This article was first published by Business Day on 3 November 2023
Assume Robinson Crusoe spends all day foraging for food, or standing in the tropical waters looking to stab fish. If one day he has the bright idea of investing in capital — to hoe a vegetable garden or sew a net — there’s a good chance he’ll grow more veg or catch more fish. However, he can only eat so much, so most likely he’ll knock off early and take to the hammock. Because he’s all alone he can’t trade his surplus time with other people.
For most of human existence the day was spent foraging and hunting to be able to get enough energy to survive and do it all again tomorrow. There was no time to spend on tinkering, trying out a new arrowhead or shape of a plough. In fact, to do so and fail was often fatal.
Yet somehow we did gather enough surplus food to allow some in the tribe to spend time inventing new tools or better ways of doing things. Importantly, we learnt how to create markets in “time” so we could spread surplus from one side of our economy to those who built for the future; a glorious cycle of economic growth.
In any modern economy there are a number of actors working with different time frames. Some are involved in the production of goods for immediate consumption (think bread or wine), while others are busy with the tools that make stuff (think ovens and vineyards). The one feeds the other while they lay the foundations of the future.
The economist Friedrich Hayek described this process as a “roundabout” way of getting to the final outcome. Each layer is a foundation for the next layer, much like a cake. Hayek showed that time preference has an important influence on the nature and structure of the economy. If savers are willing to defer consumption and investors build the layers, the cake can be quite tall. If there are no savings the cake is thin with little cream.
SA’s problem is that we aren’t investing enough in tools and tinkering. Gross fixed capital formation is the statistic measuring time spent on buildings, equipment, machinery, roads and other infrastructure. In the 1970s and ’80s SA’s fixed capital formation was about 25% of GDP; that is, over a quarter of our economy was spent making stuff that made stuff. During the ’90s and ’00s it dropped to 16% and now sits at about 13%-14%. Over the same period South Korea has consistently invested about 30% of GDP.
Business people will understand this variable in the sense of assets that get depreciated. Every year cash is allocated to renewing and repairing the company’s capital stock. Funds come out of the balance sheet and the “wear and tear” is expensed through the income statement.
The time we spend on this must at least be equal to how quickly the stock wears out. A low number — below 20% — means we’re only just replacing assets that wear out in five years. Fixed investment is therefore the most important figure in economics. The number shows us how much time we spend working on “tomorrow”, or how much capital stock we are replacing.
The analysis can be complicated by introducing trade. It is feasible to gear 100% of our domestic economy around consumption goods, provided we export some to pay for the machines we need. Alternatively, we could spend our entire day making tractors and lathes but would then need to import everything we eat, wear or enjoy.
So, while commentators say consumption is important to our economy because it makes up 70% of GDP, there has to be some mix of capital goods otherwise you don’t replace the machines or renew the shopping centres.
The other thing to remember is that when existing tools wear out we make different and better ones, changing the production processes. I remember hearing the lament from an older farmer who noticed his neighbour had pruned orchards using a different technique, which yielded 30% more output. My farmer was stuck with his level of fruit yield until he decided to pull out the current trees and replant using the new techniques.
It therefore matters at what frequency we replace our tools. Too long and we have an economy built on outdated and worn-out infrastructure. Economic growth is highly correlated with the fixed capital formation number because it is inherently linked to renewal and learning. SA’s lack of investment puts us dangerously close to an economy that is in stasis. With little renewal of the capital stock, we do not get the benefit of recent innovations.
The private sector contributes more than 80% of the fixed investment in SA, with government and public sector corporations making up the balance of 20%. Ten years ago the private sector was investing 15% of GDP in new investments with the government spending about 3.2% on infrastructure. Today, those already low numbers have fallen to 11.5% and 2.5% respectively. In the 1980s investments renewed the capital stock every four years (25%). We’re now replacing our assets only every seven years.
Thirty years of poor economic choices, horrific corruption and tolerated incompetence have left us with a government unable or unwilling to make the investments that count. Public debt, including the soon-to-be-shifted debts of our “state owes” enterprises, is at a level that demands significant compensation, crowding out expenditure for the normal functions of government.
We will therefore depend on the private sector for the investment driving any economic recovery. Foreigners are ready and willing to lend us the “time” we need to rebuild and renew our roads, factories, machines and R&D tinkering. What’s holding us back? The question is one of confidence. Do we trust our government enough to invest in the future? Do we risk it all and build the required foundations, or shrug our shoulders and retire to the hammock?