Download South Africa`s International Cost Competitiveness and Productivity: A

South Africa’s International Cost Competitiveness and Exports in
Manufacturing
Revised, March 2004
Lawrence Edwards and Stephen S. Golub
Lawrence Edwards
School of Economics
University of Cape Town
South Africa
Stephen S. Golub
Department of Economics
Swarthmore College
USA
Email: [email protected]
Fax: 1-610-328-8103
Tel: 1-610-328-0294
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Abstract
The new South African government has embraced globalization, with mixed
results to date. Controversies center on South Africa's international cost competitiveness
and whether South African exports respond to changes in competitiveness. We measure
competitiveness by relative unit labor costs. We find that South African relative unit
labor costs declined in the 1990s, but are still high relative to other developing countries.
Econometric analysis reveals a strong effect of relative unit labor costs on exports.
Keywords
Africa, South Africa, relative unit labor costs, international competitiveness,
globalization, export-led growth.
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Acknowledgement
This article is based in part on research conducted for the South African National
Treasury, with funding from USAID and Nathan Associates. For the complete version of
this report (Edwards and Golub 2003), contact the authors. We would like to thank
Matthew Stern and Chris Loewald for their support and encouragement. All the views
expressed are personal.
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1. INTRODUCTION
Upon assuming power in 1994, the new democratically-elected South African
government made an important break with its own prior ideology as well as previous
South African economic policies. In place of the inward-looking and interventionist
policies of the Apartheid era and the views of many supporters of the African National
Congress, the Mandela administration embraced globalization and neoclassical—some
would say neo-liberal—economic policies. The new government committed itself to
liberalization and privatization, reprioritized public expenditure towards public goods and
income distribution, all while maintaining prudent macroeconomic policies. The
restrained fiscal policies meant that the government placed its bets on exports and the
private sector as the engine of growth. The liberalization of international trade and
domestic markets is intended to spur output and employment through export-led growth
and higher foreign direct investment (Gear, 1996). Given the emphasis on exports and
foreign investment, international competitiveness became an important component of the
strategy. Clearly, South African policymakers hoped to emulate the successful
experience of some developing countries in East Asia and elsewhere in integrating into
the global economy.
Needless to say, these policies have been highly controversial, even within the
government itself. Trade union federations such as the Congress of South African Labor
Unions (COSATU) have protested vigorously about the perceived pro-business tilt of the
policies. 1
Much is at stake. The legacy of Apartheid includes a large pool of unemployed
racial minorities and massive social inequalities. The resulting social tensions are a
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potential threat to stability. Increased opportunities and job creation are of critical
importance.
So far, the growth rates of exports and of foreign direct investment, while
substantial, have been less than policymakers had hoped for. Exports of manufactures
have increased but not by enough to generate an export-led growth boom similar to those
of East Asia and a few other dynamic emerging economies. Moreover, South African
manufactured exports are relatively capital intensive and imports of manufactured goods
have increased markedly.2 Moderate economic growth of the order of two to three
percent has been accompanied by falling formal sector employment of unskilled workers.
Unemployment has consequently worsened from already high levels, and some estimates
of the unemployment rate are as high as 40%, which is almost entirely borne by lowskilled workers. Real wages have continued to rise in the face of this very high
unemployment (Lewis 2001).
One explanation of the limited success of the reforms centers on labor market
rigidities, which some studies have identified as important in South Africa (World
Economic Forum competitiveness rankings for example).3 Economic theory suggests
that trade liberalization can increase unemployment if real wages are rigid.4 If this is so,
one might expect to find that South African labor costs are high relative to other
countries, impairing international competitiveness and adjustment to trade liberalization.
Alternatively, others argue that the policies themselves cater to business interests and fail
to address the inequalities and structural rigidities of the South African economy (Hayter
et al. 1999, Habib and Padayachee 2000). To shed light on some aspects of these
controversies, this paper assesses South Africa’s international price and cost
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competitiveness in manufacturing, particularly with regard to labor costs, and examines
the quantitative relationships between South African cost competitiveness and exports of
manufactured goods at an industry level. The key questions are whether South Africa is
internationally competitive in manufacturing and whether South African exports respond
to changes in international cost competitiveness.
Section 2 presents an overview of South Africa’s recent international trade
performance. Section 3 develops the framework for the analysis of international
competitiveness based on relative unit labor costs. Section 4 presents estimates of South
Africa’s relative cost competitiveness. Section 5 relates the competitiveness indicators
to exports. Section 6 concludes with policy implications.
2. OVERVIEW OF SOUTH AFRICAN INTEGRATION IN THE WORLD
ECONOMY
Figure 1 provides a summary comparative view of South Africa’s integration into
the global economy.
{Figure 1 here}
Figure 1a shows South African growth of exports of goods and services, in
constant $US, in comparison with other middle-income developing countries and the
world as a whole, for various periods.5 Prior to 1995, South Africa’s exports grew much
more slowly than those of the rest of the world. In the 1980s and early 1990s, South
Africa’s exports in constant dollars increased by one to two percent annually, while world
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trade was increasing by about five percent. Some developing and newly-industrialized
countries had export volume growth rates of 10% or more during part or all of this period.
In 1995-2000, South Africa’s annual export growth rate increased to six percent, but this
was still well below the world average and even further below the average for other
middle-income countries. Some dynamic emerging countries continued to experience
export growth rates of as much as 10-15 percent, notwithstanding the slowdown
associated with the Asian crisis.
Figure 1b presents the share of manufactured exports in total merchandise exports.
