The Macro Implications of HIV/AIDS in South Africa: A Preliminary Assessment

TLDR: In this article, the authors conduct a preliminary analysis of the macroeconomic effects of the AIDS epidemic for South Africa using an economy-wide modeling framework and generate alternative medium-term scenarios to simulate the quantitative impact of these AIDSrelated effects on macroeconomic performance.

Abstract: South Africa now stands at the brink of a full-blown AIDS crisis. The key question now is to how to deal with the impending crisis. The epidemic has moved beyond its earlier status as a health issue to become a development issue, with social, political, and economic dimensions. This paper focuses on the economic aspects. While the research and policy analysis agenda is large, the authors' objectives in this paper are more modest: they undertake a preliminary analysis of the macroeconomic effects of the AIDS epidemic for South Africa using an economy-wide modeling framework. The outline of the paper is as follows: First, the authors review the major channels through which the HIV/AIDS epidmeic affects economic activity. Next, they describe the analytic approach employed in this paper, which involves constructing a disaggregated model of the South African economy that embodies the important AIDS-economy linkages identified above. Finally, they use the model to generate alternative medium-term scenarios to simulate the quantitative impact of these AIDS-related effects on macroeconomic performance.

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_________________________________________________________________________________________
__________________________________________________________________________________________
18 – 20 September, 2000
2000 Annual Forum
at Glenburn Lodge, Muldersdrift
THE MACRO IMPLICATIONS OF
HIV/AIDS IN SOUTH AFRICA:
A PRELIMINARY ASSESSMENT
_______
Channing Arndt
Department of Agricultural Economics
Purdue University
Jeffrey D. Lewis
The World Bank

THE MACRO IMPLICATIONS OF
HIV/AIDS IN SOUTH AFRICA:
A PRELIMINARY ASSESSMENT
Channing Arndt
Department of Agricultural Economics
Purdue University
Jeffrey D. Lewis
The World Bank
Revised
August 2000
Special submission to the South African Journal of Economics.
The views expressed in this paper are those of the authors, and should not be attributed
to the organizations with which they are affiliated.

A
BSTRACT
In this paper, we report on the preliminary results from an analysis of the macro impact of
HIV/AIDS in South Africa. We have constructed an economywide simulation model that embodies
the important structural features of the South African economy, into which we have added major
impact channels of the HIV/AIDS epidemic. Using available demographic estimates for the impact
of the epidemic (on labor supply, death rates, and HIV prevalence) along with assumptions about
behavioral and policy responses (household and government spending on health, slower
productivity growth), we use the model to generate and compare two scenarios: a hypothetical “no-
AIDS” scenario in which the economy continues to perform as it has over the last several years, and
an “AIDS” scenario in which the key AIDS-related factors affect economic performance.
Focusing on the differential between the “no-AIDS” and “AIDS” scenarios, we find that the
impact of the epidemic could be substantial. Over the 1997-2010 simulation period, GDP growth
rates in the two scenarios diverge steadily, reaching a maximum differential of 2.6 percentage
points. The result is a GDP level in 2010 that is 17 percent lower in the “AIDS” scenario; an
alternative measure of “non-health, non-food absorption” is 22 percent lower by 2010. While some
of this decline is due to the lower population associated with the “AIDS” scenario, per capita GDP
does drop by around 8 percent. In fact, our simulations suggest that, despite the fact that AIDS
impacts the high-unemployment unskilled labor category more than others, the net effect of higher
AIDS-related mortality and slower growth is to leave the unemployment rate largely unchanged.
We also use the model to “decompose” the overall decline in growth performance into the
contribution of the various channels. Given our current assumptions, the largest share (close to half)
of the deterioration in growth is attributable to the shift in government current spending towards
health expenses (which increases the budget deficit and reduces total investment), while an
additional third stems from slower growth in total factor productivity (TFP). The decomposition
illustrates the importance of considering the slow moving nature and hence long duration of the
epidemic. If the epidemic imposes a drag on the rate of accumulation of knowledge (reduced TFP
growth) or the rate of accumulation of capital (through a switch from savings to current
expenditure), these effects become amplified over time. Over the course of a decade, the
implications for macroeconomic performance are substantial.
Looking forward, our analysis suggests several avenues for further investigation. First, the
parameters used in specifying the various AIDS effects are based on fairly limited empirical
evidence, and it will be important where feasible to supplement these with additional data. For
example, we have limited the impact of AIDS on household expenditure patterns to an assumed
increase in health service spending, but there may well be other shifts that will occur and that could
be incorporated, based on survey results. Second, there are important dynamic effects that are not
yet included in the model: for example, lower private and government spending on education
(because of higher AIDS spending) will slow down skills accumulation and change labor force
growth rates. Third, consideration must be given to how to capture the impact of alternative
“intervention” policies - for example, at present there is no feedback between possible government
policies to slow the spread of AIDS, and the demographic (and subsequent economic) trajectory of
the epidemic.

