SOE

Limited government – Ideal State

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In this weekly column on The Sunday Morning Business titled “The Coordination Problem”, the scholars and fellows associated with Advocata attempt to explore issues around economics, public policy, the institutions that govern them and their impact on our lives and society.

Originally appeared on The Morning


Limited Government; Ideal State – Part IV

By Dhananath Fernando

This article completes Advocata’s four-piece series on “limited government”. Over the past three weeks, we have presented three arguments in favour of a limited government. We began the series by delving into the mounting costs associated with a government of this size. The article questioned the rationale behind expenditure on this scale, given that the services provided by the Government are characteristically inefficient. Erratic power cuts and railway strikes seen in the recent past are testament to this. From here, the series explored the question of how a government can best serve its citizens.

The main argument presented was that when the powers and responsibilities of the State are decentralised, voters are given a stronger voice and are better able to hold elected officials accountable. The result is that public finances are better managed and service delivery improves. The last topic tackled in this series was that of corruption, expanding on how the window of opportunity for corruption widens when a government grows in scope as well as physical size, without the necessary governance and accountability measures in place. All three articles concluded on the same point – the size and role of the Government needs to be re-visited.

At a fundamental level, a government exists to protect the life, liberty, and property of its citizens. This is the first and foremost responsibility of a government and it is vital that this is given priority. The danger of governments expanding into other sectors is that these foundational responsibilities are pushed to the sidelines. When a government provides subsidies, creates price ceilings, and gives ad hoc handouts, it loses incentive to focus on its priorities. Giving a subsidy has an immediate impact on its voters and a cycle of instant gratification begins. Parallel to election cycles, governments now have an easier, quicker method to win over voters. Ensuring the rule of law and enshrining the negative freedoms of a population does not have the shiny appeal of a handout – the positive, virtuous cycles these freedoms and protections create are strong, they can permeate institutions and change cultures of work. However, they can take years to come into effect and are difficult concepts to convey through the flashy advertisements of an election campaign.

Of course, this means that governments respond to the attractive incentive of a quick win and an extended term in office, and prioritises the handout over the fundamentals of freedom. As much as these freedoms can create virtuous cycles of growth and development, the neglect and deterioration of these freedoms can create dangerous cycles of corruption, misuse, and violence.

The best way to illustrate these dangerous cycles is through the justice system. Unfortunately, we witnessed first-hand the aftermath of the Easter attacks where virulent rhetoric against the Muslim community resulted in riots, with 500 Muslim-owned shops being attacked and set on fire. In the face of this outbreak of violence, the rule of law was flagrantly abused, and peace was not upheld.

Eammon Butler, in his book “Foundations of a Free Society”, expounds on this in some detail. According to him, the rules of justice are a cornerstone of any free society. While rules of justice would mean there are penalties for harming other people, in a free society, emphasis is also given to ensuring the role and power of a government is strictly limited. This will mean that the monopoly over violence a government has will not be used arbitrarily or in the self-interest of those who wield it. To quote: “The main problem of political organisation is not how to choose our leaders – that is easy – but how to restrain them.”

This seems reasonable and rational. No one wants an army-running rampant – you want to ensure the people with the guns and ammunition have clear rules on when and why they can use it. Most governments recognise this and have mechanisms such as constitutions and the separation of the executive, legislature, and judiciary to restrain those in positions of power. But the foundation of this is to ensure that citizens are all treated equally under the law – that all laws apply equally to all citizens and there is equal treatment and due process of justice. For freedom to have meaning, it has to apply equally to the whole population. When this does not take place and there is essentially a break down in the rule of law, the immediate impacts might seem inconsequential. It might mean that someone gets out on bail when maybe they shouldn’t. It might mean that tariffs are raised to protect politically important local business interests. Taken alone, these are singular events, which, while problematic, don’t cause much consternation. However, this is a slippery slope which often ends in widespread corruption in the best case, and a complete breakdown of law and order in other instances.

Once again, recent events illustrate that all citizens are not treated equally under the law, and that instances where law and order break down are increasing in frequency. The Wennappuwa Pradeshiya Sabha (PS) Chairman issuing a letter prohibiting Muslim traders from conducting business at the Dankotuwa Market is a case in point. It is of utmost importance that steps are taken to ensure the rule of law is maintained, and the Government prioritises its core functions putting the safety and freedom of all its citizens at the forefront.

Less spending, less corruption

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In this weekly column on The Sunday Morning Business titled “The Coordination Problem”, the scholars and fellows associated with Advocata attempt to explore issues around economics, public policy, the institutions that govern them and their impact on our lives and society.

Originally appeared on The Morning


Why should we have a limited government? – Part III

By Aneetha Warusavitarana

The World Bank quite simply defines corruption as the “abuse of public office for private gain”. Accordingly, public office can be abused when private agents actively offer or accept bribes, institute practices of patronage and nepotism, and engage in the theft of state assets or misuse public funds. In Sri Lanka, corruption has become institutionalised and can range from the traffic policeman who accepts a bribe to a high-ranking bureaucrat siphoning public money for personal expenses.

In 2018, Sri Lanka ranked 89th out of 180 countries in Transparency International’s Corruption Perception Index. As a country, we score 38 out of 100, with 100 representing a clean, corruption-free country. The magnitude of this problem is clear.

What’s the big deal about corruption?

Bribery

Is corruption really bad? You can’t deny that when your garbage is piling up, it’s easier to bribe the garbage collectors to take your garbage than visit your municipal council and file a complaint. Sometimes, it can just be easier to pay a bribe to the traffic police than go to court and settle a traffic violation, or to pay a little extra and get your driving license renewed faster. These are all very mundane, commonplace occurrences that have become normalised to the point one does not think of it as “corruption”. It’s just a small payment to make your life a little easier – a small payment to ensure an application is processed smoothly. So, if corruption can make things simpler, what’s the issue?

While corruption on this scale can appear to be insignificant, in reality, it is one component of a much larger, systemic problem which has far-reaching consequences. Corruption in government is institutional, and given the outsized role the Sri Lankan Government plays in markets and business, the impact is far-reaching. The difficulty in holding government officials accountable and the considerable discretion they can wield creates an environment in which corruption can flourish.

The far-reaching impacts of corruption

Large corruption scandals often focus on the amount of money that has been misused, placing emphasis on face value loss that is created by corruption. However, the impact of one act of bribery or corruption goes far beyond the initial monetary loss. Corruption raises the transaction costs of conducting business and creates uncertainty in the market. In an environment where corruption flourishes, a business will not win a contract based on merit and skill alone. Procurement-related issues (read: corruption) associated with the Kerawalapitiya Power Plant meant that it took three years to award the tender. This lowers profitability within firms and creates an overall environment of uncertainty which discourages foreign investment. The result is that the positive spillover effects from investments, like increased competition and technology transfers, will not take place. Corruption also reduces the attractiveness of entrepreneurship, resulting in higher prices and lower quality. The problem does not end there. The culture of corruption is one of impunity and complete disregard for the rule of law. When this culture permeates the government, it affects the independence and credibility of the legislature and the judiciary – the very institutions which should be ensuring that the rule of law is upheld.

State-Owned Enterprises and corruption

Sri Lanka’s state-owned enterprises are a prime example of institutionalised corruption. In Advocata’s flagship report, the State of State Enterprises in Sri Lanka – 2019, the problem of corruption is a key issue tackled. In this report, corruption is explained through the perverse incentives that exist in the Sri Lankan bureaucracy. In the case of state-owned enterprises, as the money invested in state-owned enterprises is not of the politicians, there are no incentives for politicians to work towards making these enterprises efficient or productive. However, given the deep-rooted culture of patronage that exists in Sri Lanka, there is a strong incentive for politicians to use state-owned enterprises for their own gain. The lack of oversight or accountability means politicians can hire almost indiscriminately, giving out jobs for political gain. The reports from the Committee on Public Enterprise (COPE) make this abundantly clear, highlighting the numerous instances where recruitment had taken place without the appropriate approval from the Department of Management Services.

This problem is exacerbated by weak systems of accountability and governance. While the COPE and the Committee on Public Accounts (COPA) do play a role in the governance of state-owned enterprises, they have access to limited resources and equipment and are in need of specialised skills such as legal aid.

What is the solution?

If corruption is the abuse of public office for private gain, then in order to stop corruption, we should focus our attention on how and where this abuse happens. When the government moves outside its core mandate to protect life, liberty, and property, it grows in size and in scope, making the government difficult to monitor and hold accountable. Additionally, as a government grows in size, so does its spending. Changing a culture of corruption will take a great deal of political will and leadership, as well as buy-in from the bureaucracy. While accountability and transparency play an important role in countering corruption, the effects of this are seen in the long term. In the short term, focus should be on limiting the scope of the government and thereby drastically reducing government spending. A 10% cut of Rs. 3 million is significantly lower than a 10% cut of Rs. 300 million; reducing government spending is the fastest way to reduce corruption in quantitative terms. A reduction in government spending will also make transparency within the government easier to enforce, helping create a culture of accountability.

If we are to seriously tackle the problem of corruption in government, the role and scope of the government needs to be revisited and limited.

Decentralisation: Taking governance to the ground level

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In this weekly column on The Sunday Morning Business titled “The Coordination Problem”, the scholars and fellows associated with Advocata attempt to explore issues around economics, public policy, the institutions that govern them and their impact on our lives and society.

Originally appeared on The Morning


Why should we have a limited government? – Part II

By Aneetha Warusavitarana

When speaking of a limited government, the first thing that comes to mind is the fact that governments tend to be so expansive. A plethora of ministries and an innumerable amount of departments and agencies spring to mind. However, it is important to keep in mind that when speaking of a limited government, the rationale goes far beyond arguing for fewer ministries and reducing the duplication of work and responsibilities within the government system. A limited government is one that is limited in scope – it identifies its key functions and expends all resources to achieve them. When speaking of the role of the government, its primary functions can be described as the protection of life, liberty, and property. When a government’s main role expands beyond this, there is a strong likelihood that the government will prove to be ineffective and even harmful.

How can a limited government run a country?

