Improving the Business Environment for Growth and Job Creation in Public Disclosure Authorized South Africa: the Second Investment Climate Assessment October 2011 Public Disclosure Authorized Financial and Private Sector Development Africa Region Public Disclosure Authorized The World Bank Public Disclosure Authorized ii Improving the Business Environment for Growth and Job Creation in South Africa: the Second Investment Climate Assessment iii Contents Acknowledgement ix Executive Summary x 1. Introduction x 2. The enterprise survey of South Africa 2008 xi 3. Doing Business in South Africa xiii 4. Competition and Productivity xvi 5. Micro, small and medium enterprises xx 6. Skills development xxiii Chapter 1 Macroeconomic Background 1 1.1 Introduction 1 1.2 Economic Growth 5 1.3 Investment 9 1.4 Savings 13 1.5 Interest Rates and Inflation 15 1.6 Exchange Rate 16 1.7 Policy Developments 19 1.7.1 Accelerated and Shared Growth Initiative for South Africa 19 1.7.2 Industrial policy 20 1.7.3 Trade Policy and Competition Policy 20 1.8 Conclusion 21 Chapter 2 Barriers to International Integration 23 2.1 Introduction 23 2.2 Sources and Data 24 2.3 Manufactured Exports and Inward FDI 26 2.3.1 Scope for Growth in Inward FDI 27 2.3.2 Scope for Growth of Manufactured Exports 30 2.4 Trade, Competition, Allocative Efficiency, and Innovation 39 2.4.1 Aggregate Productivity and Allocative Efficiency 39 2.4.2 Allocative Efficiency, Industry Concentration, and Competition Policy 42 2.4.3 Trade, Allocative Efficiency, and Innovation 45 2.5 Factor Proportions and Employment 47 2.6 Conclusion: Factors beyond Competition and Trade Policies 52 Chapter 3 Hidden Sources of Domestic Market Distortions: Key Business Environment Issues 54 3.1 Introduction 54 3.2 Changing Perceptions of South Africa’s Business Environment 55 ii Improving the Business Environment for Growth and Job Creation in South Africa: the Second Investment Climate Assessment iii 3.3 Business Environment Problems Distort Markets 58 3.4 Crime, Employment, and Productivity 65 3.5 The Power Crisis of 2008 74 3.6 A miscellany of Issues 78 3.7 Conclusion 82 Chapter 4 Formalizing Microenterprises 84 4.1 Introduction 84 4.2 Microenterprises–Formal and Informal 88 4.2.1 Registration and Informality 88 4.2.2 Basic Characteristics of Informality: Organization, Lines of Business, Demographics 90 4.2.3 Drivers of Informality: Regulation, Taxes, and Fees 91 4.2.4 Schooling, Scale, and Informality 93 4.2.5 The High Cost of Informality in South Africa 98 4.2.6 Labor Productivity: Gaps and Overlaps 102 4.2.7 Why Schooling and Productivity Gaps are Larger in South Africa 102 4.3 Barriers to Microenterprise Development 105 4.3.1 The Entrepreneurial Segment of the Informal Sector 105 4.3.2 Main Barriers 105 4.3.3 Small Business Support Schemes and Microenterprises 107 4.4 Conclusion 112 Chapter 5 Investing in Skills 114 5.1 Introduction 114 5.2 The Changing Skills Composition of Labor Demand 115 5.3 Skills Development: Role of Firms, Worker Characteristics, and Public Institutions 119 5.4 Conclusion 128 Chapter 6 Small Business Access to Finance 129 6.1 Introduction 129 6.2 Access to Finance in International Perspective 130 6.3 Effect of Size on Access to Credit 132 6.4 Characteristics of Loan Products 138 6.5 Role of Other Firm Characteristics 144 6.6 Firm Age 148 6.7 Summary and Conclusion 148 References 150 iv Improving the Business Environment for Growth and Job Creation in South Africa: the Second Investment Climate Assessment v List of Figures Figure E1 : Ease of Doing Business rank – 2008 xiii Figure E2 : Firms ranking constraints as major or severe (%)—2003 vs. 2008 xiv Figure E3 : Crime as a constraint to business expansion % of Firms Identifying Crime, Theft and Disorder as Major Constraint xv Figure E4 : Losses due to crime and security costs - cross-country comparisons xvi Figure E5 : Aggregate Productivity, Enterprise Survey samples xvii Figure E6 : Unit labor costs xviii Figure E7 : Doing Business – Number of days needed to ship standard cargo (2008) xix Figure E8 : Kernel density estimates of log value added per worker, formal vs. informal microenterprises - South Africa Enterprise Survey 2008 xxi Figure E9 : Cross Country Comparison of the Difference in Access to Finance between Large firms and SMEs xxii Figure 1.1 : Ease of Doing Business Rank - 2008 2 Figure 1.2 : Doing Business – Days to Start a Business 3 Figure 1.3 : Doing Business – Years to Close a Business (2008) 3 Figure 1.4 : Doing Business – Days to Trade (2008) 4 Figure 1.5 : GDP Growth Per Annum (%), 1994-2008 6 Figure 1.6 : GDP Growth Per Capita (%), 1994-2008 6 Figure 1.7 : Gross Fix Capital Formation as a Percentage of GDP (1994-2008) 10 Figure 1.8 : CPI and CPIX – Annual Percent Change (1994-2008) 16 Figure 1.9 : Prime and Real Overdraft Rates, 1994-2008 17 Figure 1.10 : Nominal and Real Effective Exchange Rates, 1994-2008. 