From stagnation to growth: a call for revolutionary change in small business development

This is the ninth article in a series focuses on the small business sector. Read Part One, Part Two, Part Three, Part Four, Part Five, Part Six, Part Seven and Part Eight.



The Department of Small Business Development is meant to be the engine driving the development of small businesses, but has, in its 10-year tenure, presided over a sector marked mostly by stagnation, low survival rates and decline. 

Between 2010 and 2019, the sector barely limped along at an annual growth rate of 1.6% before being decimated by the pandemic. South African small businesses closed at twice the global average during Covid-19, and despite billions of rand being poured into “support” schemes every year, it is hard to tell what difference this has made.

According to CDE’s research, during a four-year period from 2018 to 2021, government departments and other agencies transferred an average of R5.8-billion to small enterprises in direct financial support each year, through grants, loans and a combination of the two.

There is no information available regarding this support: who received the funds, on what basis, or what impact the funds had: did they expand, are they still in business or have they closed down? Nearly R6-billion a year is a lot of money — but we have little firm idea what happened to it.  

This is not acceptable, and we shouldn’t carry on like this. Surely there must be a more effective way to disburse government funds so that they are targeted at firms with potential — firms that are able to use this financing to expand their operations and create more jobs?

And surely we need to know a great deal more about how billions of rand are being spent?

To change the way small businesses are supported in South Africa, and to make this sector a much bigger source of growth and jobs, the government should step aside and let the private sector lead.

Instead of funnelling about R6-billion a year through state structures, at least half of this money should be redirected to private institutions, allocated via competitive tenders with strict performance benchmarks and parliamentary scrutiny. That would amount to R9-billion over three years.

The truth is that promoting the development of successful small and new firms is a difficult job. We should give it to the people best placed to identify and finance viable start-ups and to help small firms to grow: the private sector.

Failing bureaucracies

Private sector financial organisations with experience of funding businesses must have a better chance of success than flailing bureaucracies with officials who are unlikely to know much about what it takes to run a successful business.

CDE’s proposal is this: three to five private sector applicants should be selected in a competition. The government should write this off as a grant so that it is used to capitalise the private sector lenders. Private firms competing for the money should be assessed according to the extent to which they will encourage innovation, create value for money, and include risk-sharing with small businesses. They must commit to tracking the funds and reporting fully, annually and publicly on their impact.

Let’s give private organisations a chance to do a much better job of allocating funds to small businesses with growth potential. Providing them with the additional funds would allow them to expand their activities and increase their ability to take on risk.

In addition to this radical rethink of the state’s role, the government should focus on decisive action to actually cut the red tape that makes running a small business feel like an obstacle course designed to trip you up. The challenge is to identify the most impactful reforms and move from ineffectual rhetoric to real action.

We should start with the Ministry of Employment and Labour’s ability to extend collective bargaining agreements to small firms that are not party to these negotiations. This continues to lead to the large-scale closure of small, often labour-intensive firms that cannot afford the wages and working conditions negotiated by large firms and big unions. Ending this destructive practice must be a priority.

Following on from that, all regulations should be subjected to a “Small and Medium Enterprise (SME) test” to ensure they don’t crush small businesses before they even start. This “test” pays particular attention to the costs that regulations impose on small businesses and has been applied successfully in a number of Organisation for Economic Cooperation and Development countries.

Meaningful regulatory amendments

A unit established to oversee the implementation of this test and ensure that the findings from the test lead to meaningful regulatory amendments should be housed in the Presidency.

The unit should also take responsibility for a parliamentary event that focuses annually on the environment for small business development and entrepreneurship. The extent and impact of regulatory changes would be presented, explaining why they had been eliminated and what impact this was having. 

In addition, both public and private institutions involved in dispensing public funds to promote SME growth would report on what they had done and how they had used the money allocated to them.

These funding bodies should also highlight what additional regulations hamper the small firms they support so that action can be taken as soon as possible in the next year to get rid of more unnecessary or harmful regulations.

It is not always easy to distinguish between good and bad regulations, and vested interests block many reforms, which ensures that many countries talk about deregulation but few manage to achieve much. When countries get it right, though, positive economic outcomes follow.

This is evident from the experience of India in the early 1990s and southern Europe in the 2020s, while Argentina seems to be emerging as a major deregulation success story.

One of our government’s most misguided policy approaches is the attempt to artificially boost township economies through procurement mandates. Gauteng’s Township Economic Development Act, which dictates that 40% of provincial procurement must go to township-based businesses, is a case study of what not to do. Rather than fostering real entrepreneurship, it is likely to birth a system where politically connected middlemen inflate prices while delivering subpar services.

Expenses

If schools, hospitals, and municipalities were forced to buy from “preferred, township-based suppliers” regardless of cost or quality, this would drive up expenses and lower the already unacceptable quality of many township-based hospitals and schools.

A much more effective transformative approach would focus on integrating township businesses into the broader city or national economy by improving infrastructure, tackling crime, and removing regulatory hurdles like outdated zoning laws that continue in many townships.

To further cut costs and stop treating “small business” as something separate from the country’s growth strategy, the Department of Small Business Development should be shut down. The small business functions that remain once our proposed reforms are implemented should be absorbed into the Department of Trade, Industry and Competition.

If South Africa is serious about creating a dynamic small business sector, it must abandon its state-centric approach.

The state should focus on providing the services, public goods and necessary health and safety regulations that underpin all well-functioning societies. It should harness the power of markets and encourage the further development of existing capabilities in the private sector with respect to promoting the expansion of thriving small businesses.

It is this combination that offers the best chance of maximising the growth, innovation and employment potential of the small business sector. DM

This article draws on a new CDE report, Let the private sector drive small business development, which is the eighth document in CDE’s Agenda 2024: Priorities for a New Government series.

Ann Bernstein is the executive director of the CDE.