Wednesday, July 22, 2020

You don’t kill the goose that lays the golden egg!

Two key rational objectives upon which decisions must be made.

The Government is desperate for income from Taxes to meet their obligations

The Country is desperate for foreign exchange to import the products that will assist the economy to grow and prosper as well as providing inputs for the export industry.

So how do you go about it?

Look at imports and tax them to encourage local production if that is the long term objective. Banning just means that local production cannot immediately supply the lost imports as it takes a minimum of two years to gear up production to fill the void, and entrepreneurs need reassurance that they are given incentives to produce locally, but that there will be NO policy reversal in midstream that will devalue their capital expended in import substitution.

Using Milk Production as an example

Of course there are hair brained schemes that play lip service to Govt. objectives, but which are approved not out of public interest, but due to private profiteering. A good example is the import of 5,000 cattle from Australia, ostensibly to breed for increased milk production, but the reality, was due to bribes or commissions to be made upon imports of unsuitable animals for the Sri Lankan climate as needed feed was unavailable, as well as nutrition and medication, resulting in their mass mortality.

Sri Lanka also imports US$500M of substandard milk powder, mainly from New Zealand that has arguable nutritional value. There is no argument about the nutritional value of fresh cow’s milk for growing and healthy children up to age 16. For the longer term growth of local milk production, sustainable animal husbandry using productive cows must be the answer. There is enough science and a massive milk producer as a neighbor India, from whom we can learn the best practice and follow that to achieve these goals. However it is not done. Each milk farmer is on his own with minimum assistance from the state.

If you take pepper, exports for example, we know what happened. Permission was granted to rogue traders, to import substandard pepper from Vietnam which was used to mix with local pepper, that changed Sri Lanka highly prized pepper into a worthless commodity as the quality drop was more than apparent. Now the industry is in crisis trying to regain its lost prestige!
Ethanol Production

The alcohol industry is a very big business in Sri Lanka. The government gets substantial revenue from excise taxes. However for some personal grudges, the import of Ethanol a basic ingredient for the manufacture of alcohol was banned.

This meant that local production from the State owned Sugar Manufacturers of molasses was not enough to fill the void. So Arrack Production suffered, and Government Revenue fell drastically. The winners were the alcohol manufacturers who raised their prices as demand exceeded supply, as well as the moonshine manufacturers who found it exceedingly profitable to bribe the law enforcement to run their trade, with ZERO revenue coming to the Government.

We can separately discuss the moral issues of Alcohol and Tobacco consumption, but at this state it is the Government Revenue to meet basic obligations that are at stake and all steps taken so far has been to reduce this revenue stream.

Import Substitution

When foreign earnings fall, especially due to the pandemic, import substitution takes a new life of importance. I do not deny that, but it has to be done intelligently on a basis that yield overall benefit to the Government Exchequer, prevent undue rise in the cost of living, especially of those items consumed by the General Public, mainly, alcohol, cigarettes, sugar, milk powder, and other essential food stuffs that bring the treasury a combined Rs500B in import and excise taxes, both of which are in serious decline due to the recent policies. If you add duty on vehicle imports that adds a further Rs100B to the state coffers.

What are they trying to do? VAT the only other tax is under phenomenal pressure as the rising cost of living has prevented the general public from buying Vatable goods and services due to their strained economic times.

Certain products require economies of scale to keep prices competitive. Those industries must be able to compete with export markets to compete with other producers in the rest of the world, so it is a rational comment to say that industries that also export are competitive industries, while those that only supply the domestic market given the protection from import controls, are in fact fleecing the general public with substandard, unsafe local products that will not stand scrutiny elsewhere.

To choose the businesses we have a competitive advantage in the pandemic, one must just look at our competitors (Vietnam) who have jumped at the chance of setting up production facilities outside China, to supply the USA market which has suddenly shown an aversion for Chinese made goods. Has Sri Lanka added one industry to this list?

Government Revenue decline is over Rs500B and could rise to Rs1,000B.

An incompetent administration, whose economic, fiscal and monetary policy is to reduce the GNP of the Country by 30% + in the next year, without having Covid to blame for most of it, due to the return to the dark ages of the past, where shortages, lines of people waiting to buy essentials, becoming another Venezuela!

All this appears is to only temporarily save the rupee from decline and stop the resulting inflation. I think that is the least concerning option, as there is no spending money in people’s pockets to result in inflation. All steps should be taken to contain the oncoming recession which will last for five years.

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