It’s all well and good to say that the role of the State should be limited to the protection of life, liberty, and property, but governments also provide a myriad of public goods. Doing all this requires resources, people, and departments. Given that this requires a significant amount of administration, how do you ensure the government does this effectively, while staying within its key mandate and with minimal corruption or abuse of power?

Can decentralisation be the answer?

Decentralisation

Why should Sri Lanka move away from a centralised system of governance and increase the levels of decentralisation in the country? While there are some very theoretical explanations for decentralisation (which are important in their own right), we will use a simpler approach. In a population of approximately 21 million diverse people with different interests, preferences, and disposable incomes, how do markets allocate resources efficiently? Any A/L economics student will reply with the brief answer of the “invisible hand”. In reality, of course, there is no puppet master moving fruits and vegetables from one place to another. Each individual business acts in their own self-interest, resulting in a more efficient allocation of resources. Prices signal to these businesses – and the profits or losses these businesses make guide decisions to produce or sell – and thus, without the convening of committees or the presentation of any findings, an entire country is provided with goods and services it requires. William Easterly sums up this phenomenon as such: “The wonder of markets is that they reconcile the choices of myriad individuals”.

Price signalling works well in allocating resources because at any given point of time, it is impossible for one bureaucrat, or even a host of committees of bureaucrats, to have all the information necessary to dictate the production and distribution of a single good in an economy, much less all goods in an economy. This is because information and knowledge are localised, time sensitive, and tacit. In other words, information and knowledge cannot be transferred effectively in their entirety or in time. The fall of the Soviet Union is a testament to this.

What do markets have to do with decentralisation?

The same principle applies. The decision-making in a market economy is never centralised. While decentralisation will, of course, function differently – the spontaneous order created by price signalling in markets will not be making administrative decisions – the principle that centralised decisions are not effective stands. The reason behind this is that the information problems, which plague centralised decision-making of economics, also plague centralised decision-making for administration and governance. As much as a bureaucrat will find it impossible to distribute exactly the number of potatoes required to each province of this country, it is equally difficult for a bureaucrat to be located in a central government and to take decisions on local infrastructure. Any decision taken at a central level will not be ideal. There will always be information and local contexts that a bureaucrat is not privy to, and as a result, the decision will not be as effective.

Decentralisation brings governance and administration down to the ground level – it means decisions are taken by local government authorities who are best placed to make that decision. They are aware of local contexts and have been elected into office by the people in the locality, which would mean they have an understanding of what is needed. Of course, where the rule of law is weak, decentralisation can mean that local government authorities succumb to crony capitalism, as a system it is not without its faults. However, when comparing central governance and decentralised governance, in the case of decentralisation, there is greater opportunity for electorates to hold their representatives accountable, make their demands heard, and push for the reform that they want. In other words, it puts more power with the people and makes elected individuals more accountable to their voters – an admirable objective not only in principle, but also because of its effectiveness.

The burden of unprecedented costs

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In this weekly column on The Sunday Morning Business titled “The Coordination Problem”, the scholars and fellows associated with Advocata attempt to explore issues around economics, public policy, the institutions that govern them and their impact on our lives and society.

Originally appeared on The Morning


Why should we have a limited government? – Part I

By Dilshani Ranawaka

“The government that governs best, governs least” – Thomas Jefferson

A state has three core tasks within a society: Protecting the life, liberty, and property of the people. As societies evolved, these core tasks were overlooked when more emphasis was given to managing economies. Should the state intervene in economic affairs? Would that be more beneficial to the economy and society?

For the following four weeks, “The coordination problem” will discuss why large governments cause more harm than good when they engage in tasks beyond ensuring freedom and security of the citizens and the rule of law.

The series titled “Why should we have a limited government?” will justify why large governments are a bane to the economy through arguments on costs, problems of coordination, and corruption. The series will then conclude with a fourth piece on what an ideal state looks like.

It is intuitive that larger governments incur larger costs. This takes place through two avenues: recurrent expenditures and management expenditures. The present Government has lost count of the number of enterprises the State owns, as revealed by the Advocata Institute’s recently published report “The State of State Enterprises in Sri Lanka – 2019”.

As of 2017, 1,389,767 of the labour force in Sri Lanka are employed in the public service. This is around 14.5% of the labour force. The enormity of these numbers is clear when compared with developed countries. For instance, Canada, which has a population of 37.6 million, has a public sector of 262,696, according to the official Government of Canada website, making it clear that a government does not need to be expansive even in the instance of a large population.

To make things even worse, the Government introduces salary increments either at the onset of an election or during a new budget proposal, instead of having increments dependent on performance.

With the recently proposed increment of Rs. 10,000 for the public sector, the expenditure for wages adds up to Rs. 768 billion for the year. This is around 25% of the government’s expenditure, as per the Budget in 2019. This exceeds the amount allocated for public investment (Rs. 756 billion) for the year 2019, which is around 24% of the budgeted expenditure for this year.

These complicated numbers bring questions to mind: Is providing jobs a role of a government? What is the opportunity cost? What are the indirect consequences? What is the concealed political gain from this process?

A state’s role goes beyond providing job opportunities. Some of the crucial elements a state should look into are national defence and maintaining law and order. The Easter attacks and ensuing events highlighted that the Government should be focusing more on its core functions before moving beyond.

Furthermore, when looking retrospectively at political campaigns, politicians target the votes of government officers mainly through the introduction of wage increments. While increments are positive incentives for productivity, politicians use them for popularity. In such cases, two factors increase the costs for the government. Since larger governments require more state officers for administration purposes, the costs incurred just for administration purposes increase. When politicians promising higher increments become popular, the cost burden for the government piles up.

Every decision made in the economy has an opportunity cost. A state could allocate resources either for consumption or for investments. Investments generate direct income in the long run while consumption creates effective demand which indirectly generates income. Given this backdrop, it is important to answer why unregulated and irresponsible expenditure by a state is catastrophic.

Let us explain through a simple example. If a household spends on consumption which does not generate income, the household has to resort to loans. A similar argument can be transposed towards a state. If a state spends on consumption (in this case the cost for expansion of the government), they have to utilise other methods such as loans or taxes which are reflected back on the taxpayers of the country. These wage expenditures incurred by the government are utilised for consumption most of the time. Alternatively, if politicians stop promising salary increments and reduce the size of the government, these wages could be utilised for public investments – a critical requirement for economic growth and long-term income generation.

Cost Burden

Leaving vital services aside, what do state officers incur to the government? Losses or revenues? Would an additional state officer cover the cost of their wages and generate revenue through their productivity? Would it increase the efficiency of the department? These questions should be standard criteria before unnecessarily expanding particular state departments. The experience one has at most government institutions speaks for the inefficiency that plagues these institutions.

What is the underlying cause of incompetence of the State in Sri Lanka? If the government is supposed to facilitate services, why do they operate their entities in a manner they generate losses? Why do we constantly see power cuts through the Ceylon Electricity Board (CEB) if larger governments are meant to provide better services? Could we keep our trust on the State, given the way they function with our money?

Do larger governments function better? The evidence seems to indicate otherwise.

How many committees does it take to fix an airline?

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In this weekly column on The Sunday Morning Business titled “The Coordination Problem”, the scholars and fellows associated with Advocata attempt to explore issues around economics, public policy, the institutions that govern them and their impact on our lives and society.

Originally appeared on The Morning


By Dilshani Ranawaka

On 1 March, the International Monetary Fund (IMF) approved $ 164.1 million under the Extended Fund Facility after successfully completing the fifth review for the country. According to the IMF, restructuring and enhancing the governance of SriLankan Airlines and other state-owned enterprises (SOEs) and the implementation of price formula are key issues that should be addressed.

SriLankan Airlines has a new CCO and CFO as a result of the numerous numbers of commissions formed to assess and come up with a restructuring process. Presently, the losses alone had accumulated up to Rs. 40 billion in a time frame of 2016-2018.

The solution is pretty straightforward – find the root cause and then come up with recommendations. However, restructuring in the case of SriLankan Airlines appears to be a rather daunting process for the Government, with endless committees and subcommittees working on a strategy. The Government started off by appointing Cabinet members and state officials in the first commission. It took them three years to realise that it is crucial to appoint experts to look into this matter. Even after appointing four committees plus consulting the best in the aviation industry, Nyras, what they have achieved so far is the appointment of a new board and a new management along with the CCO and CFO. Given the climbing amount of debt from operating the airline and also knowing the intensity of the losses, why have they taken such a long time to plan a way out of this?

The first such committee was formed back in May 2017, focusing on privatising the airline. The council was headed by Prime Minister Ranil Wickremesinghe and consisted of officials from the Cabinet and other state officials. Following up on the process, it was reported that the Prime Minister was to take the decision on restructuring the airline in July 2017.

“By 31 July, we have to give an internal restructuring plan to the Prime Minister, basically looking at what we have to do internally with SriLankan – irrespective of whether we are getting a partner or not, we need to move forward,” a statement given by then Minister of Public Enterprise Development Kabir Hashim.

However, implementation did not materialise, and on 8 December 2017, the President appointed another special ministerial committee and a committee of officials to assist them to decide the fate of SriLankan Airlines with a deadline of two weeks, with a report due to be submitted on 20 December 2017. The actions regarding the airline were to be implemented on or before 31 July 2018. Why does the Government take such a long time – almost half a year – to implement these recommendations? The role of any government in an economy is to adjust market failures, not to cause more.

By 2018, Nyras, one of the leading aviation consultancy firms, was hired after the initial round of recommendations, and it presented a comprehensive report. However, the consultancy group has now filed a lawsuit against the Government because of delayed consultancy payments. While these measures were taken and international consultants were hired, SriLankan Airlines was still piling up losses at an exponential rate.

By 7 January 2019, the President formed yet another commission to conduct a comprehensive study – review the present vision and mission objectives, strategies, corporate plan, and action plan of the airline – and come up with recommendations for restructuring, which does not consist of any member of the previous committees formed by the President. Does this mean that the previous four committees appointed (two committees in 2017, one in 2018, and another in 2019) are redundant?

