International Conference on Manufacturing-led Growth for Employment and Equality , 20-21 May 2014

1. The Motor Industry Development Programme 1995-2012: What have we learned?Justin Barnes, Development Studies, University of KwaZulu-Natal, and Anthony Black, School of Economics, University of Cape Town International Conference on Manufacturing-led Growth for Employment and Equality, 20-21 May 2014

2. Presentation outline • Development of the SA auto industry: historical antecedents • MIDP architecture and objectives • MIDP impact: Trade, investment, competitiveness, production aggregates and employment • Transition to the APDP • MIDP policy lessons and the future of the SA automotive industry

3. Development of the South African auto industry: historical antecedents • SA vehicle market grew 10x 1950-1981, then stagnated for 20 years • Sales grew strongly from 2002, reaching 714k units in 2006, but then plummeted over the GCC period, before recovering to 624k vehicles in 2012 • SA constitutes fairly small market globally; and the regional market remains very small • Production has closely tracked sales but recently has failed to keep pace with domestic market expansion, e.g. 540k vehicles produced in 2012, 52.4% of which exported • SA has 7 light vehicles producers, with no new entrants over last decade. All OEMs now MNCs, which was not the case in the early 1990s • MNC ownership has also grown in the component sector of ±350 firms. Most large firms are now foreign owned (75% of OEM supply)

4. Pre-MIDP policy • SA followed an ISI strategy similar to other developing countries: 1st in series of local content programmes (LCPs) introduced in 1961, followed by adjustments which increased local content over time • Major diversified developments took place under ISI. CBU imports were minimal and the component industry developed significant production capability. But large number of models assembled in low volume forced component firms to produce at below efficient scale • Phase VI of the LCP, introduced in 1989, initiated reduced industry protection. The component sector was partly liberalized and OEMs could meet part of their local content requirements by exporting. Exports rose rapidly (R2.2bn in 1994), but CBU protection remained high (115%) • SA car prices were well above international prices and Phase VI was blamed as a contributing factor. Also, Phase VI did not reduce the proliferation of models being assembled domestically

5. MIDP introduction • Phase VI came in for heavy criticism. In 1992, the MITG was appointed to advise government on policy. Stakeholders agreed on a basic architecture that drew on a 1985 Australian programme comprising duty phase downs and an imp facility under which OEMs and component exporters could rebate import duties • The DTI partly accepted the MITG’s recommendations when launching the MIDP in 1995. But, not the proposal to encourage higher model volumes and force rationalisation • The MIDP continued the direction of Phase VI and entrenched the principle of import-export complementation (IEC). But, it also abolished local content requirements and reduced tariffs at a steeper rate than required by SA’s offer to GATT: • Excise duty based local content system was replaced by tariffs • CBU tariffs were to be phased down to 40%; and 30% for components by 2002 • OEMs producing light vehicles for domestic sales were permitted a DFA. Components valued at 27% of the wholesale price of the vehicle could be imported duty free • Import duties on components and vehicles could be offset by IRCCs derived from the export value of vehicles and components

6. MIDP introduction • IEC enabled importers to bring in CBUs at lower effective rates of duty, and OEMs to use import credits to source components at lower prices. These credits could also be traded. Thus declining nominal protection on vehicles was partly compensated by reduced components protection • Import credits could be earned on the full domestic content value of exports. The MIDP therefore provided an incentive on high material content/low ‘value added’ products • Serious error: Rapid export growth of material intensive components led to a steep decline in component sector protection, and an OEM disincentive to increase local content • Two policy reviews (1998, 2002) conducted to assess the MIDP’s impact and provide long term policy certainty. MIDP was extended to 2007 and 2012 on a phase-down basis. Gradual tariff declines continued and IEC provisions were retained, although the value of eligible exports declined from 2003. Export assistance was also rapidly reduced. This partly offset the liberalising effect of tariff reductions by requiring higher export levels to rebate duties on a given level of imports • 1st review also resulted in the introduction of a PAA. Firms making ‘qualifying investments’ received import duty credits equal to 20% of the investment value, spread over 5 years

7. The MIDP as amended in the 1998 and 2003 reviews Sources: Adapted from Black and Barnes (2003) and NAAMSA (2005) Notes: The Duty Free Allowance of 27% remained unchanged during this period

8. MIDP objectives • The MIDP’s objectives were to provide high quality affordable vehicles, sustainable employment, and economic growth • More specifically, the MIDP was devised to facilitate trade. ISI had led to a fragmented industry structure. The resultant failure to achieve economies of scale made OEMs inefficient and imposed major negative externalities on the component sector • The MIDP was to increase the volume and scale of production through a greater level of specialisation in terms of both vehicle models and components • The MIDP sought to provide auto industry support on a gradually declining basis. This required it to meet a number of objectives, including some protection for OEMs and components production, as well as support for exports and investment • Essentially what was sought was a transition from CKD assembly, through a transition stage, to full manufacturing