As is well known, a number of developing nations, particularly in Asia, have dramatically
altered the composition of their exports away from primary products towards
manufactured goods. The expansion of manufactured exports is generally viewed as an
important factor in the economic development of a number of emerging countries and one
of the defining features of contemporary “globalization”. Figure 1b shows the much
greater rise in the manufactured export share of middle income countries compared to the
world as a whole in the 1980s and 1990s, although the average level of this share for
middle-income countries still remained below that of the world as a whole in 2000. In
the 1980s, South Africa’s manufactured export share grew, but much more slowly than
for other middle-income countries, and manufacturing accounted for only about one
quarter of total exports in 1990. Mining, especially gold, dominated South Africa’s
exports in the 1980s (Tsikata 1999). In contrast, in the 1990s the composition of South
African exports shifted sharply towards manufactures away from mining, and by the end
of the decade manufactures constituted more than half of South Africa’s exports. The
declining share of mining partly reflected the decline in the world price of gold, but also
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resulted from an impressive average annual growth rate of manufactures in real terms of
12 percent. The increasing share of manufactures in South African exports in the 1990s
was abetted by a substantial increase in such exports to other developing countries,
notably in Africa.6
This encouraging performance of manufactured exports in the 1990s was
accompanied by some less favorable developments. Import penetration rose, particularly
within labor-intensive sectors (Edwards 2001b). Moreover, employment in
manufacturing dropped, not so much because of import penetration (Fedderke and Vase
2001), but because of capital-labor substitution (Edwards and Golub 2003). Exports of
manufactures also became more capital-intensive and high-skill-intensive rather than
labor-intensive (Edwards 2001a, Edwards and Schöer 2002).
Inflows of foreign direct investment (FDI) into South Africa have increased in
recent years, but their level also remains somewhat unimpressive compared to other
countries. Figure 1c displays comparisons of foreign direct investment inflows, as a
share of GDP. Despite the recent increases, South African FDI inflows as a ratio of GDP
remain very low compared to such countries as Chile, China, Malaysia and Mexico.
In summary, South African exports, export diversification, and FDI increased in
the 1990s relative to the 1980s but not by enough to thrust South Africa onto a path of
rapid export-led growth. South Africa continues to lag behind other middle-income
countries in standard measures of integration into the world economy. On balance, the
new government’s strategy of reliance on globalization as the engine of growth has had
moderate success. Consequently, South African economic growth has been positive but
tepid, and certainly insufficient so far to raise living standards and employment rapidly.
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While disappointing relative to the high hopes of the new government, this performance
is quite respectable in view of the massive structural problems the government inherited
and its self-imposed fiscal restraint.
In the remainder of this paper we analyze the determinants of manufactured
exports for South Africa. We focus on manufactured exports because of their central role
in the South African government’s strategy for spurring growth and employment and
because these exports have been a key stepping-stone in the success of some other
developing countries.
3. UNIT LABOR COSTS AS A MEASURE OF INTERNATIONAL
COMPETITIVENESS7
We articulate a framework based on international comparisons of unit labor costs
for analyzing international competitiveness, drawing on previous work (Golub 1994,
Golub and Hsieh 2000). This framework is particularly useful in the South African
context where labor costs have been a central point of contention.
Unit labor cost is the cost of labor per unit of output, i.e. the ratio of wages to
productivity. In addition to its clear intuitive appeal, relative unit labor cost is the key
relative price in a Ricardian model of trade.
Furthermore, in a world where capital is
mobile and production is footloose between countries, it is the relative price of nontradable inputs, notably labor, rather than outputs that matters. Technological
advancements have also enabled the fragmentation of the production process into smaller
distinct steps, the physical location of which can be spread around the globe without
losing control of the production process (Jones 1999, Gourevitch et al. 2000). In this
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milieu, labor costs have become an important determinant in the location of these
production processes. For example, much of the assembly of consumer electronics has
shifted to low wage, labor-intensive economies within the South East Asian region.
It is therefore of interest to compare both levels and rates of change of labor costs
and labor productivity between countries. For these reasons and others, Turner and Van’t
Dack (1993) and Turner and Golub’s (1997) surveys of the literature conclude that
relative unit labor costs in manufacturing are the best single indicator of competitiveness.
Where data are available, Hinkle and Nsengiyumba (1999) also endorse the use of unit
labor costs, both for analysis of levels and rates of change of competitiveness.
At a disaggregated level, the Ricardian model provides an appealing framework
for the analysis of trade flows (see Golub (1994), Golub and Hsieh (2000) and Carlin et
al. (2001) for further discussion). This model provides an integrated framework for
understanding the macro- and microeconomic factors determining trade flows, as most
elegantly shown in Dornbusch, Fischer and Samuelson (1977) (DFS). The basic idea is
that relative unit labor cost is influenced both by sector-specific variables (productivity
and wages) as well as the real exchange rate.8
Let ai represent the unit labor requirement (the inverse of productivity), for sector
i:
(1)
ai =
Li ,
Qi
where Q is value-added, and L is labor employment. Marginal productivity and hence
ai are assumed to be constant with respect to variations in Li.
Let w denote the wage and e the exchange rate between home and foreign
currencies. If labor is the only factor of production (or that other factor costs do not
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differ across countries), home (South African) average costs of production are equal to
unit labor costs wi.ai. Expressed in domestic currency, foreign unit labor costs are
e.wi*.ai*. International competitiveness in sector i then depends on relative unit labor
cost (RULC) ci :
(2)
ci =
aiwi
.
ai * wi * e
Alternatively, equation (2) can be written as
(3)
ci
=
ai . wi .
ai * wi * e
Equation (3) illustrates the decomposition of relative unit labor costs into relative
productivity and relative wages converted into a common currency. Thus South Africa’s
competitiveness vis-à-vis other countries could improve when some combination of the
following conditions hold: 1) labor productivity in South Africa rises relative to other
countries, 2) South Africa’s relative wages fall, or 3) the rand depreciates. As South
African cost competitiveness improves, exports are predicted to increase and imports to
decline for the affected sectors. 9 Notice that the exchange rate affects all sectors
simultaneously, while the competitiveness of each individual sector also depends on
wages and productivity in that sector vis-à-vis other countries.
The home country will have an absolute advantage in good i when ci < 1, i.e.,
South African unit labor costs are below those of its trading partners, or equivalently
when South African relative productivity exceeds South African relative wage, measured
in a common currency:
(4)
ai * > wi
.
ai
w *i e
9
This model implies both cross-section and time-series relations between RULC
and trade flows. Declines in RULC over time are predicted to raise export volumes and
lower import volumes. We can also assess South African comparative advantage by
comparing RULC across industries. Those industries with lowest the RULC are
predicted to have the largest export shares and net exports.