Exercising our rights as citizens, we need to push for fast reforms as this is a black hole sucking out tax-payer money. It has taken five committees, including consultancy from Nyras, to address various issues of SriLankan Airlines for the past three and a half years. With these five committees, what the Government has achieved so far is inducting the board of the airlines.

What we can take from this is:

  1. The commissions have submitted recommendations that wouldn’t work

    or

  2. The Government is incapable of implementing these recommendations

    or

  3. The Government is being willfully negligent by not taking action and implementing recommendations.

Given past experiences, these failures indicate a combination of the second and third conclusions.
SriLankan Airlines, which was then operated under Emirates – a renowned carrier of United Arab of Emirates, enjoyed a profit of Rs. 4.4 billion for the year 2008. The next 10 years, once the airline was taken over by the Government, suffered heavy losses due to the decline in performance and poor governance. The national airline had been climbing down in terms of performance as well as losses.

How many committees would it take for the Government to really execute any of these plans? When the good governance regime started their office in mid-2015, the losses of SriLankan Airlines were Rs. 16.4 billion. The losses of the airline had more than doubled up to a cumulative loss of Rs. 40 billion for the time period between 2016 and 2018. It took losses of Rs. 40 billion, and three years’ worth of planning to appoint two vital roles, the Chief Commercial Officer and the Chief Financial Officer, to the airline. How enormous should the losses be for the government to implement restructuring procedures? What would be at stake by then? This is indefinitely an answer Sri Lankans would not like to find out.

Monster monopolies

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In this weekly column on The Sunday Morning Business titled “The Coordination Problem”, the scholars and fellows associated with Advocata attempt to explore issues around economics, public policy, the institutions that govern them and their impact on our lives and society.

Originally appeared on The Morning


By Dilshani N Ranawaka

Rukshani, is a small business owner running her own grocery store. Her peak hours of business are when everyone gets back home from their jobs around 7-8pm after working in Colombo. Unfortunately, she has been struggling to make ends meet as of late, due to power cuts that are also scheduled in her area around the same time as her peak hours. With just candles lit during these hours, refrigerators and coolers switched off, it adds an additional cost for her to operate her business.

Thilina, who works in Colombo faces a challenge of getting back home as the workers of the Railway Authority have decided to go on strike asking for a pay raise. Even though trains are over-crowded, they are unfortunately the fastest way of commuting back and forth. Alternatively, Thilina has to resort to the next best solution in his capacity; buses, which incurs an additional cost to reach home.

How is that Rukshani and Thilina have no say over the situation? Why does Rukshani have to suffer losses during the peak hours of her business and why should Thilina have to look for alternative transportation for something they are capable of paying, but somehow is beyond their control?

Trains and electricity are two vital services for the day to day functioning of the country. Why do these authorities continue to function when they are failing to provide reliable and efficient services to their customers who pay for these services? They have a monopoly over this service, hence they exploit it.

As of 2017, Sri Lanka Railway (SLR) sums up for Rs. 7.5 billion in losses. The Central Electricity Board (CEB) projects of Rs. 89 billion in losses for 2019. An island-wide poll by Sparkwinn Research, commissioned by Advocata Institute indicates that 81% of the sampled population are not satisfied with the performance of the State Owned Enterprises (SOEs). As the numbers have spoken, people are clearly not in favour of having these underperforming SOEs.

Poll on SOE satisfaction

Would a private institute still run under these terrible, burdening losses?

The issue mainly starts with the monopolistic control over services complemented with organized trade unions within these public institutions. The fact that these services do not have competition, offers a fundamental background for wage increases and other demands that usually result in strikes which influences the entire population.

The initiation of these services dates back to the years when the private sector had inadequate resources to facilitate these services. In such conditions, the government established these entities for the benefit of the population. However, due to the monopolistic nature of these establishments, workers were able to unionize forcing the government to lose control over these institutions.

To add on to the burden of failures, is the fact that all these are controlled and heavily subsidized by the government. The lack of incentives to improve their efficiency and productivity are therefore felt heavily by the government.

There are common practices of addressing the issues on monopolies of the economy. Incentivizing merger policies, regulating and controlling the quality of these monopolies and price caps are some of the methods developed countries use to provide better services.

The “P” word; “privatization” is a taboo in Sri Lanka, although it is commonly agreed that the process of privatization paves the way towards an answer to address these issues that burden the entire economy.

“Privatization” in Sri Lanka is identified as “transferring an institute from public ownership towards private ownership”. This is only one such form of privatisation and is known as a “complete privatization”.  However, there exists various forms of privatizations such as transferring assets, Public-Private Partnerships and franchising.

Path towards privatization

The process of privatization should be methodological. Montreal Review (an independent online magazine) identifies few principals that would lead to an efficient privatization process.

  1. The purpose of privatisation

  2. The need to review different methods of privatisation

  3. The extent of the privatisation

  4. Recognising constraints

  5. Finding a buyer

  6. Implementing an investor friendly environment to attract investors

How the United Kingdom excelled in their privatization process of trains and telecom are case studies which could be replicated in Sri Lanka. The United States government remained in control of quality control and maintaining standards while the operations were handled by private sectors. On the other hand, the United States had successfully privatised industries with natural monopolies such as water and electricity supply by the privatization of operations with the government remaining in control of providing the role of maintaining standards while removing excess burden on the budgets.

However, given the extensive amount of State Owned Enterprises (SOEs), an initial step towards privatization could be to list down possible institutions or even better, towards creating an index which could be a measurement towards qualifying for privatization process.

Can we breakdown these natural monopolies? Are monopolies simply an excuse that gives the governors the luxury of political lobbying? Something to think about.

“The very term “public consumption products” is an absurd one. Every good is useful “to the public”, and almost every good may be considered “necessary”. Any designation of a few industries as “public utilities or services” is completely arbitrary and unjustified”  - Murray Rothbard, a prestigious American Economist.


Behind the invisibility cloak: Sri Lanka’s hidden state-owned enterprises

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In this weekly column on The Sunday Morning Business titled “The Coordination Problem”, the scholars and fellows associated with Advocata attempt to explore issues around economics, public policy, the institutions that govern them and their impact on our lives and society.

Originally appeared on The Morning


By Dilshani N. Ranawaka

Is the Government aware it has gazetted 527 SOEs?

Unveiling an invisibility cloak of the state was the first task I did as a fresh graduate. Behind 55 strategic State-Owned Enterprises (SOEs) identified by the Ministry of Finance (MoF) lies another 450+ SOEs making their contribution to the “Coordination Problem”.

SOEs in Sri Lanka

Even at face value, it seems unlikely that a small country like Sri Lanka needs the government to run a pool of SOEs as large as this. Interestingly, the MoF doesn’t have a count of all its SOEs, with the Annual Report only mentioning that there are 400+ SOEs. However, there are at least 527 SOEs, subsidiaries and sub-subsidiaries gazetted. To be specific, the 527 SOEs can be broken down to 424 principals, 84 subsidiaries and 19 sub-subsidiaries.

Of the 400+ SOEs that the government is aware of, the Department of Public Enterprises tracks the profits and losses of only 55 SOEs, which they have identified as ‘strategic’.

This raises two questions.

  1. Why doesn’t the government know the number of enterprises it runs? Anyone running a business should at the very least know the number of organisations it is in charge of.

  2. Why does the MoF only track 55 SOEs? What are the losses that come from the remaining 450?

Let’s take the Ministry of Power and Energy and Business Development for example. The ministry’s losses add up to a cumulative net-loss of Rs. 363,945Mn during the past 11 years. The ministry governs 4 principal SOEs, 6 subsidiary SOEs and 12 sub-subsidiary SOEs adding upto a total of 22 bodies.

When one further explores these subsidiaries, it is quite logical to ponder the rationale for these categorizations. For instance; the Ceylon Electricity Board has two subsidiaries under it. The first subsidiary Lanka Electricity Company (LECO) has three sub-subsidiaries LTL Transformers, LTL Energy, and LTL Galvanizers. The second subsidiary LTL Holdings (Pvt.) has another sub-subsidiary LTL Energy (Pvt.). Is it any wonder that we have erratic power supply? A convenient way to track all these entities would be to establish all of them under one subsidiary; LTL Holdings.

It is time we question the logic of establishing so many SOEs, given that their profits and losses are not tracked, and a majority do not even publish annual reports. When the losses incurred by these entities are added to the equation, it is clear that there is large-scale mismanagement taking place.

The multiple layers of incorporation (principal, subsidiary and subsidiary bodies) enhances the divisibility of responsibilities. Furthermore, the problem with having too many entities makes it hard for them to be monitored. Since SOEs are governed by the state, the debt burden is weighed heavily on the government and then transferred to the taxpayer.

Moving beyond the profits and losses of these enterprises, an equally shocking fact is that out of the 527 SOEs that have been gazetted to date, information of their purpose (classification as commercial and non-commercial entities) of 284 SOEs is not freely available, and cannot be found from government sources.

Can these 527 enterprises be utilized or do a majority need to be shut down because of their losses? The government cannot afford to keep bailing out its mismanaged enterprises - the fiscal space simply does not exist.

The first step to addressing the problem of SOEs, is to figure out the number of entities the state governs. A bi-annual census of SOE conducted by the Department of Census and Statistics, with detailed reports (a current requirement fulfilled only by 55 SOEs) on every SOE is a must.  It is only from here, when the government has an idea of the extent of the problem that we can move into questions of improving accountability and introducing better governance structures.

The question remains, when the government is unaware of the number of entities it is responsible for, why should citizens pay for their loss making, inefficient, institutional excess?  

Sri Lanka has a total of 527 State Owned Enterprises out of which regular information is available for only 55. The inefficiencies and mismanagement which riddle our SOEs are explored in the Advocata Institute's new report  “State of State Enterprises in Sri Lanka- 2019". To read more on SOEs and download full report visit www.advocata.org.


Dilshani Ranawaka is a Research Executive at the Advocata Institute whose main research areas are public finance, behavioural economics and labour economics. She can be contacted at dilshani@advocata.org or @dilshani_n on Twitter.

