South Africa: Analysing Long Term Implications of Government Policy

2012 
This paper, to our knowledge, is the first attempt at applying a dynamic intertemporal CGE methodology to study of impact of expansive fiscal policy in context of an African country. The paper is oriented towards constraints government faces in financing its expenditures. Hence, the model correctly takes into account different sources of income of government, its expenditures and its deficit. Furthermore, one knows that poor infrastructure in South Africa (and in Africa in general) is an impediment to economic growth. It is thus believed that taking into account the impact of improving infrastructure on productivity is an important South African characteristic. The main lesson from this exercise is that an expansive fiscal policy would have short run positive impact on GDP but would translate into a greater debt-to-GDP ratio. Using increased taxation to finance the additional spending would lessen this impact but would also negatively affect macroeconomic variables. Increased investment spending would improve long-term GDP, under any financing scheme, and would decrease debt-to-GDP ratio as well as deficit-to-GDP ratio. This outcome is driven by the positive impact infrastructure has on total factor productivity. Sensitivity analysis shows that these conclusions are qualitatively similar for a wide value of the elasticity of the total factor productivity to infrastructure. In fact, the conclusions hold even when comparing different financing schemes. The findings have immediate policy implications in various policy modelling areas, including long term fiscal policy design in countries seeking to grow their economies sustainably and create jobs.
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