Although unit labor costs capture an important dimension of competitiveness,
other determinants of competitiveness and trade flows are ignored. Market access
agreements, direct and indirect export subsidies and tariff protection create biases in favor
of export or import-competing production. Because these biases are not accounted for in
this study, relative unit labor costs may either overestimate or underestimate South
Africa's relative competitiveness for particular sectors. The model also ignores the effects
of relative factor endowments on comparative advantage, as emphasized in the
Heckscher-Ohlin-Samuelson model. For example, for South Africa, the abundance of
natural resources such as gold, platinum, coal, iron ore and diamonds contribute towards
the high share of mining products and natural-resource-intensive manufactures in total
South African exports. However, changes in commodity prices, particularly gold and
platinum prices, trade policies and other macroeconomic variables are likely to affect the
exchange rate, and therefore unit labor costs (see equation 3), and to that extent are
indirectly taken into account.
Our empirical analysis will examine both levels and changes over time in relative
productivity, relative wages, and unit labor costs and their effects on the composition and
time pattern of trade flows. However, the caveats discussed in this section must be taken
into consideration when interpreting the results.
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4. SOUTH AFRICAN UNIT LABOR COSTS IN MANUFACTURING
We calculated relative wages, productivity and unit labor costs for South Africa
vis-à-vis a large number of developed, developing and transition partner countries for 24
manufacturing sectors over the period 1970-98. The developed countries are the United
States, the United Kingdom, France, Italy, Canada, the Netherlands, Japan and Spain.
The developing countries are Zimbabwe, Mauritius, Korea, Hong Kong, Singapore,
India, Chile, Turkey, Hungary and Poland. These countries account for 55 % of total
South African exports and 55 % of total South African imports.10 Due to the large volume
of data, it is impossible to present all the country detail here. We show weighted averages
by sector, separating the sample into developed and developing, for 24 sectors and an
unweighted average of these sectors.11
As noted above, unit labor cost is equal to the ratio of wages to labor productivity.
Productivity is calculated as real value added per employee, converted to a common
currency using a purchasing-power-parity (PPP) or equilibrium exchange rate. Wages
are defined as total remuneration of labor, divided by number of employees, converted to
a common currency using the market exchange rate. Note then that by construction,
movements in exchange rates affect relative wages, but not relative productivity, as is
appropriate—fluctuations in market exchange rates do not affect the physical productivity
of labor but do affect labor costs in a common currency. Methods and data sources are
explained in more detail in the Appendix.
Figure 2 shows average (unweighted) South African relative productivity, wages
and unit labor costs for manufacturing in the periods 1970-79, 1980-89, 1990-94 and
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1995-98. Tables 1 and 2 show relative unit labor costs for the same time periods, and an
average for the 1990s, at the industry level. We also show competitiveness ranking by
sector in descending order (i.e. 1 indicates most competitive or lowest relative unit labor
cost).
Relative unit labor costs (RULC) are the “bottom line” here so we focus on these.
Both levels and rates of change are of interest. As explained in section 3, overall levels
of RULC indicate absolute advantage whereas sectoral rankings are measures of
comparative advantage. A South African sector is “competitive” in absolute terms if its
RULC is less than 1.0. It is competitive in relative terms if the sector has a favorable
ranking. Given the uncertainty about absolute PPPs and consistency of data concepts
across countries, considerable caution is in order in assessing the overall level of
competitiveness. Rates of change and sectoral comparisons are less subject to these
concerns since all of them are likely to be affected similarly by any such country-specific
biases.
{Table 1 here}
{Figure 2 here}
Relative to developed countries (Table 1), South Africa shows a general
improvement in competitiveness, i.e., a decline in RULC for most sectors, throughout the
sample period. In the 1970s and 1980s, most sectors’ RULC were above 1.0, whereas
they fell below 1.0 in almost all cases by the late 1990s. Figure 2a indicates that this
improvement derives mostly from declining South African relative wages, rather than
improving South African relative productivity, until the late 1990s. In the 1995-98
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period, however, most of the improvement derived from higher South African relative
labor productivity. Much of the decline in relative wages is due to depreciation of the
exchange rate and consequently this improvement is shared by almost all sectors. Labor
intensive sectors had large improvements, particularly for leather and footwear. Other
sectors with particularly large declines in RULC include industrial chemicals, nonferrous metals and professional equipment.
RULC competitiveness rankings in Table 1 show a decline for some natural
resource based sectors, including food, paper, and iron and steel. Non-ferrous metal
remains the most competitive industry for most of the period, however. Metal products
and machinery do not display a clear pattern with some sectors improving in rank and
others declining. Labor intensive sectors are also mixed with leather and footwear
improving sharply but others losing ground.
{Table 2 here}
Relative to developing countries (Figure 2b and Table 2), South African absolute
advantage is less favorable. Figure 2b shows that South African wages exceed other
developing country wages. Although South African labor productivity is also higher than
that of other developing countries, in most industries the relative wage exceeds relative
productivity, yielding RULC values in excess of 1.0, as shown in Table 2. During the
1970s and 1980s South African RULC improved vis-à-vis developing economies, again
largely due to a depreciation of the rand. The decline in RULC temporarily halted during
the early 1990s in the face of a firmer South African currency relative to the range of
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developing countries used in this study. Towards the end of the 1990s South African
RULC against developing countries continued to fall in response to declining relative
wages combined with improved relative productivity growth. However, the average
RULC remained above 1.0 for most sectors.
Although South Africa trades primarily with developed economies, it competes
with other developing countries for developed country markets. High RULC vis-à-vis
developing economies may thus partially explain South Africa's mediocre export growth
relative to other middle-income countries and, as a consequence, the failure to generate
the export-led employment growth foreseen in the government’s macroeconomic
strategy.
The sectoral rankings of South African industries tend to be similar vis-à-vis
developed and developing countries as is reflected in Spearman’s rank correlation
coefficients of more than 0.5 for all periods. There are some exceptions. South Africa is
more competitive in relative terms against developing countries than developed countries
in transport equipment, but less so in textiles and apparel. Overall, however, South
Africa’s pattern of comparative advantage does not differ markedly between developed
versus less developed countries.
A closer look at the rankings and levels of RULC in Tables 1 and 2 shows
substantial diversity in competitiveness across sectors over time. Few sectors show a
consistent improvement or deterioration in competitiveness over all periods. This is
reflected in a very weak correlation between the level and rank of RULC across sectors
over the aggregated time periods. The Spearman’s rank correlation coefficients, which
capture the similarity in the ranking of sectors, are extremely low (less than 0.27) vis-à-
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vis both developed and developing countries for the periods 1980-89 and 1995-98. The
inconsistency in growth of RULC across sectors implies that the ranking of sectors
according to the level of competitiveness has changed substantially since the 1970s.