In state business, the agency problem is on steriods

Originally appeared on Echelon

By Ravi Ratnasabapathy

Inefficiency in state enterprises is a common, if not universal, problem. Citizens are often frustrated by poor service at public institutions. Public hospitals are free, but how many senior executives use them? When holidaying overseas, Sri Lankans will use the railway, but when was the last time they rode on Sri Lanka’s subsidised railway?

Where there is a choice – private hospitals or cars – people may escape poor state services by using alternatives; but the poor aren’t as fortunate.

However, there is no escape from the cost of inefficiency. Inefficiency and waste in state enterprises must eventually be paid for, either by high prices (needed to cover all the waste) or higher taxes. Why is this common in Sri Lanka, but less so in developed countries? The issue is with governance, specifically the problem of agency.

The principal-agent problem is common to any enterprise, private or public, not directly managed by its owners. When an owner manages a business, the interests of the business and the owner are perfectly aligned. When the owner hires a manager to run the business, problems arise if the interests of the manager conflict with that of the owner.

When an owner manages a business, the interests of the business and the owner are perfectly aligned. When the owner hires a manager to run the business, problems arise if the interests of the manager conflict with that of the owner

The problem with state enterprises is that, apart from the standard agency costs of a business, they also suffer political costs. We will come to this presently, but in effect, two sets of costs must be managed for a state enterprise to function effectively, so the regime of governance needs to be much stronger than for private entities. In Sri Lanka, the governance regime is a lot weaker, leading to underperformance and abuse.

DEFINING THE PROBLEM OF AGENCY
Shareholders, the ultimate owners of a company, as principals, elect the management to act and take decisions on their behalf. Managers are supposed to employ the resources of the business in a manner that will maximize shareholder wealth. The manager’s best interest, however, is to divert these resources to enhance their personal status (through perquisites such as chauffeured limousines, business class travel) and maximise their own wealth (through excessive pay or corruption).

An example may be seen in recent news reports of a payment of Rs75 million paid to senior managers of People’s Bank and allegedly excessive payments to the top management of SriLankan Airlines. According to a COPE report, the ETF has paid incentives amounting to Rs74.8 million and bonuses of Rs44.5 million, contrary to treasury circulars. Another instance is Hunter and Company PLC, where the auditors were dismissed when they insisted that disclosure was necessary with regard to a bungalow that was being used by key management personnel. Later, a shareholder of the company moved to convene an EGM to call for an explanation from Hunters’ directors with regard to the “disappearance of a Rs2.5 million cheque in favour of a Mr Mahesh Gajanayake and about directors’ remuneration over and above the limit set out in the company’s Article 107”.

The reduction of agency costs is regarded as the essential function of company law and corporate governance.

THE PROBLEM IN STATE ENTERPRISES: POLITICAL AND AGENCY COSTS
State ownership creates its own agency problems, which are caused by the separation of politicians and bureaucrats who oversee SOEs from “the citizens” on whose behalf the enterprises are ostensibly owned. This creates an extra level of agency.

SOEs are ultimately owned by citizens, but run by managers, who are controlled by politicians. Politicians determine or otherwise influence the appointment of key management and must hold the managers accountable.

Unlike shareholders, politicians have not invested their own money in the business. As they have no stake, there is no particular interest in ensuring that it is well run. Politicians, however, have incentives to direct SOEs to achieve economically inefficient objectives for political purposes, giving rise to political costs. These may be benign, if policies enhance social welfare, even if they fail to maximize shareholder value, but most often they are malign, favouring political allies at the expense of public welfare.

The real owners, the citizens, have no voice and little interest in how the business is run.

CITIZENS AS SHAREHOLDERS: THE COLLECTIVE ACTION PROBLEM
Citizens are the ultimate “owners”, but cannot exert any meaningful oversight as:
(a) they have no legal standing as owners; and
(b) the fragmented nature of the “ownership” creates a collective action problem: no one citizen, even ones who are seriously interested, has an incentive to bear the costs required to monitor the managers.

Oversight is costly, as time and effort must be spent monitoring performance if malpractice is to be detected, a task made more difficult as citizens lack ready access to information. As no direct rewards accrue to a diligent citizen from such action, there is little incentive to expend the effort to do so; they will depend on politicians for this. As discussed previously, politicians have no incentives to do so.

The main mechanisms to address these two layers of agency costs are general corporate laws on the one hand, and general political and legal institutions on the other; but for reasons discussed later, they are weak.

Therefore, the performance of state-owned enterprises (SOEs) suffer from both political costs (i.e. costs associated with the control of firms by politicians who have political goals that differ from economic efficiency) and agency costs (i.e. costs resulting from managerial pursuit of private benefits at the expense of the firm), leading to chronic inefficiency and underperformance.

THE AGENCY PROBLEM: A DISTINCTION BETWEEN PRIVATE AND PUBLIC
As observed above, the agency problem is present in all corporate entities, but it is important to note a fundamental distinction between private shareholders and citizens.

Investors in private companies take a risk when they put money down, but it is one taken of their own volition. Shareholders subscribe voluntarily to shares; they are not compelled to invest.

Generally, people only invest in private companies if they know and trust the management. If the business does not perform to expectations, they will earn a lower return. If it fails, the shareholders will lose, but it is their own money, voluntarily invested, that is lost.

With SOEs, the important difference is that, unlike in a company where willing investors are taking conscious decisions, the investment in an SOE is by citizens who contribute involuntarily and unwittingly. Taxation is compulsory, and in the form of indirect taxation, all citizens contribute to SOEs.

In the most extreme case, if shareholders are disgusted and can find no remedy, they still enjoy a final option: exit. They may sell their shares. For citizens, unless they choose to migrate, there is no exit option.

Businesses must risk their own money when they go into trade, but governments risk other people’s money. If a business does not earn a profit, the owner will need to keep infusing funds, and this provides a powerful incentive to improve efficiency. If the owner is incapable of improving the business and is unable to infuse more funds, a mismanaged business will eventually close.

SOEs in Sri Lanka, however, enjoy implicit state guarantees and funding via state banks, which undermines even the threat of bankruptcy as a source of managerial discipline. The continuous accumulation of losses is only possible because of this factor. An example is SriLankan Airlines, which has accumulated losses of $1 billion and a negative net worth, but continues to operate with funding from state banks. For context, the current IMF facility (stand-by arrangement) is $1.5 billion.

THE PROBLEM OF AGENCY WITHIN THE POLITICAL CONTEXT OF SRI LANKA
As citizens lack the interest or wherewithal to monitor SOEs, efficiency is entirely dependent on the system of governance. Distorted incentives and weakened mechanisms present structural challenges to efficiency.

Investors in private companies take a risk when they put money down, but it is one taken of their own volition. The investment in an SOE is by citizens who contribute involuntarily and unwittingly.
  • Patronage
    Politics in Sri Lanka is based on patronage. Ministers face pressures from constituents for jobs or favours. State sector jobs are especially prized for status and security. Politicians believe that granting jobs is a necessary condition for re-election. In general, lawmakers and ministers in Sri Lanka across party lines and ideological divides view SOEs as providing avenues to create employment.

    SOEs incorporated as limited liability companies enjoy greater autonomy in the management of their affairs, allowing the minister to bypass treasury or budget restrictions placed on recruitment. In the case of state banks, it is possible for the minister to exercise patronage by directing lending on preferred terms to selected constituents.

    This leads to problems of over-staffing. The more staff are hired, the greater the potential votes, leading to the chronic over-staffing evident in many SOEs. The allied problem is nepotism – the recruitment of people based on relationships instead of ability. Recruiting unsuitable candidates weakens the general level of competence within the SOE, which adversely impacts performance.

    Therefore, patronage is particularly harmful as it has a dual impact on performance; the hiring of excess staff adds to unnecessary costs, while nepotism leads to diminished efficiency.

    A COPE report highlights how the State Engineering Corporation recruited 4,512 employees when the available vacancies were only 41. The problem is pervasive. The Secretary to the Treasury Dr. Samaratunga noted that recruitments to SOEs take place without the approval of the Management Services Department of the Treasury. “All SOEs across the government—public corporations, statutory boards or government-owned companies—have effected recruitment without proper approval of the management services”.

  • Corruption
    Corruption is endemic in Sri Lanka’s political system. The root of the problem lies in campaign finance. Changes in the 1978 constitution removed limits on campaign spending and the need to disclose sources of funding. This has led to a massive increase in spending with candidates seeking to outspend each other in order to win. Those who succeed come into office having either made major investments or incurred significant debts, usually a combination of both. This creates an in-built incentive for corruption. In the absence of strong governance mechanisms, it is hardly surprising if MPs do not succumb to temptation. spending a good deal of their time in office either recovering election spending or raising funds for their re-election campaign. This explains the scramble for positions in the government, which allows control over resources. The greater autonomy of SOEs makes them particularly tempting targets.

Greater efficiency can only be expected through better governance, which requires addressing fundamental weaknesses in the political system and adopting a comprehensive system of corporate governance for state enterprises

LACK OF A COMPREHENSIVE SOE CORPORATE GOVERNANCE FRAMEWORK
The Secretary to the Treasury has noted that SOEs have a “general lack of governance practices, lack of accountability mechanisms, issues associated with lack of clear policy and legal frameworks, and weak supervisory roles played by the management and board of directors”.

Many countries have adopted comprehensive corporate governance practices to strengthen the governing bodies that oversee and control (shareholders or owner meetings, board and management, internal monitoring structures), while defining clear rules of engagement between the different actors, as well as increasing transparency and accountability towards stakeholders.

These are lacking in Sri Lanka, and the overall system of governance still seems inadequate to hold SOEs to account.

Conclusion
Perverse incentives and weak governance greatly increase political and agency costs of state-owned enterprises. It is, therefore, not surprising that a study by Lalithsiri Gunaruwan found that “inefficiency is a common feature in all Sri Lankan SOEs, across all organisational categories”. Greater efficiency can only be expected through better governance, which requires addressing the fundamental weaknesses in the political system and adopting a comprehensive system of corporate governance for state enterprises.