Finally, interactions between the epidemic and alternative growth and development
strategies should be examined. We find that interactions with key economic features, such as the
unemployment rate, do not necessarily conform to the results that one might expect from a casual
analysis. And, key policy decisions, such as financing for AIDS related government expenditures,
are shown to be very important. These results suggest that, while the human crisis appears to be
practically unavoidable, appropriate economic policy measures have the potential to significantly
palliate the negative economic effects of the epidemic. For the policy-making process, the slow
moving nature of the epidemic needs to be borne firmly in mind. The AIDS crisis does not require
the snap policy decisions of, for example, the Asia financial crisis. Instead, deliberate speed, careful
planning, and competent execution by government and other actors could substantially ameliorate
the economic aspects of the AIDS crisis.

Arndt and Lewis
1
August 2000 - SAJE
T
HE
M
ACRO
I
MPLICATIONS OF
HIV/AIDS
IN
S
OUTH
A
FRICA
:
A P
RELIMINARY
A
SSESSMENT
Channing Arndt and Jeffrey D. Lewis
*
1. B
ACKGROUND
South Africa now stands at the brink of a full-blown AIDS crisis. Recent demographic work
summarized in two reports prepared by ING Barings (1999, 2000) estimates that, since the onset of
the AIDS epidemic, more than 500,000 South Africans have died of AIDS-related causes. By 2015,
this number is projected to grow by a factor of 20, to more than 10 million deaths. By 2008, overall
life expectancy in South Africa is forecast to fall from its pre-epidemic high of 65 years to only 40
years. While modification of high-risk behaviors could reduce AIDS-related death rates, the long
delays between infection and death mean that behavior change now would only begin to reduce the
number of AIDS deaths in five years time with the full affect lagging by a decade or more. With an
HIV infection rate currently estimated at almost 20 percent of the adult population (and projected to
increase), prospects for avoiding a major human development crisis over the next decade and
beyond are dim.
The key question now is how to deal with the impending crisis. The epidemic has moved
beyond its earlier status as a health issue to become a development issue, with social, political, and
economic dimensions. This paper focuses on the economic aspects. As we begin to recognize the
magnitude of the crisis (as measured by the number of AIDS-related deaths), characteristics of those
affected (adults in their prime working years), and the many different channels through which the
epidemic impacts the economy (skills availability, savings, demand patterns, productivity, etc.), it is
important to try to sort through and evaluate how these myriad factors are likely to affect key
economic outcomes: sustainable growth, employment creation, poverty and income distribution. In
addition, it is critical to consider public policy choices in the context of the epidemic.
While the research and policy analysis agenda is large, our own objectives in this paper are
more modest: we hope to contribute to these efforts by undertaking a preliminary analysis of the
macroeconomic effects of the AIDS epidemic for South Africa using an economywide modeling
framework.
The outline of this paper is as follows: first, we briefly review the major channels
through which the HIV/AIDS epidemic affects economic activity. Next, we describe the analytic
*
This paper was originally prepared for the International AIDS Economics Network (IAEN) Symposium on “The
Economics of HIV/AIDS in Developing Countries” held in Durban, South Africa on July 7-8, 2000. The research
was supported by the World Bank as part of its continuing efforts to promote analytic work and dialogue on South
African development issues. We would like to thank Sherman Robinson for his insights and assistance during
preparation of the paper. Also, comments from participants at Bank seminars and at the Symposium, in particular
Phil Compernolle and Mead Over, who served as discussants for the paper, are also gratefully acknowledged. The
views expressed are our own, and do not necessarily reflect those of the institutions with which we are affiliated.

Frequently asked questions

Q1. What are the contributions in "The macro implications of hiv/aids in south africa: a preliminary assessment _______" ?