Since 1990 the ranking of sectors according to RULC levels has remained relatively
constant. Spearman’s rank correlation coefficients in excess of 0.8 were obtained when
comparing the average ordering of sectors according to the level of RULC in 1990-94
and 1995-98. Electrical machinery and rubber products were amongst the worst 5
performing sectors (as determined by growth in RULC) in the periods 1990-94 and 199598. Other chemicals and paper and paper products were amongst the 10 worst performing
sectors in both periods. Sectors that have consistently been in the top 5 performing
sectors (reduction in RULC) are: leather products and non-ferrous metals. The
competitiveness of fabricated metal products and industrial chemicals has also improved
substantially during the 1990s.
5. UNIT LABOR COSTS AND TRADE
As noted in section 2, our theoretical framework predicts both a time series and a
cross-sectional relationship between relative unit labor costs and trade flows. Given the
large data sets involved here, these relationships are best examined using econometric
methods. To get some sense of the strength of these relationships we begin with
graphical analysis before proceeding to the econometrics.
(a) Cross-sectional relationship
Figure 3 displays the cross sectional relationship between RULC and export-tooutput ratios for annual averages over the 1980s and 1990s, using the weighted averages
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for all partner countries. A negative correlation between RULC and exports is clear for
both decades, as theory predicts.12 That is, those sectors with relatively high RULC tend
to have lower exports.
{Figure 3 here}
To test the relationship more formally, we used an econometric approach similar
to that of Golub and Hsieh (2000).13 The equations to be estimated are of the form
(5)
X i   0  1 RULC i   i
and
(6)
X i   0  1 Rel Prod i   2 Rel Wage i   i
where X, Rel Prod and Rel Wage denote the natural log of export volume, relative
productivity and relative wage, respectively, and subscript i denotes sectors. An overbar
denotes an average over a specified time period. Equation (5) makes exports a function
of relative unit labor costs while equation (6) breaks down RULC into relative wages and
productivity. These equations were estimated both for weighted average RULC against
total South African exports and for bilateral RULC against bilateral South African
exports. Here we report only on the former. Other variants of the dependent variable
were also explored.
The results are shown in Table 3. Looking first at the 1970-98 results, it is evident
that RULC is significant in explaining the structure of South African real exports. 19.8 %
of the variation between sectors is explained by RULC and this rises to 50.6 % when
RULC is broken up into relative productivity and relative wages. The RULC coefficient
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is negative and significant indicating that sectors with high RULC export less than
sectors with low RULC.14 The coefficient is very large, suggesting that on average a 1 %
rise in RULC reduces real exports by 4.7 % in the long run.
{Table 3 here}
The coefficients for relative wages and relative productivity are of the expected
sign and are both significant. Sectors with low relative wages and/or high relative labor
productivity export more. The absolute value of these coefficients are not significantly
different from each other and a percentage rise in relative productivity or a percentage
decline in relative wages have the same impact on exports. This is expected as these
variables affect RULC symmetrically.
The analysis of sub-periods suggests that the influence of relative unit labor costs
on the structure of exports has diminished over time. During the periods 1970-79 and
1980-89 RULC, relative wages, and relative labor productivity were significant in
explaining the structure of exports. However, during the 1990s these variables are
incorrectly signed and fail to explain the structure of trade, as shown by the low Fstatistic. As suggested in Figure 3, however, when using exports as a share of output as
the dependent variable, a strong negative relationship still emerges during the 1990s.
Cross-sector regressions using this dependent variable find a significant relationship for
1990-94 and 1995-98, but only when using RULC.15 The coefficients on relative
productivity and relative wage are insignificantly different from zero.
17
The weaker results during the 1990s suggest that other factors not related to labor
costs are becoming more important in influencing the sectoral composition of South
African exports. The 1990s were a period characterized by significant structural breaks
such as the ending of sanctions, the election of a new government, a new macroeconomic
policy, new labor legislation and the initiation of tariff liberalization. The impact of these
structural breaks may affect exports in a way that is not necessarily related to RULC. For
example, the reintegration of South Africa into the world economy since 1994 led to
rapid increases in exports to various regions. Some of this export growth is due to
increased market access and not changes in labor cost competitiveness. Structural
changes in the economy have also affected RULC across sectors. This has been shown by
the poor Spearman’s rank correlation coefficients between the 1980s and 1990s. These
changes in the sectoral structure of exports and RULC may obscure the long run
relationship between the two.
(b) Time series
Figure 4 displays the time series relationship between the weighted average
RULC (for all countries) and the export-to-output ratio for selected industries. For ease
of visual comparison, RULC is inverted so that an increase is now an improvement in
competitiveness, and a positive correlation is now expected with the export-to-output
ratio.
{Figure 4 here}
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For most industries, a positive relationship between competitiveness and exports
is evident. Those sectors where RULC appears to have the expected effect on gross
exports include non-electrical machinery, transport equipment, paper, industrial
chemicals, fabricated metals, textiles, apparel, leather and iron, some of which are shown
in Figure 4.16 Food, non-ferrous metals and machinery do not display the expected
relationship between exports as a share of output and RULC, although a positive
correlation is found for the latter when using the net exports to output ratio. For a
number of sectors, exports grow more rapidly in the 1990s than trends in RULC imply.
To examine this relationship more systematically we employed panel data
estimation techniques to estimate17
(7)
X it   i  i X i ,t 1   1i RULCit   2iYit*   3i Sanctionst   it
where X is again exports, Y* is a measure of global demand for South African products,
Sanctions is a dummy variable for the sanctions period, 1986-93, and subscripts it denote
sector i in period t. A lagged dependent variable is included, which allows for a
determination of short and long run elasticities.
As in the cross-sectional analysis, we focus on weighted averages across countries
under the assumption of homogeneity of coefficients across sectors. Alternative
specifications are presented in Edwards and Golub (2003) with very similar results.
As shown in Table 4, the coefficients for RULC, relative wage, relative
productivity and world manufacturing GDP are statistically significant and of the correct
sign. A 1 % rise in RULC reduces real exports by approximately 0.4 % in the short run,
but by approximately 2.5 % in the long run. This reflects a far greater responsiveness to
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RULC changes than is found by Golub and Ceglowski (2002) for aggregate
manufacturing.