SOEs in Sri Lanka : Beyond "Profit & Losses"

The state has a long history of involvement in the economy in Sri Lanka; state ownership of utilities dates back to the colonial era. Post-independence experiments with socialism saw the expansion of the state into many new areas of business. Despite some reforms in the 1977-2005 era, state enterprises still account for a significant share of the economy.

The 2005-2015 period saw a halt to the privatisation process and a renewed wave of expansion in state businesses. Between 2009 and 2014 the number of SOEs grew from 107 to 245 while the number employed grew from 140,500 to a staggering 261,683.

Although the Department of Public Enterprises is supposed to improve governance in Public Enterprises (Commercial Corporations, Government Owned Companies and Statutory Boards), by its own admission only 55 SOEs come under its purview. The last available performance report (2014) indicates the 55 SOEs that were considered strategically important obtained budgetary support of Rs.126bn and treasury guarantees of Rs.47.6bn that year. Bank borrowings by these SOEs stood at Rs.471.2bn as at end 2014.

The size of the SOEs and the breadth of their activity make it an important determinant of the overall productivity of the economy. Consequently, the governance of SOEs will be critical to ensure their positive contribution to a country’s overall economic efficiency and competitiveness.

Ensuring that whether held nationally, regionally or locally – the state’s investments to actually deliver the societal outcomes desired is extremely difficult due to certain inherent problems.

1) Governments are run by politicians, not businessmen. Politicians can only make political decisions, not economic ones and these decisions will tend to be focused on short term publicity and benefits, ignoring long term consequences. An example is the launch of a company called Polipto Lanka to convert rubber and polythene waste to diesel. It was launched in 2009 amidst much fanfare but despite regular grants from the treasury it is yet to show any commercial results or even demonstrate that the process is economically feasible. Coincidentally, the launch took place a week before a general election. Polipto Lanka receives regular budget support from the Treasury; support for the last three years amounting to Rs.120m.

 

2) Governments use other people’s money; businesses must risk their own money. If a business does not earn a profit, the owner will need to keep infusing funds and this provides a powerful incentive to improve efficiency. The general public, whose money is effectively at risk in a state venture do not have the wherewithal or knowledge to hold managers or politicians to account. Politicians would prefer to postpone hard decisions than risk personal unpopularity, which is why state enterprises can keep running losses year after year.

The Janatha Estates Development Board (JEDB) and Sri Lanka State Plantation Corporation (SLSPC) have not reported a profit in the last five years, Mihin Lanka has barely made a profit since its inception, yet they continue to operate, the losses being paid by taxpayers because politicians will not risk bad publicity that may follow any attempts to reform them.

The Director General of Public Enterprises admitted as much in his report of 2009:

"We have found some boards take affairs of the enterprise very lightly regardless of their strategic importance even in a situation where PE [Public Enterprise] faces very difficult time. Since there is

no formal procedure to hold the chairman and the board of directors accountable, for their weak performance or unacceptable practices, some boards act with sheer indifference in discharging their responsibility."

 

3) State enterprises tend to be monopolies or restrict competition from the private sector. A business that faces no competition will find it easier to report profits. Where state businesses face competition the Government may grant SOEs preferential tax or other benefits that hinder the ability of the private sector to compete, causing deterioration in service or increasing costs to consumers. A few years ago VAT was imposed on large supermarkets but LakSathosa was exempted from this. The previously unprofitable LakSathosa started to make profits, while the efficient local supermarkets were penalised.

SOEs which operate as monopolies may not deliver an adequate level of service or charge excessive prices, which may lower the productivity/efficiency of the wider economy.

When Telecom was in state hands, obtaining a telephone connection, essential for business was a luxury that required a wait of several years. Thanks to liberalisation of phone connections, now they are available over the counter but businesses still struggle to obtain power connections and may have to invest in standby generators due to unreliability.

Energy costs (fuel and electricity) do not reflect the decline in global oil prices partly due to inefficiencies within the CPC/CEB (Ceylon Petroleum Corporation/ Ceylon Electricity Board), impacting on the competitiveness of business.

Inefficiencies in the state managed port terminals are a drag on trade but fortunately throughput at the privately managed SAGT (South Asia Gateway Terminal) Queen Elizabeth Quay is far greater and a boon to business.

The SAGT terminal has been ranked number one for terminal productivity in South Asia by the Journal of Commerce in the USA and ranked number four in the world. Because of the faster turnaround time ships prefer to dock at Queen Elizabeth Quay where it operates.

SOEs, especially those that lose money, are partly funded by banks. When a large chunk of bank lending is directed towards SOEs, the private sector will find it harder to obtain funds and higher interest rates could lead to a phenomenon referred to as "crowding out".

 

4) Governments cannot boost overall employment by hiring workers to the state sector. Giving people state-sector jobs may appear to create employment but this causes a problem because each new position brings with it a tax obligation that imposes a burden on the private sector, where wealth is generated and taxes paid. Effectively, since the salary of a public-sector employee reduces the amount of funds available to private employers, a job created in the public sector causes an offsetting loss in the private sector.

 

5) State-owned enterprises may enjoy hidden subsidies in a variety of forms including preferential borrowing costs, lower rents or taxes. Thus the actual costs will be higher than reported in the accounts and very difficult to quantify without detailed analysis. For example, imagine if ministries or SOEs had to pay market rents for the space in Government buildings that they utilise. Few would occupy the highly-valued areas they do now and would probably occupy less office space.

Indeed there is a massive opportunity cost of state- owned property in that they do not generate a net tax income for the state. If these properties were utilised by the private sector they would generate taxes as well as rents. Secondly, government office buildings in city centres create additional congestion. Given the current state of information technology, most government offices could and should be moved far from city centres. Hence, it is clear that the problems with SOEs are not limited to losses; their inefficiencies also can be a serious drag on the wider economy.

A more worrying issue is that the public is unaware of the full extent of the problem. The Treasury and other bodies that are supposed to monitor SOEs do so only partially and by all accounts ineffectively. Hence the question is - how much of public resources are being drained away in this financial black hole? The tax payers and citizens surely deserve better.

At a minimum, the Government needs to publish regular, comprehensive performance report giving the investments, outstanding debts and profits/losses of all SOEs. The question of reform needs to be urgently addressed and privatisation should remain an option.


A version of this article originally appeared in “The State of State Enterprises in Sri Lanka” Report as well as The Island.

What we could have done with the losses of state-owned enterprises

By Dhananath Fernando

The article originally appeared on the Daily Mirror on May 15, 2016

 

Would you believe the Sri Lankan government could have declared a Rs. 5000 bonus for each and every citizen in 2016 April New Year if Sri Lankan Airlines even if they had broken even for last 10 years.

The subject is State Owned Enterprises (SOE) and strangely most of them do not have proper financial data (Data is publicly available for 55 out of 255 SOE’s). I am adding my two cents worth to write about the mega losers of public money and some ‘why’ factors for the reader’s consumption.

The total losses of the 55 SOE’s from 2006-2015 amounts to a gigantic Rs. 636 billion. Interestingly 5 key institutes are responsible for 95 percent of the losses which adds up to Rs. 605 billion losses. Namely Ceylon Petroleum Corporation, Ceylon Electricity Board, Sri Lankan Air Lines, Mihin Lanka and Sri Lanka Transportation Board are the money eating machines of poor taxpayers. 

image_1463586251-b1c63f72e6.jpg

Surprisingly significant discrepancies were identified even in the figures disclosed to public through the COPE report, the Treasury Annual Report and Fiscal Management Report for the same institute.

Obviously all 3 the figures cannot be true and we can come to a reasonable conclusion that either two figures or all 3 figures are false. The simple reason we cannot ignore the discrepancy is because it exceeds Rs. 5 billion of tax payer’s money. If I take examples of other institutes this column will run out of space

Naturally, with such drastic discrepancies the following appalling questions cross our minds: nAre accepted accounting standards followed when profit calculations are made?  nIs the data fabricated to misguide the 20 million population?

Has COPE done their job well and does the money spent on the COPE committee justify taxpayer’s money.

If these government workers cannot manage these institutes and cannot even calculate profit and loss accurately, are they worth the money they are paid from tax payers’money.  The ‘Profits and losses’ analysis shows that in 2011 and 2012 there is a sharp increase in losses and the reasons for the increase in losses should be investigated to avoid reoccurrence of such situations in the future. 

Although it is a fact that the global economic conditions took a beating in 2012, but Sri Lanka had just emerged from a war situation in 2009, and this was a huge advantage to the Sri Lankan economy. SLTB and Mihin Air has failed to make any profit for last 10 long years and if a company cannot be turned around in 10 years, the ability of the management should be questioned. How many years must one wait to see a progress being made? 

Sometimes we the ordinary citizens of Sri Lanka cannot comprehend the value of Rs. 605 billion. Most of us, including the ministers and parliamentarians confuse millions and billions. In order to illustrate the potential of Rs. 605 billion, a list of things which could be done, if the 5 key institutes were well managed and were able to break even is given below:

1. Ten more highways

The cost of southern high way was 60 Billion rupees and we could have easily built 10 southern highways connecting all corners of the island with this money because the cost of the southern highway was way above the average cost. The Ministry of Highways attributes the high cost to the high prices paid for land acquisitions and land diversity. Even if this is true, 10 highways with similar capacity could have been constructed for the same price.  

2. Eleven harbours

The Hambantota port cost US$ 361 million and we could have built 11 ports and even saved another 600 million for the grand opening ceremony  

3. Cover 81% of the current budget deficit

The current budget deficit is estimated to be LKR 740 billion rupees and if the 5 institutes mentioned herein could have performed at breakeven level, we could easily cover 81% of the current budget deficit  

4. Twenty more airports

The current government is planning to make Sri Lanka an aviation hub and if they think they need airports like Mattala, even if it is only to store paddy during the harvest season, 20 similar airports could be built. The San Francisco Air Port in the USA, which incidentally is one of the top airports in the world, with the size of the runway being 3600 meters long and 45 meters wide is smaller than the Mattala airport runway which has a 3500 long and 60 meters wide runway. So I am talking about an investment of 20 airports having a capacity equal to the San Francisco Airport, not small domestic airports carrying light aircrafts  

5. Nine power plants as Norochchole

Making a Sri Lanka a hub of energy is another popular topic in town. The first phase of Norchchole cost US$ 455 million and losses made by the 5 key SOE’s in 10 years is 9 times  this cost.  

