Institutional reform and the challenges facing South Africa

Like many other countries undergoing change, South Africa will have to address instability, weak institutions of state and market, and ethnic and communal inequalities and identities. Building on experience elsewhere and on ideas from the economics of information, this paper suggests ways to create confidence in the new rules of the game, strengthen the institutions of both market and state, and manage the difficult dynamics of group inequalities. Countries undergoing fundamental changes must somehow make credible their new commitments to democracy and free markets. Otherwise, experience elsewhere indicates that investment will not emerge. The paper explores the possible use of international guarantees--perhaps even international enforcement--of agreements and commitments made in South Africa by South Africans. Such devices should become more widespread in the decade ahead. Better institutions are needed so that democracy and free-market policies will work, especially for the poor. This entails "institutional adjustment," including better information and incentives, improved property rights and the enforcement of contracts, and policies to foster competition. To illustrate principles of wider applicability, the paper discusses several examples: how to improve private-sector markets for agricultural products, for land, and for credit; and how to reform public sector incentives by linking pay to performance. Without special steps, inequalities among groups will be perpetuated, and indeed may fester in new ways. Two quite different possibilities are discussed. First, labor markets must be improved through better information about capabilities and performance; freer arrangements for hiring, firing, and determining pay; and strong affirmative action programs. The latter are analyzed in new ways that emphasize their informational and symbolic properties. Second, and perhaps most speculatively, the vexing and sensitive issues of a multicultural society must be reexamined, including the investigation of how cultural characteristics may interact with different policies and local environments. (Author abstract)