{Table 4 here}
The results of export demand equations using relative wages and relative
productivity as explanatory variables are shown in column (2). A 1 % rise in relative
productivity raises real exports by 0.3 % in the short run and by 1.9 % in the long run.
Relative wages appear to have a more significant impact with a 1 % rise in relative wages
resulting in a negative impact of about 0.5 % in the short run and 3.2 in the long run.
Other variables are also correctly signed and statistically significant.
In summary, both the time series and cross section analyses suggest strong effects
of relative unit labor costs on trade flows by sector. In addition, the rapid export growth
in the 1990s for a number of sectors appears to exceed the effects of improved
competitiveness, and is due to the end of sanctions and perhaps the change in economic
policies.18
6. SUMMARY AND CONCLUSIONS
Our findings provide some justification for the South African government’s
emphasis on raising international competitiveness.
South Africa’s international competitiveness. Our measure of international
competitiveness, relative unit labor costs—the ratio of wages to labor productivity—
reveals a strong improvement over the 1970-1998 sample period for most sectors, with
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particularly large improvements in the late 1990s. This improvement is much larger visà-vis developed than developing countries, however. Level comparisons, although they
must be treated with more caution, also suggest that South Africa was still not
competitive in most sectors in the late 1990s against other developing countries, despite
some gains.
Most of the improvement in international competitiveness during the 1970s,
1980s and early 1990s reflects relative wage movements rather than relative productivity.
More specifically, South African productivity relative to other countries declined, but
South African relative wages measured in a common currency declined even more. The
relative wage decline substantially reflects the large depreciation of the rand against other
currencies. In the late 1990s, however, improvements in RULC were fostered by
improved productivity growth.
We have also evaluated sector competitiveness rankings and their evolution over
time. No clear pattern emerges as to the nature of South African comparative advantage.
Those sectors with the highest levels and improvements of competitiveness include a
variety of labor intensive, capital-intensive, and natural resource intensive goods.
Moreover, sectoral competitiveness rankings have changed substantially over time in an
unpredictable fashion. This suggests that picking “winners” through active industrial
policy is likely to be difficult.
Exports and Competitiveness. Both simple charts and econometric methods
show that South African exports respond strongly to relative unit labor costs, although the
evidence for the 1990s is more ambiguous. Export growth in the 1990s has been far
superior to that of the Apartheid era, in large measure because of improved relative unit
21
labor costs. The surge in exports in the 1990s is greater than can be explained by relative
unit labor costs, however, probably reflecting the structural changes associated with the
end of Apartheid and the new outward-oriented economic policies. We also decompose
the effects of relative unit labor costs into relative productivity and relative wages. In
general we find that relative wages are more important determinants of trade than relative
productivity, but both matter.
In short, there is considerable evidence that South African exports respond to
relative unit labor costs and that export growth is, in part, influenced by some
combination of moderate wage growth and improved productivity. Raising productivity,
is preferable to cutting wages and is also beneficial in itself, as long as the productivity
growth is accompanied by increased employment, rather than capital-labor substitution.
This would be the case if productivity growth results from improved efficiency or capital
accumulation rather than labor-shedding. Attempts to raise wages without accompanying
increases in productivity could be highly detrimental to international competitiveness,
exports, and employment. While a depreciation of the currency can offset such wage
growth, the sustainability of such a policy is questionable, given the volatility of
exchange rates. This is most recently evidenced by the substantial appreciation of the
South African Rand in 2002-03, which has negated much or all of the gains in
competitiveness arising from the sharp depreciation in 2001.
South Africa's economic growth has been respectable at about 2-3 percent
annually, but well below the original expectations of the new democratic government,
and insufficient to expand employment. Why have the improvement in international
competitiveness and increased exports of manufactured goods in the 1990s seemingly
22
had little effect on the serious unemployment problem in South Africa? A full answer is
beyond the scope of this paper, which has focused on trade flows rather than
employment. Some remarks are in order, however. First, our results imply that
improvements in cost competitiveness during the 1990s positively affected employment
through export growth. Clearly, however, these improvements have not been sufficient to
offset declines in employment in most sectors. The 1990s was a period of substantial
structural change arising from the implementation of new domestic policies (a new
macroeconomic policy, new labor legislation, an overhaul of all the discriminatory social
and welfare policies), all of which will have influenced employment growth. Second,
South African unit labor costs remain quite high relative to other newly industrializing
countries, which compete with South Africa in developed country markets, so further
improvements in competitiveness may be needed. Third, and perhaps most importantly,
international cost-competitiveness by itself is a necessary but not a sufficient condition
for sustained export-led growth. If export growth, and through this export-led
employment growth, is to be enhanced, structural problems in labor and product markets
connected in part to the legacy of Apartheid must also be addressed.
23
ENDNOTES
1. See Habib and Padayachee (2000) for a discussion of the political and economic
forces that led to the government’s choice of policies, and a critique of these policies.
2. For further discussion see Bell et al. (1999), Tsikata (1999), Edwards (2001a, 2001b),
Edwards and Schöer (2002) and Fedderke and Vase (2001).
3. For more detailed discussions of South Africa’s labor markets and the controversy
over labor-market rigidities, see Fallon and Lucas (1998) and Nattrass (1998).
4. For example, Harry Johnson’s (1965) classic treatment of international trade in the
presence of factor-market rigidities.
5. The data for Figure 1 is derived from World Bank (2002).
6. For more on South African trade patterns in manufactured goods see Edwards
(2001b) and Golub and Ceglowski (2002).
7. See Lall (2001) for a discussion of international competitiveness. Lall rightly
critiques broad approaches such as The World Competitiveness Report as flawed.
Here competitiveness is defined more narrowly.
8. Most expositions of the Ricardian model assume perfectly competitive labor markets
and hence a uniform wage rate across sectors. But this assumption is easily relaxed in
empirical work.
9. Strictly speaking, in a Ricardian setting, countries will specialize completely in those
sectors in which they have comparative advantage, and an improvement in RULC
will only affect trade flows if it causes RULC to fall from above 1.0 to below 1.0. In
practice, however, because of product differentiation and other discrepancies from the
24
model, countries do not specialize completely and the response to changes in RULC
is likely to be smoother. See Golub and Hsieh (2000) for further discussion.