6. 10% of the Megapolis project 2030

The initial mega project in 2016 targeting to make Sri Lanka a middle income country by 2030, requires an investment of US$ 44 billion. The Government could easily cover 10 percent of the total investment with the losses made by these key 5 institutes.  

7. Relief of 22% of total tax revenue in 2016 on tax payers

The total estimated tax revenue of the government for 2016 is Rs. 1,584 billion. Even if Sri Lankan Airlines and Ceylon Petroleum Corporation could operate at breakeven level it could still cover 22 percent of the total estimated tax revenue from 2016 budget. I reiterate the values are just face values and the net present value (NPV) will show a worse situation  

8. Rs. 30,000 bonus by the first citizen with his annual greeting SMS

Leaving alone all of the above, the President instead of sending a SMS message to all Sri Lankan citizens who own a phone, wishing them a happy Sinhala and Tamil New Year, could give a cash gift of Rs.30,000 to every citizen of this country, including newly born infants, if these 5 key loss making institutes performed better by breaking even. (Rs. 120,000 for a 4 member house family) With the losses incurred by Sri Lankan Airlines alone, the President could gift Rs. 5000 to each citizen. 

What would be the solution?

It is a globally accepted theory that when you run a business, focussing on your strengths is a must and establishing monitoring and evaluation procedures is essential. If you do not possess the required skills or expertise within your organizations, you have to either hire the right people or outsource the job.I t is sad that the words like “Privatization” are injected as terrorist words into the blood of the nation but the reality is just leaving these 5 institutes in the hands of honest politicians had lost the country 605 billion which no one can justify. Those who promote concepts like state ownerships and big government has absolutely no idea on financial management.

If they had any sense on fiscal management a decade is a too long period even for a below average management.  The fear of privatization is same as fear of failure and the success is always lies beyond our comfortable zone. It is Albert Einstein, the brain of the 21stcentury, who said “Insanity is doing the same thing over and over again and expecting different results”. 


Dhananath Fernando is the Chief Operating Officer of AdvocataInstitute; an independent Sri Lankan think tank works for economic freedom. He could be reached via dhananath@advovata.org

Reforming State Owned Enterprises - Q&A with Razeen Sally

Razeen Sally is Associate Professor at the Lee Kuan Yew School of Public Policy at the Notional University of Singapore. He is Chairman of the Institute of Policy Studies, the main economic-policy think tank in his native Sri Lanka. Previously he taught at the London School of Economics, where he received his PhD. He has been Director of the European Centre for International Political Economy, a global-economy think tank in Brussels. He has held visiting research and teaching positions at Institut D’Etudes Politiques (Sciences Po) in Paris,

Australian National University, University of Hong Kong, Institute of Southeast Asian Studies in Singapore and Dartmouth College in the USA. He was also Chair of the World Economic Forum’s Global Agenda Council on Competitiveness. He is an Adjunct Scholar at the Coto Institute and is on the advisory boards of the Institute of Economic Affairs (UK) and Centre for Independent Studies (Australia).

He is a member of the Mont Pelerin Society. Sally’s research and teaching focuses on global trade policy and Asia in the world economy. He has written on the WTD, FTAs and on different aspects of trade policy in Asia. He has also written on the history of economic ideas, especially the theory of commercial policy. His new book on Sri Lanka will be published in 2017

 

Razeen Sally, a Professor at the National University of Singapore, shared his experience about the experience of state-owned enterprises (SOEs) in South Asia and East Asia with Advocata, a Colombobased think tank promoting free market. While privatization is the best option to reduce the burden of state enterprises on society and improve t h e i r p e r f o r m a n c e , s u b j e c t i n g them t o competition, shielding them from politicization can also give benefits, he says in this interview.

There seems to have been an epidemic of state enterprises after World War II, especially in newly independent countries like Sri Lanka. When did state enterprises start to emerge in the world and in Sri Lanka? What is the historical background to SOEs?

In Sri Lanka as in India, many state enterprises date back to mid-1950s when the government policies took a turn towards to more intervention, more protection and using the state to promote investments in heavy industry and other areas. In this respect, the S.W.R.D. Bandaranaike government was following what the Nehru government was doing in India. So, the SOEs were intended to be the spearhead of economic development. And of course in Sri Lanka, this was really ratcheted up under Mrs. Bandaranaike’s government in 1970, when the state intended to take control of the commanding heights of the economy.

What were the intentions of the architects of SOEs? Have these objectives been met?

The answer is clearly no. The idea was to use the SOEs as part of an alternative model of economic development.

The model people had in mind was Soviet Union and its five-year plan. And here there is a contrast with what was done in the East Asian countries and what was done in South Asia. South Asia went for heavy state-led investment, nationalisation, for various government internal controls and external protection - import substitution. And this model clearly failed, which led to later market reforms, from 1977 in Sri Lanka and from 1991 in India.

The East Asian countries - some of them actually had SOEs - like Taiwan. But on the whole they didn’t nationalise rampantly and they relied much more on the private sector to be the engine of economic development. It was part of a different model which was more open to international trade, which had fewer domestic controls, which had macroeconomic stability and so on.

I would argue that the old model, which had nationalisation and SOEs controlling significant parts of the economy, definitely failed. And you see the costs of failure of SOEs in Sri Lanka. There are 250 or more SOEs, some that are hugely loss-making, that are a drain on an already depleted exchequer, that are heavily politicised, that crowd out private investment and that constrain consumer choice. So, it is a bad deal all around.

Why do so many state enterprises get into trouble and end up becoming burdens on the tax payer? Is there an inherent problem in the incentives or structure behind the SOEs that leads them on this path?

the world, state enterprises fail because there are disincentives to competition.

They are shielded from competition. They have a close link to the state. They are highly politicized. Appointments are not made on merit. The market is rigged in their favour, on prices and on production. Often they are protective from international competition as well as domestic competition. For all those reasons they fail.

And they are a drag on the economy, on the exchequer and on consumers - they limit competition. There are of course, exceptions.

One can point to a minority of SOEs in a few countries in the world that have not prevented fast and successful economic development. One thinks in particular of the government-linked companies (GLCs) in Singapore. Singapore, which is a fantastic and successful economy, still has large companies that are majority state-owned, that are grouped under Temasek - the state holding company - and are commercially viable. Some of them have done very well competing internationally. Singapore Airlines is perhaps the best example.

That they have been subjected to competition is the basic answer - and in a small economy like Singapore, which is highly open to the world. It is the most open economy of any size in the world with trade at close to 400 percent of gross domestic product (GDP).

The GLCs that play in the international market place are subject to fierce international competition in the market place. That’s true of Singapore Airlines, that’s true of the port services authority and that’s true of state-owned banks and so on. Over the decades the government has put in place the mechanisms to separate ownership - that is to say by the state - from the management, of commercial enterprises. In other words, they’ve been depoliticised to a large extent. It would be wrong to say that all SOEs in all countries have failed.

That’s not true. For the most part it is true. But a handful of exceptions are there. Singapore is the one that really stands out for exceptional pieces. But it’s very difficult to try and replicate in a country like Sri Lanka, what Singapore has done - in a country where politics is much more extrusive, where it is much more difficult to depoliticise the running of SOEs and also much more difficult to subject them to competition from domestic players and also from international players. Malaysia has a holding company called Khazanah, which is similar in some ways to Temasek in Singapore.

This holding company houses a number of leading SOEs in Malaysia, which accounts for about one third of Malaysian output. At least one of them is a big player in Sri Lanka. The Malaysian GLCs don’t perform nearly as well as Singapore GLCs - for two reasons. Firstly, they are less subject to competition and secondly, they are much more politicized. However, some of them are actually not too bad or are reasonably good because they have been shielded more than the others from politics.

What can be done?

The first best solution to the running of SOEs in Sri Lanka is to have a timetable to privatise. So yes, would use the ‘P’ word without feeling embarrassed about it. The obvious economically efficient solution is to privatize as many of the SOEs as possible over a realistic period of time. We know that politically this is not on the cards at the moment.

So the ‘P’ word is not used. As a matter of expediency that’s understandable. But I think as a medium to long-term objective, privatisation should be the way to go. However, now we have to get the second-best scenarios and second-best solutions. If large-scale privatisation is not feasible, what can be done in the short term, over the next one or two parliamentary terms, to improve the current dismal situation of the SOEs that won’t be as good as and as efficient as full privatisation, but might deliver a better result than what we have at the moment?’ In other words, improve the running of the enterprises; make them more commercially viable, more productive. In this scenario, we have to look at the other countries that have better practices. So Singapore comes to mind and so does Malaysia.

So we should look at the Temasek and Khazanah models of having a state holding company for SOEs. The lesson I would draw from the best example, which is Temasek, is that first you subject them to all-round competition, including international competition. And second, you put in place mechanism to depoliticise them as much as possible. In other words, separate ownership from management.

That’s the starting point. Then we can ask ourselves, ‘What should be the criteria for making these principles real?’ I was at a conference in Goa to discuss Indian reforms and I was part of a group that looked at this Temasek - Khazanah type of a model. And the local participants were interested in what lessons could there be for India, which is also not in the game of big privatisations.

As a first step, there is no point setting up a state-owned holding company and calling it something that’s done on the Temasek or Khazanah model if you’re not going to change the current operating procedures. So, the point is to have serious reforms, even if you can’t do privatisation. So what can you do? Firstly, identify the enterprises that essentially operate in a commercial sphere, where there is some competition already or where there could be more competition. If you have a state-run monopoly or oligopoly, then don’t put it in such a holding company.

Keep it separate. Because that’s probably going to be more politicized anyway there may be other public policy objectives that will get involved in the running of that enterprise. So keep that to one side. Rather, put in this basket enterprises that are commercial. So, that would include SriLankan Airlines, Mihin Air and the Sri Lanka Transport Board (SLTB) but not the Ceylon Electricity Board. So, in other words, don’t put all SOEs in this holding company, only put some of them that operate in a commercial sphere.

