If evaluated in terms of how much additional value they create, many zones worldwide are expensive failures.
You would not think it judging by the attention they receive, but special economic zones (SEZs) fail more often than they succeed. This is all the more true when SEZ policy regimes are evaluated in terms of how much additional value they create. When viewed in this light many SEZ regimes worldwide are expensive failures.
After sinking about R6bn into it, the Nigerian government’s Calabar Free-Trade Zone is a huge white elephant. India was one of the first countries to experiment with SEZs in the 1960s but the programme, which consists of hundreds of zones, has so far resulted in customs revenue losses of at least R700bn, with debatable developmental benefits. When considering whether this programme has been worthwhile, all the alternative ways in which this enormous amount could have been spent to stimulate development should be considered.
SEZs tend to fail when zones are not special enough. An SEZ can only attract capital investment in a lagging economy if the zone is designed to be sufficiently different from the rest of the economy to make it worthwhile for investors. If a country’s prevailing policies are not growth-enhancing, designating an area where only slightly altered policies are implemented will be of little use. SEZs usually fail because there is a lack of willingness to focus on the real problems to be solved.
Setting up SEZs in peripheral or declining regions hardly ever works, mainly because the level of subsidy required to make such areas attractive typically exceeds the zone’s economic feasibility. Linkages with existing business clusters are more difficult and costly, key infrastructure is likely to be minimal or missing entirely, and the resources and capacity to manage faraway programmes are usually lacking. Politicians may trumpet successes, but when the cost of investment and employment generation is calculated, the reality is often failure dressed up as success.
Fiscal incentives, if used at all, should be limited and focused. Clear objectives are crucial. For example, if the goal is to create many more jobs, incentives should reflect that, for example through a wage subsidy.
SEZs are localised. They do not create systemic change unless and until lessons from their success are used to shape policy elsewhere. In a country that does not have growth-enhancing policies, SEZs may thus be thought of as the option of the second-best. SEZs are most effective when they identify the constraints to investment in a country and resolve them inside the zone.
According to the World Bank’s Thomas Farole, one of the world’s leading SEZ experts, “the real success stories used SEZs to pilot ‘radical’ policies that were untenable on a national level”. This was the role played by SEZs in China and Mauritius, two of the places where they have had the most dramatic success.
Successful SEZs should be correctly designed. Though there is no blueprint, they share a list of attributes. They are spatially designated business hubs where regulations differ from the rest of the economy — hence the term “special”. Integral to successful SEZs is supporting industrialisation and integration into global value chains. Chances of success are therefore maximised when zones are located at, in, or near ports. And because SEZs have been used as part of an export-driven manufacturing-based programme, bringing in capital, technology and skills from abroad — managerial, operational, or entrepreneurial — has contributed enormously to zone successes.
How then should SA rethink its SEZ programme? The country’s biggest challenge is the unemployment crisis. Though it is impossible to measure this precisely, it is highly likely that SA’s labour market regime has a large effect on unemployment as it blocks unskilled job seekers from entering markets, since the price of their labour does not match the productivity these workers can achieve in sectors where they could potentially be employed.
A new approach to SEZs is required to tackle this issue. An experimental reform zone with a modified labour market regime should be located in Coega, which is ideally situated for such an experiment, having already been built. There is a large force of semi-skilled job seekers on the doorstep at Motherwell — people who have been protesting for jobs, some of whom have experience in industrial work, particularly in textiles. Coega also has access to an underutilised port.
Companies would pay the national minimum wage but would not be bound by sectorally determined negotiations. Instead, wages would be agreed at factory level. The employment tax incentive would be extended to all workers earning below the minimum, not just first-time workers. Firms in the SEZ would be allowed to bring in skilled managers, especially those who know and understand international markets. Basic health and safety rules would apply but other issues such as hours and piece work could be negotiated.
Apart from these concessions, no other fiscal incentives would be offered. To protect all other local firms, the SEZ would be export-only; the local market would be off limits for businesses inside the zone and only new firms could locate in the zone. The SEZ would thus function as if it were an island off the coast of SA: a kind of policy laboratory-cum-shop window in which proposed reforms can be tested.
This will involve a new approach to SEZs in SA, requiring only minimal fiscal resources compared with current bulk infrastructure subsidies and tax breaks. If it is a demonstrable success, it may be possible to consider extending these policies to other parts of the economy and start creating jobs at the scale so desperately needed.
Our proposal is underpinned by two key facts: SA’s greatest test is creating jobs for millions of young, unskilled, inexperienced work-seekers, but the labour policy reforms needed to encourage labour-intensive industries are likely to be blocked by vested interests and sceptical views within the governing alliance.
A new kind of SEZ is worth trying because it tackles both these problems while avoiding the pitfalls of other unsuccessful zones. It can test whether and to what extent SA could create labour-intensive manufacturing activities that could absorb low-income workers, while minimising the political costs of implementing the reforms needed to make this possible.
There is growing support for this kind of idea: in the 2020 ANC economic recovery strategy, the Treasury’s 2019 growth agenda, former president Kgalema Motlanthe’s high-level panel report to parliament in 2018, from ANC national executive committee member Joel Netshitenzhe, and Nobel prize winner Paul Romer.
Labour-intensive manufacturing has been the linchpin of industrialisation worldwide since the 19th century. These jobs have been critical in helping move hundreds of millions of people out of poverty in many parts of Asia and elsewhere in the developing world over the last 50 years.
To succeed, we need to move with speed, because due to automation manufacturing will become ever less reliant on labour. This may be the last opportunity for developing countries to achieve meaningful numbers of new industrial jobs. Let’s develop an SEZ in SA that is actually special — and let’s do it quickly.
Bernstein is head of the Centre for Development and Enterprise (CDE). This article is based on a new CDE report, “What if SA Had a Special Economic Zone That Was Actually Special?”
Article published by the Business Day