10. The selection of countries is determined by geographical location, importance of the
country in South African trade and, most importantly, the availability of data. The
non-random selection of the set of countries may induce sample selection bias into
the results. Although the selected countries only account for 55 % of total South
African trade, much of the missing trade can be located within Europe where it is
expected that RULC will move concurrently with those of other developed countries.
The weighting procedure can also induce biases into the estimates, although Golub
and Ceglowski (2002) show this not to be a significant problem in the case of South
Africa.
11. Weights for each country are determined by their total trade (exports plus imports) to
the world.
12. The large outlier in the export/output graphs in the 1980s is non-ferrous metals.
13. For more details on econometric methodology and further results see Edwards and
Golub (2003).
14. The coefficients are significantly higher than those found by Golub and Hsieh (2000).
15. A coefficient of -1.66 is obtained for the 1990s. This is significant at the 5% level.
16. The full set of figures is in Edwards and Golub (2003) and is available from the
authors upon request.
17. More precisely, we employed a partial adjustment model using Dynamic Fixed
Effects (DFE) and Mean Group (MG) estimators. See Edwards and Golub (2003) for
more detail.
25
18. It is difficult to disentangle the removal of sanctions and the implementation of new
policies since they occurred simultaneously.
26
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30
TABLES
Table 1
South African Relative Unit Labor Cost Against Developed Countries,
Weighted Averages of Countries, Ranking in Parentheses
1970-79
Food products
Beverages
Textiles
Wearing apparel, except footwear
Leather products
Footwear, except rubber or plastic
Wood products, except furniture
Furniture, except metal
Paper and products
Printing and publishing
Industrial chemicals
Other chemicals
Rubber products
Plastic products
Pottery, china, earthenware
Glass products
Other non-metallic mineral products
Iron and steel
Non-ferrous metals
Fabricated metal products
Machinery, except electrical
Machinery, electric
Transport equipment
Professional & scientific equipment
1.08
1.65
1.22
1.99
1.6
1.64
1.25
2.12
1.06
1.58
1.14
1.27
1.13
1.7
1.05
1.06
1.34
0.74
0.77
1.15
1.23
1.36
1.2
1.09
Average (unweighted)
1.31
(6)
(21)
(12)
(23)
(19)
(20)
(14)
(24)
(4)
(18)
(9)
(15)
(8)
(22)
(3)
(5)
(16)
(1)
(2)
(10)
(13)
(17)
(11)
(7)
1980-89
1.11
1.27
1.04
1.32
0.94
1.27
1.07
1.39
0.87
1.31
1.14
1.25
0.97
1.21
0.94
0.84
1.13
0.85
0.56
1.15
1.24
1.16
1.12
1.34
1.1
(10)
(19)
(8)
(22)
(6)
(20)
(9)
(24)
(4)
(21)
(13)
(18)
(7)
(16)
(5)
(2)
(12)
(3)
(1)
(14)
(17)
(15)
(11)
(23)
1990-98
0.97
1.01
0.88
1.04
0.57
0.67
0.96
0.90
0.78
1.17
0.85
1.12
0.89
0.82
0.78
0.66
0.92
0.78
0.40
0.84
0.86
1.17
0.93
0.69
0.86
(19)
(20)
(13)
(21)
(2)
(4)
(18)
(15)
(6)
(23)
(11)
(22)
(14)
(9)
(6)
(3)
(16)
(8)
(1)
(10)
(12)
(24)
(17)
(5)
1990-94
0.99
1.11
0.92
1.07
0.65
0.8
1.04
1.02
0.79
1.27
0.92
1.14
0.87
0.87
0.91
0.67
0.96
0.78
0.44
0.96
0.94
1.09
1.02
0.73
0.91
(16)
(22)
(11)
(20)
(2)
(7)
(19)
(18)
(6)
(24)
(12)
(23)
(9)
(8)
(10)
(3)
(15)
(5)
(1)
(14)
(13)
(21)
(17)
(4)
1995-98
0.94
0.89
0.83
1
0.46
0.51
0.86
0.76
0.76
1.04
0.77
1.09
0.92
0.75
0.61
0.65
0.86
0.78
0.35
0.69
0.76
1.27
0.82
0.65
0.79
(20)
(18)
(15)
(21)
(2)
(3)
(17)
(9)
(11)
(22)
(12)
(23)
(19)
(8)
(4)
(6)
(16)
(13)
(1)
(7)
(10)
(24)
(14)
(5)
31
Table 2
South African Relative Unit Labor Cost Against Developing Countries,
Weighted Averages of Countries, Ranking in Parentheses
1970-79
Food products
Beverages
Textiles
Wearing apparel, except footwear
Leather products
Footwear, except rubber or plastic
Wood products, except furniture
Furniture, except metal
Paper and products
Printing and publishing
Industrial chemicals
Other chemicals
Rubber products
Plastic products
Pottery, china, earthenware
Glass products
Other non-metallic mineral products
Iron and steel
Non-ferrous metals
Fabricated metal products
Machinery, except electrical
Machinery, electric
Transport equipment
Professional & scientific equipment
1.01
2.71
1.39
2.07
1.60
1.93
1.84
1.98
1.69
0.59
1.54
1.89
2.03
2.24
1.34
1.34
1.78
1.32
1.72
1.39
1.63
1.96
0.92
1.86
Average (unweighted)
1.65
(3)
(24)
(7)
(22)
(10)
(18)
(15)
(20)
(12)
(1)
(9)
(17)
(21)
(23)
(6)
(5)
(14)
(4)
(13)
(8)
(11)
(19)
(2)
(16)
1980-89
1.14
1.72
1.11
1.72
0.97
1.54
1.46
1.49
1.13
1.04
1.45
1.53
1.60
1.99
1.26
0.92
1.24
1.19
0.84
1.51
1.54
1.86
1.40
1.79
1.38
(7)
(21)
(5)
(20)
(3)
(17)
(13)
(14)
(6)
(4)
(12)
(16)
(19)
(24)
(10)
(2)
(9)
(8)
(1)
(15)
(18)
(23)
(11)
(22)
1990-98
1.41
1.89
1.28
1.46
0.95
0.70
1.32
1.01
1.26
1.58
1.35
1.93
1.53
1.78
1.76
1.22
1.91
1.40
0.85
1.55
1.51
2.05
0.82
0.91
1.39
(13)
(21)
(9)
(14)
(5)
(1)
(10)
(6)
(8)
(18)
(11)
(23)
(16)
(20)
(19)
(7)
(22)
(12)
(3)
(17)
(15)
(24)
(2)
(4)
1990-94
1.61
2.10
1.44
1.62
1.10
0.89
1.56
1.26
1.46
1.60
1.73
2.03
1.59
2.02
1.96
1.27
2.15
1.43
0.94
1.87
1.84
2.10
0.99
1.05
1.59
(14)
(23)
(9)
(15)
(5)
(1)
(11)
(6)
(10)
(13)
(16)
(21)
(12)
(20)
(19)
(7)
(24)
(8)
(2)
(18)
(17)
(22)
(3)
(4)
1995-98
1.17
1.62
1.08
1.27
0.77
0.47
1.02
0.69
1.02
1.55
0.88
1.81
1.46
1.49
1.50
1.15
1.62
1.37
0.74
1.16
1.10
1.99
0.60
0.73
1.20
(14)
(21)
(10)
(15)
(6)
(1)
(9)
(3)
(8)
(20)
(7)
(23)
(17)
(18)
(19)
(12)
(22)
(16)
(5)
(13)
(11)
(24)
(2)
(4)
32
Table 3
Labor cost competitiveness and the structure of South African real exports
1970-98
Coef.