In this paper, the authors report on the preliminary results from an analysis of the macro impact of HIV/AIDS in South Africa. Using available demographic estimates for the impact of the epidemic ( on labor supply, death rates, and HIV prevalence ) along with assumptions about behavioral and policy responses ( household and government spending on health, slower productivity growth ), the authors use the model to generate and compare two scenarios: a hypothetical “ noAIDS ” scenario in which the economy continues to perform as it has over the last several years, and an “ AIDS ” scenario in which the key AIDS-related factors affect economic performance. The authors also use the model to “ decompose ” the overall decline in growth performance into the contribution of the various channels. Finally, interactions between the epidemic and alternative growth and development strategies should be examined. The authors have constructed an economywide simulation model that embodies the important structural features of the South African economy, into which they have added major impact channels of the HIV/AIDS epidemic. In fact, their simulations suggest that, despite the fact that AIDS impacts the high-unemployment unskilled labor category more than others, the net effect of higher AIDS-related mortality and slower growth is to leave the unemployment rate largely unchanged. Looking forward, their analysis suggests several avenues for further investigation. These results suggest that, while the human crisis appears to be practically unavoidable, appropriate economic policy measures have the potential to significantly palliate the negative economic effects of the epidemic. 

Q2. What is the rule for allocation of government spending across the seven expenditure categories?

The rule for allocation of government spending across the seven expenditure categories can accommodate various “crowding out” mechanisms – for example, increased spending on health services can come entirely at the expense of other types of spending or through an increase in the government deficit, which crowds out investment. 

Q3. What is the key assumption underpinning the growth in unemployment?

One crucial assumption underpinning this growth in unemployment is a 2 percent annual growth rate in the real wage for unskilled labor. 

Q4. How is the consumption of the household determined?

Sectoral private consumption is determined through the fixed expenditure shares under the assumption that households have a Cobb-Douglas utility function. 

Q5. What is the effect of the AIDS epidemic on the economy?

With fewer factors of production, reduced investment, and lower productivity in the AIDS scenario, the size of the economy is bound to be smaller. 

Q6. What is the average increase in government expenditure on health from 1997 to 2010?

11With respect to government spending, their assumptions on government expenditure amountto a 6.9 percent annual real increase in government expenditure on health from 1997 to 2010. 

Q7. What is the assumption of cost minimizing behavior by demanders?

The assumption of cost minimizing behavior by demanders implies that the sectoral desired ratio of imports to domestic goods is a function of their price ratio. 

Q8. How many South Africans have died of AIDS since the onset of the epidemic?

Recent demographic work summarized in two reports prepared by ING Barings (1999, 2000) estimates that, since the onset of the AIDS epidemic, more than 500,000 South Africans have died of AIDS-related causes. 

Q9. What are the key economic outcomes of the AIDS epidemic?

As the authors begin to recognize the magnitude of the crisis (as measured by the number of AIDS-related deaths), characteristics of those affected (adults in their prime working years), and the many different channels through which the epidemic impacts the economy (skills availability, savings, demand patterns, productivity, etc.), it is important to try to sort through and evaluate how these myriad factors are likely to affect key economic outcomes: sustainable growth, employment creation, poverty and income distribution. 

Q10. What is the impact of the epidemic on the economy in Botswana?

Using available demographic estimates for the impact of the epidemic (on labor supply, death rates, and HIV prevalence) along with assumptions about behavioral and policy responses (household and government spending on health, slower productivity growth), the authors use the model to generate and compare two scenarios: a hypothetical “noAIDS” scenario in which the economy continues to perform as it has over the last several years, and an “AIDS” scenario in which the key AIDS-related factors affect economic performance. 

Q11. What is the reason why the per capita GDP declines?

While some of this decline is due to the lower population associated with the “AIDS” scenario, per capita GDP does drop by around 8 percent. 

Q12. What was the first attempt to examine the economic implications of AIDS?

A decade ago researchers were constructing macroeconometric models for developing countries that endeavored to incorporate key AIDS-macro linkages, and efforts were made to use CGE models to examine the economywide implications. 

Q13. What are the main factors that affect the economic impact of AIDS?

Given these differentials in skill-based infection rates, and the current factor endowments in the economy (abundance of unskilled labor, scarcity of skilled labor) the AIDS epidemic will impact factor demands (for both labor and capital) and relative factor returns.