter to the view that the government expenditure multiplier predicts an increase in aggregate expenditure and output on account of an increase in government expenditure. Empirical evidence has actually shown that there are times when a country’s expenditure multiplier is less than one. South Africa is currently in this situation8.
Other prominent views on fiscal policy are the public choice school (which canvasses for constitutional fiscal limits to counter the claimed overexpansion bias of government, of which a balanced budget is an extreme version) (Calitz et al., 2023:423) and the structural approach. Ingredients of the latter are: “keeping the public debt and the burden of servicing it at a sustainable level by avoiding high budget deficits or reducing it to acceptable levels, keeping the overall tax burden at a level that does not seriously prejudice incentives to work, save and invest, and keeping government spending in check to avoid crowding-out of private activity, inflationary financing, and the cost-push and disincentive effects of an excessive tax burden” (Calitz et al., 2023:424-425).
Fiscal frameworks9 are the latest manifestation of the debate on fiscal rules (fiscal anchors) and fiscal discretion. This is linked to the monetary approach that propagates fiscal rules as an equivalent institution to the inflation-type monetary rule associated with the independence of central banks and inflation targeting. The 2024 Budget Review committed the government to a binding fiscal rule that will be introduced over the medium term to anchor sustainable public finances.
More recently, Modern Monetary Theory (MMT)10 argues that governments can and should create money to fund public programs and social spending, increasing already high public debt further (in South Africa, for instance!) and even deliberately monetising public debt with rising inflation risks. This approach is reminiscent of the failure of macroeconomic populism (resulting in hyperinflation) in Latin America during the late 1980s and early 1900s and has remained non-mainstream.
In Musgravian11 terms, the above predominantly macro dimension of fiscal policy, that is, its macroeconomic stabilisation function, has to be complemented with the symbiotic micro dimensions of allocation and distribution, although the associated income inequality of the latter is sometimes regarded as a macro form of market failure. A comprehensive overview of fiscal policy, therefore, requires an overview of these as well.
In essence, the case for public goods derives from the neoclassical notion of market failure to achieve allocative efficiency, with government failure as a corollary to an extent. Redistribution is based on notions such as the ability to pay ((justifying progressive tax systems) and basic needs (justifying certain public goods and services). Government interventions that are not clearly thought through or are excessive run the risk of increasing allocative inefficiency rather than operating only in cases or at levels where market failure justifies it.12
1 For a description of these different approaches and their role in South Africa, see Calitz, et al. (2023: 414-450).
2 Coined as such by Giavazzi and Pagano (1990:83). Briotti (2005:22) concludes a survey on fiscal consolidation by stating that, in order to derive the expansionary effects of a contractionary policy, a number of assumptions are crucial to the specification of the consumption. One if them is that fiscal consolidation is only likely to produce a change in peoples’ expectations of future fiscal policies and therefore future expected income if the consolidation is unexpected.
3 This idea was also promoted by Alesina and Ardanga (2013:65). The expansionary fiscal contraction hypothesis does not, however, appear to have attracted much traction.
4 The National Treasury’s internal estimates confirm that the fiscal multiplier is below one, meaning higher government spending has not been contributing to higher economic growth (National Treasury, Various years b – 2024:28). This corresponds with Kemp (2020), Havemann and Hollander (2022) and Du Rand et. al (2023:16). The latter’s estimated multipliers “… suggest that resources spent through government decision-making processes in South Africa are net negative on both individual components of GDP and on the aggregate.” Mbaleki’s (2024:165), employing an ARDL model to study fiscal expenditure multipliers in South Africa and using disaggregated government expenditure components, found the expenditure multipliers to be positive but smaller (less than one) multipliers for all the disaggregated expenditure variables in the long run, with that of the public sector wage bill to be the lowest. Janse van Rensburg et al.’s (2022) modelling “… result suggests that the fiscal multiplier declined from 1.5 in 2010 to around zero in 2019 as the debt levels became progressively more unsustainable and large tax increases muted the aggregate demand effects from higher government expenditure.”
5 See Siebrits & Calitz (2023) for a discussion of fiscal anchors, the latest variation on the theme of fiscal frameworks.
6 Sachs (2021:41), referencing Aboobaker & Ugurlu (2020), and Epstein (2020), observes that (f)unctional finance” or “modern monetary theory “might have merit in the USA, Europe and Japan, but its logic has been strongly questioned outside the central core of the world economy. One element of this criticism relates to the differentiated position of sovereigns in the global monetary system.” He “As Epstein (2020) points out, advocates of MMT characteristically neglect to specify institutional conditions and political-economy assumptions underlying their proposals.” (Sachs, 2023:44 – fn 21)
7 Musgrave (1959: 3-27) famously distinguish between the distribution, allocation and stabilisation branches of government.
8 Micro fiscal policy bases the case for public goods on the neoclassical notion of market-failure, which justifies a role for government to achieve allocative efficiency. To a certain extent Government failure presents an obstacle to be dealt with in its own right. Redistribution is based on notions such as the ability to pay ((justifying progressive tax systems) and basic needs (justifying certain public goods and services). Government interventions that are not clearly thought through or are excessive, run the risk of increasing allocative inefficiency, rather than operating only in cases or at levels where market failure justifies it. The above quote from the 1997 World Development Report is appropriate in this regard.
9 The WDR report also states the following (page 2), which may just as well be said today: “The clamor for greater government effectiveness has reached crisis proportions in many developing countries where the state has failed to deliver even such fundamental public goods as property rights, roads, and basic health and education.”
10 The then South African Finance Minister Trevor Manuel was one of the commissioners.
11 For a description of the developmental state, see Leftwich (1995:401).
12 For an assessment oof its applicability to South Africa, see Burger (2014).
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