Relative unit labour costs
RULC
-4.66 **
2.00
constant
20.87 ***
0.72
R2
0.20
obs
696
F(1,22)
5.42 **
1970-79
Coef.
1980-89
Coef.
1990-98
Coef.
1990-94
Coef.
1995-98
Coef.
-5.74 ***
1.13
21.85 ***
0.66
0.54
-3.71 *
2.18
20.36 ***
0.80
0.12
0.42
1.07
20.17 ***
0.29
0.01
0.20
1.24
19.90 ***
0.33
0.00
0.47
0.87
20.54 ***
0.27
0.01
25.72 ***
2.89 *
0.15
0.03
9.88 ***
3.49
-10.49 **
5.07
22.81 *
11.89
0.30
-0.63
1.38
3.62 *
2.09
6.71
6.86
0.16
-0.12
1.92
1.44
2.45
13.91 *
7.72
0.03
4.55 **
2.03
0.31
Relative productivity and wages
Rel Prod
11.53 ***
5.59
2.77
1.21
Rel Wage -10.44 **
-5.00
3.91
1.76
constant
14.81
17.16
9.49
6.84
R2
0.51
0.51
obs
240
F(2,21)
10.74 ***
10.76
***
***
**
***
0.30
-0.44
1.00
2.67 *
1.44
10.56 **
4.67
0.19
2.45
Note: Dependent variable is log total real exports. All variables are in logs. The standard errors are in
Italics below the estimated coefficients.
***, **, * indicate statistical significance at the 1 %, 5 % and 10 % levels, respectively.
33
Table 4
Panel Data Estimations of Real Export Function
RULC
Coef.
Exportst-1
RULC
0.85 ***
0.02
-0.37 ***
0.05
Rel Prod
Rel Wage
Sanctions
World income
constant
Long run
RULC
Rel Prod
Rel Wage
World income
F-test
obs
Sectors
-0.04 *
0.03
0.35 ***
0.05
-5.92 ***
1.23
Rel Prod & Rel
Wage
Coef.
0.83 ***
0.02
0.32
0.06
-0.54
0.06
-0.06
0.03
0.28
0.05
-2.80
1.46
***
***
**
***
*
-2.45
2.35
1503 ***
672
24
1.93
-3.18
1.67
1211 ***
Note: 18 countries included in analysis. Variables are in logs. The standard errors are in Italics below the
estimated coefficients.
***, **, * indicate statistical significance at the 1 %, 5 % and 10 % levels, respectively.
34
FIGURES
a. Exports of Goods and Services in Constant Dollars
10
8
6
4
2
0
1980-89
1990-94
1995-2000
b. Share of Manufactured Exports as a Percentage of Total Merchandise Exports
90
80
70
60
50
40
30
20
10
0
1980
1990
2000
c. Foreign Direct Investment, Inflows as a Percent of GDP
3
2.5
2
1.5
1
0.5
0
1990-94
World
Middle income countries
1995-2000
South Africa
Source: World Bank (2002)
Figure 1
South African Participation in the Global Economy
35
a.
Against Developed Countries
1.4
1.2
1
0.8
0.6
0.4
0.2
0
1970-79
1980-89
wages
1990-94
productivity
1995-98
unit labor cost
b.
Against Developing Countries
3.5
3
2.5
2
1.5
1
0.5
0
1970-79
1980-89
wages
productivity
1990-94
1995-98
unit labor cost
Figure 2
South African Relative Wages, Productivity and Unit Labor Costs, Total Manufacturing
36
1990-98
0.60
0.50
0.50
exports/output
exports/output
1980-89
0.60
0.40
0.30
0.20
0.10
0.00
0.80
0.40
0.30
0.20
0.10
1.00
1.20
1.40
RULC average
1.60
1.80
0.00
0.60
0.80
1.00
1.20
1.40
1.60
1.80
RULC average
Figure 3
Relative Unit Labor Costs and Export-to-output ratios, Cross Section Relationship
37
Transport Equipment
Non-Electric Machinery
1.30
0.20
1.20
0.40
0.18
1.20
0.16
0.35
1.10
0.30
1.10
0.14
1.00
0.25
0.12
1.00
0.10
0.90
0.90
0.20
0.08
0.06
0.80
0.04
0.70
0.15
0.80
0.10
0.70
0.02
0.05
0.00
1970 1974 1978 1982 1986 1990 1994 1998
0.60
0.00
1970 1974 1978 1982 1986 1990 1994 1998
Textiles
Apparel
0.60
1.20
0.25
1.10
1.00
0.12
0.90
0.10
0.20
0.80
1.00
0.15
0.08
0.70
0.90
0.06
0.10
0.80
0.60
0.04
0.50
0.05
0.70
0.02
0.40
0.60
0.00
1970 1974 1978 1982 1986 1990 1994 1998
inverted RULC average
exports/output
0.30
0.00
1970 1974 1978 1982 1986 1990 1994 1998
inverted RULC average
exports/output
Figure 4
Relative Unit Labor Costs and Export-to-output ratios, Selected Industries
38
DATA APPENDIX
(a) Relative unit labor costs
The calculation of RULC required sector level data on wages and salaries,
employment and value added. Price deflators are necessary for the conversion of
nominal to real value added. For the conversion of real value added and wages into
comparable currencies data on nominal exchange rates and PPP exchange rates were also
required. Depending on how value added data is deflated, sector specific deflators or
common manufacturing level deflators for each country are required.