These should be corporatised with initially majority state’s ownership. Then you should start introducing the minority equity participation. And Temasek is interesting because, in the key enterprises, the government still retains the majority equity, therefore control. But they have actually gradually beefed up the minority equity in most of the Temasek enterprises.

That’s also a boost for the stock exchange or financial markets. And in some cases with nonpriority enterprises, they have actually taken the private sector stakes to a majority of equity and the government has retained only a minority of equity - and in some cases actually exited altogether. But in the meantime, the government could be with the minority equity - up to 19 percent. Maybe when the time is right politically, move into the majority private ownership. But the holding company should include airlines, buses, telcos and whatever is commercially viable and subject to competition.

We talk of loss-making state enterprises hurting the people. Are there other fallouts of badly managed SOEs? What’s a reasonable way of counting the total costs of SOEs on the economy?

Losses are the tip of the iceberg. And of course there are other SOEs in other countries that are hugely profitable. But that’s not an indication of overall economic efficiency. They are profitable because they have monopoly rents. They are not subject to normal competition.

So, I think the cost of SOEs that operate in rigged markets is the costs that fall on the consumer because of lack of competition. These might be difficult to quantify. We are talking of usually higher than normal prices, restricted product variety, often restricted supply of the product or service in question. I think probably the biggest losses to the economy are the losses that come from lack of competition.

When the Public Utilities Commission was set up here by Prof. Rohan Samarajiva, the law provided that you cannot replace the entire board in one go. Two or few members can be appointed for one year. What is your opinion on a procedure of that nature?

You could try to introduce independent directors. Having independent anybody in Sri Lanka is very difficult at the moment. Some of the Temasek companies have had foreign CEOs. Mind you SriLankan had a foreign CEO when it tied up with Emirates. What happened to him? You could try to maybe have a regulation that there should be a minimum number of independently appointed directors to the boards of these companies and to the boards of the holding company as well. So, the government appointees would be restricted to a certain number and there would be some mechanism to appoint some of the rest.

But of course they would have to be qualified. There is no point appointing a lawyer who leads someone’s political campaign without prior commercial experience to be an independent director of a commercial enterprise. That’s one thing to play around with that.

We have seen companies like Temasek advertise globally. So do you suggest that some people could also be hired globally?

Yes. Target the diaspora as well. See whether you could attract some of the qualified people from the diaspora to be directors of these companies, CEOs or the senior management.


A version of this article originally appeared in “The State of State Enterprises in Sri Lanka” Report as well as Daily Mirror

The re-nationalisation of SriLankan Airlines and the follies of State enterprise

A couple of weeks ago, Prime Minister Ranil Wickremesinghe announced that the debts of SriLankan Airlines, amounting to a mammoth US$ 3.2 billion, will have to borne by the taxpayer. He said the government is taking this action to defuse an economic ‘landmine’ and that his government is actively looking for an international partner to manage the airline.

When a three billion dollar bill is passed on to ordinary Sri Lankans, many of whom have never flown the airline, it’s worth examining what let do this disastrous situation. In examining the data, it’s clear that Srilankan Airlines provides an excellent example of the problems that arise from state-owned enterprises.

Air Lanka, the state-owned airline was privatised in April 1998. The government of Sri Lanka sold a 40% shareholding to Emirates Airlines, which was also contracted to manage the company for a period of 10 years. The government of Sri Lanka continued to retain the majority shareholding but management was relinquished to Emirates.

Emirates re-branded the airline as ‘SriLankan’, overhauled the airline’s infrastructure and adopted a new approach to its operations. Cost-effective strategies were introduced; new pro-active management teams were put in place; Information technology became the basis of everyday activities. The airline’s network was constantly reappraised and product enhancement became a part of the airline’s philosophy. The airline was completely re-fleeted with an all-Airbus fleet of A340, A330 and A320 aircraft replacing the ageing Lockheed Tristars.

Although the privatisation and restructuring attracted a lot of criticism at the time, the exercise was eventually deemed a success; indeed in many quarters it was hailed as model for other airlines.

At an international seminar on airline restructuring and privatisation, held a couple of years after the divestment; the President of the employees union of Srilankan spoke on how union rights were protected and the improvement of working conditions.

At the time of the privatisation all employees were gifted shares by the government based on the number of years of service. Although a voluntary retirement scheme was also implemented the President of the union stated that employees were given an excellent deal if they wanted to leave and no-one was made redundant. Collective Agreements signed by the airline with employee unions guaranteed increments to employees. New human resource development programmes were instituted after privatisation to upgrade employees’ skills and a new grade and pay structure put in place.

Union representatives from other state-owned airlines were also impressed by the manner in which the airline disclosed information to employees; “they had never seen such transparency from an airline’s management,” said K J L Perera president of the employees union. SriLankan published its quarterly financial results in its staff newsletter.

Following a spat in December 2007 the Chief Executive Peter Hill, had his work permit revoked.The dispute began when Hill refused to bump 35 passengers from a full London-Colombo flight to make way for Sri Lanka’s president and his entourage. The Government cancelled the work permit of the CEO of the airline and in March 2008, Emirates did not renew the management contract. The airline, which had been consistently profitable under the management of Emirates last reported a profit in 2008; a bumper Rs.4.4bn. Since then the airline has racked up enormous losses; according to the latest published accounts for the year ended March 2015 losses stood 123.26bn rupees.

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The airline reported an operating loss of Rs.16bn in the year 2015, an improvement from the loss of Rs.31.3bn in 2014. To put these figures into context, the Government bought out Emirates for only US$53m (or Rs.7bn at today’s exchange rate). Last year alone the airline lostfour times its original purchase price, a truly remarkable feat.  The airline’s accumulated losses amount to almost a billion dollars; the entire Southern highway was built for around 700 million dollars, cost overruns included.

The management of the airline has claimed that the recession in Europe and high oil prices caused the losses. The public was urged to look beyond the “mere profitability aspect” and understand the “catalyst role played” by the airline in tourism; in the words of the former CEO.

Airlines are global businesses and the same factors affect all airlines. Singapore Airlines cited by many who try to justify state ownership of airlines reported a marginal operating loss in only a single year during the last ten years; a loss of US$38m in 2009/10.

Singapore airlines is no less affected by the recession and oil prices, but it did not report losses. Singapore Airlines is a well-run state airline that is something of an exception. Many cite it’s example but few have been able to emulate its success, so we should not try to justify our Government’s ownership by looking to Singapore. Srilankan Airlines own track record is what we need to examine.

What changed when the Government took it over? They inherited a profitable business with the same staff, systems and infrastructure; the principal difference was in the management. The truth is that the airline suffered from gross mismanagement and corruption, some of which has recently been uncovered.

These problems seem to plague state owned enterprises (SOE’s), but why do they occur?

There are two elements to explanation: the principal-agent problem and the free-rider problem, both based on the assumption of self-seeking individuals.

An SOE is run by managers who do not own the firm. In a firm under state control managers know that their salaries will be paid regardless of how the business performs, therefore there is no incentive to maximise efficiency.

Frequently in Sri Lanka the Government will be under pressure to appoint various loyalists to key positions. In some, (although not all) instances, those who seek political patronage to be ‘fixed up in a job’ are people who lack the skills or abilities to find a job on their own merits. Thus the enterprise may become stuffed with incompetents; good staff will find it very difficult to work with these people so they either leave or give up trying to do any work and concentrate on keeping in the good books of the bosses.

The maxim of “more work, more trouble, less work, less trouble and no work, no trouble” is applied. In any case pay and benefits are not dependent on performance, so why bother to stick ones neck out? Soon, this attitude poisons the enterprise and staff work on surviving in their jobs rather than trying to manage the business.

This problem would not exist if the citizens, who are the owners (principals) of SOEs, can perfectly monitor the SOE managers (their agents) but individual citizens do not have the incentive, and means, to monitor the SOE managers.

This leads to the second element of the problem, even if they did try to hold the SOE to account, the costs that an individual citizen incurs in monitoring SOE managers (obtaining and analysing financial information, seeking explanations through public channels etc.) are solely his or hers, while the benefits of improved management accrue to all owners. Time and effort will be expended in the exercise by the citizen who receives no immediate benefit. Thus, individually, the citizens have little incentive to monitor the SOE managers, which means that in the end, no one monitors them. This is the so-called free-rider problem.

This is the fundamental structural flaw with SOE’s which explains why many operating in truly competitive markets are doomed to failure. There are apparently profitable SOE’s but In some instances they operate as a monopoly, like the Sri Lanka Port Aunthority.  In other instances such as LakSathosa, Governments  may  create an  uneven-playing  field  in  markets  where  an  SOE  competes  with private  firms,  as  they  have  a  vested  interest  in  ensuring  that  state-owned  firms  succeed. LakSathosa is exempt from the VAT and NBT charged on other supermarkets giving them a significant competitive advantage.

Accordingly, despite its role as regulator the government may, in fact, restrict competition through granting SOEs various benefits not offered to private firms. In such instances SOE’s may appear to be profitable but this is due to hidden subsidies and distortions which are ultimately borne by taxpayers.  

Airlines used to be regarded as a key part of transport infrastructure, like roads or bridges, which should be owned by the Government. Until the mid-1980s, most governments did own airlines and protected flag-carriers by restricting new entrants. This thinking has changed.

Privatisation made air travel more competitive and liberalisation brought competition from low-cost carriers. Most airlines in state control have failed to adapt and are losing money. There is little strategic interest in owning an airline; Switzerland and Belgium have done without a flag carrier for years.

The airline is currently a huge drain on the treasury and the previous experience with Emirates demonstrates the clear benefit of privatisation.


A version of this article originally appeared in “The State of State Enterprises in Sri Lanka” Report as well as Ground Views

The 2016 Budget in Sri Lanka -- The Good. The Bad. And the Ugly.

Sri Lanka's budget for 2016 included several liberal  measures but also many seemingly senseless interventions that may boomerang.

The budget contained the various give-aways to many constituencies: farmers, fishermen, housewives, and relatively higher salary earners who are in the pay-as-you-earn (PAYE) tax bracket.