18 Figure 1.11 : Volatility of the Real ZAR-US$ Exchange Rate 18 Figure 2.1 : Foreign Invested Enterprises (% of sample) 27 Figure 2.2 : Gross Profits Per Unit of Fixed Assets 28 Figure 2.3 : Value Added Per Unit of Fixed Assets 29 Figure 2.4 : Exporters (% of sample) 31 Figure 2.5 : Unit Labor Costs 34 Figure 2.6 : Kernel estimates of density of log value added per worker 35 Figure 2.7 : Annual sales per worker and annual wages per worker (‘000 USD) 36 Figure 2.8 : Annual wages per workers in 2005 USD (‘000) 37 Figure 2.9 : Monthly Wage comparisons (in 2005 Rands): Enterprise Surveys (ICS) and Labor Force Surveys (SSA) 38 Figure 2.10 : Aggregate TFP 40 Figure 2.11 : Average within firm TFP 41 Figure 2.12 : Allocative efficiency index – All industry 43 Figure 2.13 : Book value of fixed assets per employee in ‘000 (USD) 48 Figure 2.14 : Unionized employees (%) – Enterprise Survey Sample 51 iv Improving the Business Environment for Growth and Job Creation in South Africa: the Second Investment Climate Assessment v Figure 3.1 : Percent of enterprises ranking factor as major or severe obstacle to business expansion 57 Figure 3.2 : Costs of power outages, security and graft as % of sales 57 Figure 3.3 : Percent of firms ranking constraints as major or severe—2003 vs. 2008 58 Figure 3.4 : % of Firms Identifying Crime, Theft and Disorder as Major Constraints 66 Figure 3.5 : Losses due to Crime and Security Costs: Cross Country Comparisons 66 Figure 3.6 : Business burglary and vehicle theft incidents (‘000) 68 Figure 3.7 : Incidence of property crime per 100,000 of population (2001/2002) 68 Figure 3.8 : % of Firms Identifying Electricity as a Major Constraint 75 Figure 3.9 : Value Lost Due to Power Outages (% of Sales) 76 Figure 3.10 : Generator Sales Index: 2005Q1=100 77 Figure 3.11 : Rating of corruption as a business obstacle and bribe payments across countries 80 Figure 3.12 : Customs and Trade - Export and Import Clearance Times 81 Figure 4.1 : Distribution of sample of micro enterprises by registration status, South Africa Enterprise Survey Sample, 2008 Total =120 89 Figure 4.2 : Informal Micro-Enterprises citing as reason for not registering with authorities (%) 91 Figure 4.3 : Percent citing as a reason for not registering with authorities – Informal micro-enterprises 92 Figure 4.4 : Proportion of informal enterprises citing reason for not having registered with authorities 93 Figure 4.5 : Percentage distribution of micro enterprises by level of schooling completed, Enterprise Survey Samples 94 Figure 4.6 : Kernel density estimates of log value added per worker 96 Figure 4.7 : Percent distribution of micro enterprises by ethnic group of business, South Africa Enterprise Survey Sample, 2008 97 Figure 4.8 : Labor productivity gaps between formal and informal micro enterprises 98 Figure 4.9 : Gap in proportion that have electrical connection: formal – informal 100 Figure 4.10 : Gap in proportion that have water connection: formal – informal 101 Figure 4.11 : Gap in proportion that have Bank accounts: formal – informal 101 Figure 4.12 : Percentage Ranking Tax Rate to be a Major Constraint 108 Figure 4.13 : Percentage Ranking Tax Administration to be a Major Constraint 109 Figure 4.14 : Percent Ranking Access to Land to be a Major Constraint 109 Figure 4.15 : Percent Ranking Access to Finance to be a Major Constraint 110 Figure 4.16 : Pct of Firms with Checking Account 110 Figure 5.1 : A large number of firms have undertaken significant changes in production technologies 117 Figure 5.2 : The composition of skilled workers in the production workforce has increased between 2003 and 2006. 118 Figure 5.3 : Firms with a large workforce are more likely to provide training 121 Figure 5.4 : The cost of training is uniform across the employment distribution 123 Figure 5.5 : A Majority of Training Firms Report Receiving Support from SETAs 124 vi Improving the Business Environment for Growth and Job Creation in South Africa: the Second Investment Climate Assessment vii Figure 5.6 : Production Technology is the Most Frequently Cited Area of Training Required To Improve Worker Productivity 125 Figure 6.1 : Bank Credit to Private Sector in South Africa and Comparison Countries. 130 Figure 6.2 : Bank Nonperforming Loans in South Africa and Comparison Countries 131 Figure 6.3 : Cross-Country Comparison of Credit Products Use 131 Figure 6.4 : Cross-Country Comparison of Sources of Funds for working capital and Investment 132 Figure 6.5 : Comparison of Access Indicators by Firm Size 133 Figure 6.6 : Cross Country Comparison of the Difference Between Large firms and SME 136 Figure 6.7 : Sources of Finance for Working Capital and Investment by Firm Size 137 Figure 6.8 : Cross Country Comparison of Loan Maturity and Collateral to Value Ratios 139 Figure 6.9 : Access Indicators by registration status and age group 145 Figure 6.10 : Sources of Finance for Registration Status and Age 147 vi Improving the Business Environment for Growth and Job Creation in South Africa: the Second Investment Climate Assessment vii List of Tables Table 1 : South Africa Enterprise Survey 2008 – Distribution of Sample by Industry xii Table 1.1: Country GDP Growth Rates (%): 2000-2006 and 2007 7 Table 1.2: Annual GDP Growth Rate Projections (%), 2009- 2011.