9. Stages in the development of SA vehicle production Source: Black ( 2001) Transition stages

10. MIDP impact Automotive imports as share Automotive trade balance of total imports (Rbn, constant 2012 prices) Sources: Duxbury (2013), NAAMSA Annual Reports (various years), Automotive Export Manual (various years), SARS Source: NAAMSA Annual Reports (various years), StatsSA, Duxbury (2013)

11. MIDP impact • Vehicle imports: • Light vehicle imports increased from under 2% of the market in 1990 to 13.9% in 1997 and nearly 40% by 2005. Until the surge in imports during 2004/5, increases were roughly in line with the expectations of policymakers and from 1999-2003, the numbers of vehicles exported in some years exceeded imports • By 2012, the share of imported vehicles had increased to 58.1% of total new vehicle sales – A MAJOR CONCERN • Domestic vehicle producers accounted for the major share of vehicle imports. This was related to the rationalisation of production in the domestic market to a reduced number of platforms, the raising of production per model and growing exports. This strategy generally required export allocations by parent companies, who were in turn seeking to expand their market share (including the sale of imported models) in SA

12. MIDP impact • Local content: On balance, there has been little change in local content since the MIDP’s introduction. Also, local content had already declined during Phase VI and was low in absolute terms. The growth in model production volumes has not led to any significant increase in local content, but may have stabilised the situation under a regime of falling protection. Source: Unpublished Aggregate Customs Data (2012), Duxbury (2013)

13. MIDP impact Automotive exports Automotive exports as % (Rbn, constant 2012 prices) of total exports Sources: NAAMSA Annual Reports (various years), Automotive Export Manual (various years), SARS, Duxbury (2013) Source: NAAMSA Annual Reports (various years), Duxbury (2013)

14. MIDP impact • Component exports (Rm) Source: AIEC (2013); DTI

15. MIDP impact Investment by vehicle manufacturers Capex as % of sales in component firms (Rm, constant 2012 prices) Source: Duxbury, (2013), NAAMSA Annual Reports (various years) Source: SAABC database

16. MIDP impact • Assembler competitiveness • Vehicle output per employee: 1995 = 9.7 2005 = 14.5 2012 = 16.9

17. MIDP impact • Component industry competitiveness: Source: Barnes and Morris (2008), SAABC database, accessed January 2014

18. MIDP impact Employment: Sources: NAAMSA Annual Reports (various years); Automotive Export Manual (various years)

19. Transition to the Automotive Production and Development Programme (APDP) • Aimed at: • WTO compliance, correction of MIDP distortions, sustainable industry support • Major provisions • Tariff stand still at 25% • Automotive Investment Scheme (AIS) instead of PAA • Volume Assembly Allowance (VAA) replaces DFA • Market neutral Production Incentive (PI) replaces import-export complementation • Intensive lobbying led to significant changes : • The VAA was increased • Certain domestic standard materials included in the value addition calculation • Certain component sub-sectors were defined as ‘vulnerable’ • The standard applied rate of the AIS was increased • Benefits too generous • Continued expansion of vehicle imports which incur minimal duty • Limited pressure on vehicle assemblers to increase local content levels

20. Conclusions • In the early 1990s, the SA auto sector was inefficient and uncompetitive • Costs of liberalisation have been quite low and industry is far more robust but policy has also produced distortions and encouraged uneconomic investments • Imports have grown sharply • Rapid increase in vehicle and component exports – export assistance too high • Investment, including FDI increased, albeit at a modest pace – growth in foreign ownership • Significant rationalisation has reduced the proliferation of makes and models assembled • Some employment loss but sector has fared better than manufacturing overall • Vehicle prices have declined in real terms • Quality and productivity have improved significantly

21. Policy lessons • A value chain perspective is essential • The industry was liberalised too rapidly • Long term, credible incentives impact on firm behaviour • Policy changes should be predictable and gradual • Intervening to affect market outcomes has its place but requires a solid rationale

22. Industry potential • Where does this leave the auto industry with regard to future policy support? • The MIDP is costly – why not transfer support to more deserving sectors? • No longer an infant industry • Little evidence to date that SA is becoming an export hub • Needs to be an explanation of how dynamic comparative advantage might be developed to close gap with low cost producer countries. • The level of assistance is frequently overstated and was greatly reduced under the MIDP. • Industry is now more efficiently structured and competitive • This has been achieved with minimal dislocation in terms of major plant closures or employment losses

23. Industry potential • The question remains as to what would enable the industry to catch up with the lowest cost producers? • Problem has always been distance from major markets. • Africa is now the world’s fastest growing region and is also characterised by extremely low rates of vehicle ownership. • Economic growth projections and the increase in the size of the middle class point to massive expansion in vehicle ownership over the next few decades. • Where will these vehicles be produced? • South Africa has suddenly become well located as a production location for the last major untapped global market.

24. Industry potential • The conditions for successful development of the auto industry in developing countries remain the same as they always have been • a viable ‘automotive space’ • ongoing improvements in competitiveness and the ability to attract investment • appropriate trade and other policies • In SA all the attributes are in place • good infrastructure • established firms and production capabilities • affordable wages • and now the prospect of a booming regional market • Government and industry stakeholders need to work towards achieving this objective

25. Thank you