Response to GG Alcock - shattering the myth of high unemployment rate, BizNews

Today, BizNews published my response to an article by GG Alcock which got a lot of reader comments (both positive and negative), due to its contrarian views on the state of the informal economy in SA. I have read both GG's books (Kasinomics and Kasinomic Revolution) and loved them both, and have met with him several times over a coffee to discuss various aspects of the entrepreneurial space. I have no gripes on his point that the informal economy is more alive than most people give it credit for, but was moved to respond in the context of SA's broader development and growth agenda, which his argument fails to address, in my view.

I will read the readers' comments with interest, this discussion has a long way to go.

You can read it on BizNews here or read it in full below.

GG Alcock's recent article in BizNews in which he questions the official unemployment statistics and suggests township economies are thriving hives of entrepreneurship spotlights important issues. He is correct that official recognition of the dynamics of township economies, as reflected in the stats, is deficient. 

But as I see it, there are three main problems with his argument. 

As many of the readers' comments pointed out, informal businesses generally take away trade from formal businesses, producing minimal gain. They may grow township economies but hardly the national economy . This in turn reduces total tax receipts, an opportunity cost to the Treasury which relies on taxes to increase social and infrastructure spending. Under-pricing formal sector vendors through regulatory arbitrage (such as not paying taxes) adds little value and is not a model for creating a successful economy of 57 million people.

Alcock's article and readers' comments show the wide gulf in opinion and data on the scale of the informal sector and on appropriate policies to grow the economy and reduce unemployment. Clearly, his 12% estimate is a thumb suck but there are serious definitional issues to consider.

Everyone will agree that opinions and policies should be evidence-based, i.e. rely on reliable data. In Alcock's case, he rejects the available data as unreliable and instead relies mainly on his own experience to inform his data and opinions. 

He extrapolates from this experience to come up with estimates of scale, for example the township convenience food sector being worth R85 billion per annum. That's 40% of the total annual turnover of SA's franchised fast food and restaurant sector as measured by the Broll Qtr 3 2018 retail snapshot survey. Can Alcock's data be verified? 

In addition to convenience food Alcock references hair salons, rental accommodation, the auto, building and other sectors to bulk up his argument. Agreed, if people are earning each day, that is certainly better than their being idle. Much of this trade is made possible by increasing convenience, accessibility and affordability to local residents. It provides income and employment for people who don't, or can't, participate in the formal economy. To this extent the informal sector is an important creator of livelihoods for the otherwise excluded. 

But the net effect is that townships remain townships, with all the underdevelopment that entails, instead of spawning businesses that operate at scale and add value through innovation and higher productivity. Low-income consumers might prefer branded products but their modest budgets often force them to choose the lowest cost options. Poverty alleviation doesn't happen when margins are cut to the bone. Upward income mobility requires low-income workers add value to products destined for consumers willing to pay a quality premium.

Business activities in townships can be described as a shadow economy but this should not be confused with an economy which is good at providing upliftment paths. Upliftment economies expand worker productivity through increasing knowledge and skills, access to assets such as tools and infrastructure and access to customers who are willing to pay a premium for value-added products. They also provide access to reasonably priced funding. Mixing low margin businesses and expensive credit entrenches poverty. Central to Alcock's argument is that "regulatory arbitrage" is the typical township entrepreneur's core competitive advantage but this is not a basis for achieving scale and upliftment.

Policies need to be responsive both to the need to enable informal businesses to operate with fewer restrictions and to the need to stimulate innovation, productivity and therefore scale and net gains in individual incomes and tax receipts. Such policies are very different depending on what motivates the business owner. Just getting along is one thing; identifying a market opportunity and seeking support to achieve scale and value-adding activities is quite another. 

As a role model example, the cost of funding to the taxi industry is not prohibitively expensive and this leads to a cost effective service which allows workers access to skills, tools and affluent customers. Leaving the townships is necessary to achieve upliftment.

Developing economies in Asia display vibrant informal sectors while also achieving high rates of growth by absorbing large numbers of people into formal and often export-focused businesses. The rise of Asia was made possible by hundreds of millions of poor people adding value to products purchased by hundreds of millions of affluent consumers. These economies have created many more formal businesses that have thrived on innovation, scale and global competitiveness. The same cannot be said about South Africa.  

Alcock's comparing the informal economy to the gig economy is a valuable insight - flexibility and creative destruction are good. But workers supported by millions of rands in tools, infrastructure and knowledge will, in almost all cases, be far more productive than those who routinely get by by cutting corners. Township entrepreneurs are rarely able to achieve the scale required to be sufficiently competitive that they can be profitable while complying with regulations.

Alcock writes about the impact of foreign traders in the townships and rural areas and makes some useful suggestions for how amended BEE regulations could draw them into the formal economy to assuage the xenophobic impulses of their hosts. Coming a decade or so after the invasion of large retailers, which scooped up market share at the top end, foreign traders targeted locally-owned spaza shops at the bottom end. The squeeze has resulted in the decimation of SA-owned retailers, who have moved into the liquor and fast-food sectors to survive or else, as Adcock appears to applaud, rent out their premises to foreign traders at a fraction of the income they would make running a competitive shop or chain of their own.

What this demonstrates is that South African-owned retailers could not compete, either on price, quality or convenience. This is due in large part to their failure to develop networks for bulk purchasing, finance, distribution and marketing, which both the big retail players and foreign traders did as a fundamental basis of their business models. Complaints that they operate on an uneven playing field may be justified in some instances (e.g. foreign traders often ignore by-laws and health & safety regulations) but a determined entrepreneur would cope with these requirements.

The key here, in any business or sector, is competitiveness. If you can't compete you will go out of business. South African retail and wholesale entrepreneurs would compete more effectively by creating scale. Using technology to aggregate purchasing power and manage efficient distribution networks and cash flow, locally owned retailers could replicate what the foreign traders have achieved using low-tech but tried and tested methods.

In many ways, it's about mind-set, attitude and culture. If you see your neighbour as a threat, or his success as your failure, you are at an immediate disadvantage compared to someone who sees value in collaboration and competition. 

Poor people selling to poor people cannot spur meaningful upliftment and will never create high rates of economic growth. Township businesses should aim to sell into high-income markets, both consumer and business. This way, the multiplier and circulation of cash in the townships will increase, rather than what is depressingly common today - money flying from the townships into the pockets of suburban shareholders and investors.

There are and always will be shadow economies but their existence is not an argument for their superiority or their ability to drive sustainable growth. Alcock's 'Kasinomic Revolution' starts when we recognise this and then apply models that have worked in other countries which are not so different from our own.