The budget deficit is large and revenue proposals ambitious.

The budget takes some steps in the right direction, but overall, we consider it a mixed bag. There were no shocks as in the interim budget earlier in the year, but the extent and timeframe over which reforms will be implemented is crucial.

We have highlighted some of the key proposals below, classifying them as either Good: liberal measures that will help people, Bad: poorly-conceived proposals that may be administratively difficult and Ugly: those that will impair the quality of life and society of Sri Lankans.

There were some proposals, such as the one to strengthen law and order by building police stations, that appeared to be more in line with a police state.

We have emphasized changes in policy rather changes in tax rates.

The Good: Liberalisation Measures

The government deserves credit for restarting Sri Lanka’s halted reform program in the areas of finance and trade. The budget contains many solid proposals in this area, including the liberalization of certain trades that were previously closed, including removal of certain products from the ‘negative list’ where prior permission is needed for imports.  The proposed repeal of the Exchange Control Act is also a major step in the right direction. This signals an end of an archaic law, to be replaced by a more market-friendly exchange management process.

Land lease and ownership regulations for foreigners are also to be to be eased. The tax imposed on land leases and the prohibition on freehold ownership were viewed as obstacles to investment. These measures should positively impact investor sentiment and encourage investment. This proposal also has the potential to inject fresh capital into Sri Lanka’s now fledgling real estate sector that has taken a brow beating following the curtailing of foreign state backed development projects.

Proposals to liberalise the labour market by allowing more part-time work, relaxation of rules on contract employees (although not spelled out in detail) is welcome. Sri Lanka’s labour laws are seen to be very rigid and a barrier to investment and overall business efficiency.

Also encouraging is the outward looking rhetoric of the government, including the proposed Financial Centre, modeled along the lines of Dubai’s International Finance Centre (DIFC). The DIFC operates as a tax-free zone which essentially imports laws and judges more familiar to international investors, and a similar model could help enhance Sri Lanka’s attractiveness in this regard.

The announced open sky policy is also a welcome move that could open up Sri Lanka as an aviation hub and help tourism.

We are also encouraged by the right rhetoric in terms of promoting Start-ups and small and medium enterprises including motivations to expand access to capital.

The decision to reduce import tariffs on consumer items such as electronics, shoes and clothing is also a welcome move so that people are able to enjoy more from their earnings than sending it to the government as well as playing a role in tourist spending.

Reforming Agriculture

Agriculture sector has suffered from years of populist pandering, price controls and a host of other misguided policies that has benefited neither the farmer nor the consumer. The moves to reform this sector is encouraging.  Cash grant to small farmers in place of the fertiliser subsidy is a step in the right direction.  While we view subsidies with caution,  it is better to give the farmer an outright grant with the discretion to apply it where they deem necessary rather than blanket subsidy which may promote overuse or waste.

The over usage of fertilizer which was encouraged by the subsidies has resulted in unanticipated negative externalities such as the recent contamination of lakes, rivers and groundwater supplies. This is suspected to be the cause of kidney ailments of residents in in the Rajarata region.
 

Underutilised state land is to be leased to fruit and vegetable farmers. There are large tracts of marginal land under the State Plantations Corporation and the Janatha Estates Development Board. Allowing farmers access to this for other crops is far better than to allow the land to to lie fallow.

The budget also proposes that RPCs (Plantation companies) to be allowed more flexibility in land use. This will allow them to make better use of land uneconomical for tea or rubber greatly enhancing their economic freedom.

PPPs and State Reform

Reform of State-owned Enterprises is proposed. We welcome the fact that the problem is recognised and some attempt is being made to address it. Exiting from non-strategic holdings via the stock exchange is better than what the government policy has been for the last decade.  While we advocate re-looking at privatisation of state industries that burden the government finances and in turn the taxpayer, we welcome the moves to address this problem.

Other noteworthy proposals such as restructuring the BOI, EDB and the Tourism Board to streamline operations and grant investment approvals within 50 days is welcome.

We are encouraged by the government’s apparent willingness to let the private sector into areas traditionally monopolised by an inefficient government sector.  

Creating Special Purpose Vehicles (SPV) for state owned projects (the highways, coal plant, etc.) to attract private investment to repay debt requires further study but may be a step in the right direction.  Public Private Partnerships (PPPs) on Domestic airports,  monorail, investment zones, transport sector and developments in the proposed megapolis are all positive if carried out transparently.

The Bad

The budget text does have the customary give-aways and hand-outs as well as several measures that interfere unnecessarily in the market.

Price controls and subsidies on food items.

The Government has proposed price controls on six essential items including Mysoor Shal (Rs. 190/kg) , potatoes (Rs. 145/kg) , onions (Rs. 155/kg) , chicken (Rs. 480/kg) , packeted wheat flour (Rs. 95/kg) and dried chillies (Rs. 355/kg).

Price controls are administratively clumsy to implement and result in either goods disappearing from the shelves, lower quality goods, or the creation of black markets. This was a regular occurrence during the 1970s socialist era.   

A License-Quota regime.

Licenses are notorious for creating avenues for graft. Fifty licenses for duty free import of gold unnecessarily regulates the market place. The government should focus on dismantling current licensing regimes instead of putting up new ones.

Unintended consequences

Proposals to tax cash withdrawals will have an adverse impact on informal sectors of the economy. The  high rate (2% for withdrawals of Rs1-10m and 3% on withdrawals above Rs.10m) is designed to bring the informal sector into the normal banking system. While the objective is laudable it may hinder trade, especially among SMEs.   

The proposal to spend Rs.21bn or Rs.1.5mn for each cluster village is not clearly spelled out. This could be a license for wasting tax-payer money.

Fixing non-existent problems

The government proposes introducing regulations into certain previously unregulated markets. This includes Three-wheelers, School Vans and Taxis. One of the redeeming aspects of Sri Lankan public transport is that the free-market in private transport provision including Taxis and three-wheelers that provides a better service than most countries in the region. While the type of regulation is not spelt out in the budget speech, the government intervention could very well worsen matters.

Similar micro interventions in a mandate to register all hotels, and government subsidies for accountancy students seem like solutions in search of problems. A mandate to to have four people in a vehicle entering Colombo is also bound to be unpopular and difficult to administer.

Left unsaid

Whilst the finance minister spoke for a taxing four hours on the budget proposals, there was still much unsaid.  The budget was not explicit on what the government would do to tackle the over-staffed public sector. Nor were there proposals to put gasoline on a market-based pricing formula as was promised during the elections.

The Ugly

National Digital Identity Card.  

Whilst there is a tendency in Sri Lanka to cheer on anything to do with technology, we advocate caution on this proposal.  Little is known about the program except that it was initiated by the previous government.   For a country that’s emerging from an all powerful state,  a national security mindset, with the full extent of surveillance on citizens still unknown, people should demand more transparency and information before blanket implementation of this program. The country requires a robust debate on privacy and surveillance.

Micro interventions in the Banking & Financial Sector

Banks are asked to cease leasing operations from June 2016.

The rationale for this micro level interference in the banking sector is weak. It will be hugely disruptive to the operation of most banks with little benefit to anyone other than the non-bank financial sector.  

Similarly the directive to lend to agriculture, SME's and Women & Youth (whatever that may be) is poorly thought out. Fixing the fees on bank drafts at Rs.150 is another intervention proposed.  

We see no reason why government should be involved in these matters that should be left to the market place

 
Confusing “Canned Fish” Proposal


A buy back scheme for locally produced canned fish to be sold at a subsidised price may open the door to massive losses at Lak Sathosa. If prices are high enough supply of canned fish to Sathosa will increase significantly and the losses may exceed the amounts budgeted.

At the same time taxes on imported canned fish will be increased, which will only increase the pressure to consume the subsidised products driving up the final bill to the taxpayer.

In another part of the budget speech the Minister blames a policy at Lak Sathosa where rice was imported at Rs.75 per kg and sold at Rs.50 per kg for the Rs.8bn accumulated losses in that institution. The Minister is proposing the same policy, but for canned fish instead of rice. 

The government seems to be concerned about reducing prices for the consumer as well as protecting local industry, these two objectives seems at odds with each other.

New Government entities and unfunded programs

On education, while the government has made election promises to expand state funding of education, the establishing of yet another state university (The Mahapola University, to teach ICT, business and English) is the wrong way to go about it.  Instead of spending Rs. 3bn  on buildings for a new state university the money would better spent on improving facilities at existing ones, expanding scholarships or setting up a market-led voucher schemes for funding of higher education.

The University of Moratuwa has a well deserved reputation for excellence in ICT, the Postgraduate Institute of Management has a similar reputation for business studies and faculties of English at both Colombo and Peradeniya produce high quality graduates. Should this money be better spent on strengthening facilities or faculties at these institutions? Much like the administrations before this, the government confuses funding for education with the provision of education.

A new proposal to spend Rs 1 billion on increasing the number of police stations from 428 to 600 is not explained properly. It is unclear if law and order will improve simply by building police stations. There is no mention of the manpower that is needed and whether that adds to the burden of an already mega public sector.

In Conclusion

The many steps taken by the government to transform Sri Lanka into a more outward looking, open market are welcome. The Finance minister certainly hit the right notes on Friday, about the government’s commitment to a market-friendly policy regime, a technology-focus and the emphasis on the private sector as the key driver of economic growth.

However glaring inconsistencies takes the shine off the Finance Minister’s claims.  Continued use of price controls and a readiness to make micro-level interventions in markets is not how a thriving market economy operates.  

As a society, Sri Lankan has also been unable to move away from expecting short-term goodies from the budget statement. Whether it’s price controlled big onions or powdered milk someone has to pick up the tab, and it’s often the same people as tax payers or their children in the next generation as government racks up debt.

There are reasonable questions asked whether the budget actually could meet the  deficit target the set by the Finance minister. The elephant in the room as always is Sri Lanka’s mega government apparatus. Slow dismantling the leviathan should be the answer to the long-term untying of the Gordian fiscal mess.

Advocata Institute is a public policy think tank based out of Colombo, Sri Lanka.