Manufacturing data according to sector by country is generally available from two
sources: the UNIDO Industrial Statistics database (INSTAT) and the OECD STAN data
set. These data sets contain, amongst other variables, values for employment, real and
nominal output, value added and wages and salaries. As the OECD STAN data set does
not have data on many developing countries (other than Mexico and Korea) and data
were at times not available during the 1970s it was decided to focus on the UNIDO data
set. A comparison of RULC using the UNIDO and STAN data sets indicates that the
UNIDO based values over–estimate RULC compared to the STAN based values by
between 50 and 100 %.
These differences arise from different methods of obtaining the data. In particular,
the STAN data set includes employer-paid fringe benefits which gives rise to lower
estimates of RULC. For most countries these differences remained constant over time,
although the USA and Japan show rising differences in RULC. To test the robustness of
the econometric results, both the STAN and UNIDO based variables were used in the
estimations. The sign and level of the coefficients were similar, suggesting that the fixed
39
effects in the regressions capture much of the difference. When reporting levels, some
efforts to adjust for differences in data concepts across countries were attempted.
The UNIDO data for South Africa from 1994 appeared to have been estimated, as
for most sectors the share of wages and salaries in total value added was constant. As a
result, value added, employment and wage data obtained from the Trade and Industrial
Policy Strategies (TIPS) were used.
Relative wages were constructed by dividing the total wage bill by employment.
The wage bill was first converted into a common currency using nominal exchange rates
obtained from the World Development Indicators.
The relative productivity variable was constructed by dividing real value added by
employment. As is accepted in the literature on international labor productivity and unit
labor cost comparisons, PPP exchange rates are used for international productivity
comparisons to eliminate the effects of exchange-rate volatility on measures of real
output, which should be invariant to such exchange-rate fluctuations. But deviations of
exchange rates from PPP do affect relative labor costs, so it is appropriate to use the
market exchange rate in converting wages (see Hooper and Larin (1989)). Currency
depreciation consequently tends to improve international competitiveness by reducing
labor costs relative to labor productivity
PPP exchange rates for manufacturing are not available for South Africa at the
time of writing so we resorted to proxying them by the average real exchange rate over
the sample period using value-added deflators. Recently Van Dijk (2003) has calculated
such PPPs, but his results differ little from ours. Manufacturing value added deflators
calculated from nominal and real manufacturing value added obtained from the World
40
Development Indicators (WDI) were used as the price indices. Ideally, one should utilize
sector specific PPPs, but as these were not available a common PPP for manufacturing as
a whole was assumed. While this may distort level comparisons at the sector level, the
trends in RULC will not be affected. In the econometric analysis level differences are
captured by the inclusion of sector specific intercepts leaving the estimates of the slope
coefficients unaffected.
Two approaches to deflating value added were pursued. In the first case sector
value added was deflated to base year 1987 using a common value added deflator for
each country derived from the WDI. In the second case, sector value added was deflated
using sector specific deflators calculated from the nominal and real output values and
indices in the UNIDO data set. This approach assumes that the output and value added
deflators are the same. The sector specific deflators were highly variable at times, and
various procedures were used to correct the data. The correlation coefficient between
the common value added deflator and the sector specific deflator exceeded 0.8 in most
cases. The exception was Italy were the correlation coefficient was below 0.3 for almost
all sectors. Other exceptions were Electrical machinery (-0.03) and Professional goods (0.66) for Japan, Rubber products (-0.86) for Netherlands and Miscellaneous petroleum
products (-0.01) for the UK. RULC values calculated using the value added deflator were
lower than those calculated using the sector specific deflator prior to 1980, but higher
during the 1990s. The sector specific deflator based RULC depict a greater decline in
RULC and thus improvement in competitiveness over the period.
It was decided to utilize the sector specific deflators, despite their greater
variability, as it was felt that price trends at the sector level deviated substantially from
41
the aggregate for manufacturing as a whole. Further, the estimated sign of RULC and
relative productivity in the econometric analysis using both deflators were similar. The
results were, therefore, robust to changes in the deflator used.
(b) Exports
International trade data were required for the export functions and as weights for
the purpose of aggregating all countries into an aggregated panel data set. Trade data
were obtained from a number of sources. Customs and excise bilateral trade data
classified according to the 8 digit Harmonised System was downloaded from the TIPS
Online data site. This was converted into the ISIC classification system consistent with
the UNIDO data set using a concordance file obtainable from the same site.
Unfortunately, this data are only available from 1988 precluding its use in any
econometric analysis to estimate the long run relationship between exports and RULC. It
is also only available for the Southern Africa Customs Union (SACU) and not South
Africa alone.
Total country exports and bilateral trade data between South Africa (essentially
SACU) and each country were then obtained from Canada World Trade Analyzer. This
data are available from 1980-98. The Canadian World Trade Analyzer data are classified
according to SITC and were converted to the UNIDO ISIC classification using a
concordance file constructed from one available on the Jon Haveman site
(http://www.eiit.org/) (as used by Edwards and Schöer (2002)). Unfortunately the
bilateral trade data were only complete for the developed countries. A further problem is
that South Africa did not report any data between 1974-91 (Tsikata, 1999). The data for
this period are then obtained from partner countries.
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Total South African imports and exports according to sector between 1970-98
were obtained from TIPS and were used in the aggregate panel data set. The countries
within the sample account for 55 % of total SA exports and 55 % of total SA imports.
Although the countries sampled do not account for the entire trade, much of the missing
trade can be located within Europe where it is expected that RULC will move
concurrently with those of other developed countries.
In cases where real South African exports were used as the dependent variable,
the nominal data were converted into real values using output deflators. Export and
import price indices are not currently available for South Africa over the entire period
and for all sectors.