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Opinions of Wednesday, 5 April 2017

Columnist: Appiah-Kubi, Kojo

The supply side reform as the pragmatic option for the new government

By: Appiah-Kubi, Kojo (PHD)

The economy of Ghana has experienced sluggish growth and inflation, known as "stagflation” in the recent past. In its attempt to tackle this problem the government of President Mahama, for instance, imposed higher taxes, contracted the money supply through higher policy rates but to little avail.

This was in line with the government’s three-year economic reform programme under the IMF that sought to restore macroeconomic stability through an ambitious and sustained fiscal consolidation, a prudent debt management strategy with improved fiscal transparency, and an effective monetary policy framework. This policy mix focused largely, however, on fiscal consolidation that failed to take cognizance of the needs of the real sectors of the economy to grow.

The results were persistent productivity gaps, declining trend growth of the GDP, high (youth) unemployment, declining incomes, structural twin current account and fiscal deficits, low public investments, rising inequality and deepening regional north-south economic divide as well as rural-urban gab.

The GDP growth rate, for instance, declined successively from 9.3% in 2012 to 3.6% in 2016 and with it jobs and incomes. The industrial sector, which is supposed to contain the engine of growth, grew by a paltry 7.2% in 2012-2016, after having grown by 26.75% and 63% in 2005-2008 and 2009-2012 respectively.

Moreover agriculture, the largest sector in terms of employment contribution, grew by just 16.4% over 2013-2016, which was woefully inadequate to provide the impetus for absorbing the growing number of new entrants into the labour market. Against this backdrop the unemployment rate (5.8%) in Ghana more than doubled from the figure recorded in 2012/2013 to about 12% in 2015, with the youth unemployment rate among 15 to 24 year olds rising to a peak level of 25.9%.

These economic conditions limit the economic development options of the new government. A pragmatic approach, however, lies in the adoption of the supply side paradigm, which focuses on incentives, enterprise, technology, mobility, flexibility and efficiency to improve Ghana’s productive potential and its ability to enhance production.

This implies the implementation of strategies and actions that allow the government to go aggressively for growth, expand the frontiers of the economy, and stimulate the private sector to generate jobs and income for poverty reduction.

The supply side reforms normally refer to government attempts to improve structural long term performance of an economy so as to generate increased supply (i.e. long term aggregate supply) and reduce prices as well as create employment. Popular supply side policy strategies include: 1) Tax cuts, 2) Education and training, 3) Deregulation, 4) Privatisation, 5) Organised labour reforms, 6) Incentives for small businesses, 7) Spending restraints, etc.

Ghana indeed seems to have some good experiences with supply side policies. Between 2001 and 2008 the Kuffuor’s government pursued supply side reforms combined with growth aggressive policies and economic reforms that succeeded in growing the economy, i.e., GDP (without oil production), from 3.7% to 9.1%.

The policies paved way for the private sector to expand their activities and to create job opportunities. Consequently average income grew from $440 to $1,266 over the same period. MDG one was achieved ahead of schedule as poverty levels continuously declined and many Ghanaians moved from poverty onto the road of prosperity. Ghana catapulted from a highly indebted poor country to a lower middle income country within a short period of time.

Apparently these supply-side policy mixes mentioned above seem to find expression in the 2017 budget of the new government. According to the proponents of supply side economics tax cuts would reduce tax burdens on productive resources, raise incentives to production and work as well as release capital to stimulate investments from businesses. In the 2017 budget the new NPP government intends to “sow the seeds for growth and jobs” or tackle the sluggish growth and inflation, among others, through tax cuts.

It proposes, therefore, to review (i.e. abolish or reduce) several taxes regarded as “nuisance” to enterprise, production, investment and job creation. It thus attempts to shift the focus of economic management from taxation to production, among others, by removing import duties on raw materials and machinery for production, abolishing the special import duty, the VAT\NHL on domestic airline tickets and real estates, and by offering tax incentives to young entrepreneurs.

In addition to the tax reviews and incentives the government intends to introduce stimulus package for existing distressed businesses within the framework of a national industrialisation revitalization programme. Human capital development is also an essential supply-side policy option to enhance productivity and improve the quality of labour force. In terms of improving human capital development the NPP government thus seeks to promote investment in technical, vocational and agricultural education and training as the driver of its industrialization agenda and the introduction of free public second cycle schools as measures to improve skills, flexibility, and mobility.

It also sees deregulation as a means to reduce red tape, bring down barriers to entry, encourage new and dynamic market entrants, and improve overall supply side performance with the sole aim to enhance market competitiveness and efficiency. Privatisation (via divesting of government shares in selected SOEs and encouraging other companies to list shares on the Ghana Stock Exchange) is to be adopted to break up state monopolies and ensure efficient use of public assets. It also tackles the deep seated problem of rigidities, inflexibility and stagnating fiscal space in the budget that earmarking of funds imposes on public expenditure and development strategies.

It does this by capping transfers to earmarked funds to 25% of tax revenues to allow for realignment of budget revenues to government priorities. It also introduces several special initiatives including the one district one factory, one village one dam, planting for food and jobs, Zongo development fund, one constituency $1 million projects, etc., to stimulate growth and job creation.

Underlying the supply side economics is actually the belief that improved supply side performance is key to achieving sustained growth without causing a rise in inflation, job creation and poverty reduction.

However, supply side reform alone is not enough to achieve that. Aggregate demand must be equally high enough so that the productive capacity of an economy is actually brought into play.

This requires complementing market-based supply side policies with some interventionist policies such as increased investment in public services and building critical infrastructure; a proactive regional policy to boost economic activity in under-performing areas, particularly, areas of high unemployment; ensuring a living wage to enhance work incentives; improving competitiveness of export industries through proper exchange rate management; some import controls to protect selected infant industries with strong future potentials; etc.

Supply side policies are popular because of their advantages for achieving stable prices, sustainable growth, full employment and balance of payments simultaneously with less conflicts. But it must be recognised that these supply side policies take a long time to work their way through the economy for their benefits to be realized.

However, given the polarized political environment of Ghana one is justified in asking whether Ghanaians would be allowed to have that patience.