Sri Lanka Free Market

Ailing rupee and Price Controls may lead to a shortage of Milk Powder

A cup of tea is every Sri Lankan’s morning mantra. This might not be the case much longer as Sri Lanka may face a shortage of milk powder as several leading milk powder importers are reported to have taken a collective decision to suspend imports. The recent depreciation of the rupee has caused a significant increase in import costs and importers say they are now unable to sell at the controlled price, hence the decision to suspend imports. The same impact will be felt in other industries subject to price controls. The pharmaceutical industry withdrew eleven drugs from the market citing similar reasons.  

The currency has depreciated by 10% in the past two months and over 20% in the past year, which will raise landed costs of  import products significantly. Importers of goods subject to price controls will continue to be squeezed as their price margins reduce and this will eventually lead to a halt in imports, like in the evident case of milk powder.

Imported milk powder is taxed at a total of 45% in Sri Lanka, with the objective of protecting local farmers and achieving self-sufficiency in milk products. Despite this self-sufficiency goal, local production meets below 40% of the total domestic milk requirement, considerably below 80% levels in the 1970s. Therefore, majority of the demand in milk products is met through imports, mostly from New Zealand and Australia. Over the last decade, in 7 out of 10 years, imports of milk powder has grown at a higher pace than the growth in local production.

Milk Powder Taxes.PNG

Additionally, in May 2018, changes to existing Price Controls on Milk Prices have raised the controlled price for milk powder to Rs. 345/400g pack and Rs. 860/1kg pack. This price control was enforced by the Consumer Affairs Authority, despite a rise in the global prices of milk. Global milk powder prices fell in 2015 and 2016 and climbed in 2017 and 2018 and now the cost of one metric ton of milk powder in the world market is US$ 3250-3350.

Furthermore, the depreciating rupee, now valued at Rs. 184 to a dollar has only continued to worsen the situation, making it more expensive to import milk powder.  “Importers of milk powder are squeezed between the tax (which raises costs), the controlled price which sets a ceiling at which the product retails, and now the depreciating rupee which further raises import costs” says Ravi Ratnasabapathy, Resident Fellow of the Advocata Institute.

The floor price encourages production which the market is sometimes unable to absorb, leading to gluts which cannot be converted to powder (the only long term storage form of milk) due to the controlled price.

A recent report by the Advocata Institute, Price Controls in Sri Lanka, emphasizes the contradictory trajectory of policies in the dairy industry. This tangle of taxes and controls comes at a cost to consumers. Our costs are increasingly becoming apparent by visible shortages of milk powder in the market.

Key Recommendations

  1. High import taxes lead to massive costs for milk powder importers. Changing this would not only mean cheaper milk for consumers, but also cheaper raw materials for downstream processors such as the biscuit or confectionery industry.

  2. The removal of the Maximum Retail Price would allow for a higher level of healthy competition among both importers and local dairy manufacturers, allowing market forces to decide prices.

  3. It is necessary that the government recognises that given the several supply constraints, the objective of self sufficiency is not realistically attainable in the Sri Lankan context. Thus, authorities should recognise the importance if imports in meeting demands of consumers and implement well-thought out measures to level the playing field between importers and domestic producers.

Panel Discussion on Price Controls - Why should they be abolished?

Ravi Ratnasabapathy, Resident Fellow Advocata Institute; Travis Gomes, Product Head Frontier Research and Dilini Jayasuriya, Managing Director Breakthrough Business Intelligence, discuss Advocata's latest report “Price Controls in Sri Lanka: Political Theatre”, that finds that consumer price controls lead to unintended outcomes including lower quality.


“Price Controls in Sri Lanka: Political Theatre”, a new report by the Advocata Institute finds that consumer price controls lead to unintended outcomes including lower quality.

To read more on Price Controls and download full report: www.research.advocata.org/pricecontrol

A video documentary: https://youtu.be/zG5hV94G7Qc


Price controls dominate political debate but may not help consumers

A new report by The Advocata Institute, titled “Price Controls in Sri Lanka: Political Theatre” finds that consumer price controls lead to unintended outcomes including lower quality. Politicians have imposed price controls on a variety of items in the belief that capping prices will lower costs but our survey shows that they are of limited value in controlling the cost of goods.

According to a limited survey carried out by Advocata, a comparison of controlled prices (over a ten month period) against retail prices as per the open market weekly average retail prices, showed that of 13 basic groceries only one (milk powder) was being consistently sold at the controlled price throughout the entire period. No one, not even the Consumer Affairs Authority (CAA), possesses a comprehensive list of items subject to price control.

Price Controls.PNG

Serious enforcement seems confined to items produced by multinationals or large corporates (milk powder, cement, cooking gas) which are administratively easier to police. In contrast, there only appears to be token enforcement in the unorganised sector. Loose enforcement prevents the most obvious symptoms of price controls from manifesting but at the expense of consumer choice and quality. Where price controls are enforced (eg: cement, milk powder) it is done so in consultation with the industry, leading to a stickiness in prices. Retail prices are slow to rise when world market prices rise but are equally slow to fall when world market prices decline.

The report also highlights how the Government’s approach to prices is schizophrenic; taxes are imposed that raise costs but the same products are then subject to price controls, supposedly to lower prices. The survey seems to indicate that price controls are of limited value in reducing costs and damage markets by preventing the supply of products rising to meet demand. They can cause significant welfare losses, a deterioration in product quality, a reduction in investment and, in the long run, higher prices.

A survey of traders indicate that 67% of retailers and 46% of wholesalers react to raids by the CAA by temporarily adjusting prices. They later revert to business as usual. Traders even claimed that paying fines for non-adherence was more profitable than retailing products at controlled prices. This was particularly true in the case of small tea and hopper sellers.

Tea and Hopper shops were subject to an arbitrary price control in 2015, but it is rarely enforced. At best, the control is useless and at worst, it works against these small entrepreneurs legitimate business activity and opens up potential for clandestine business. Advocata strongly believes that this control should be abolished.

Key recommendations of the report:

  • Little serious attempt appears to be made to impose the price controls on basic foodstuffs, particularly in the public markets. The controls encourage sub-optimal behaviour including the sourcing of poor quality or substandard items. Abolishing the controls will have minimal impact on prices while improving choice.  

  • Taxes, specifically the Special Commodity Levy and CESS play a significant role in raising consumer prices. Creating the fiscal space for simplification of the system, moving to uniform rates and the lowering taxes of taxes should lead to lower prices.

Price controls, tend to have unintended consequences and product quality can suffer
— Ravi Ratnasabapathy, Resident Fellow of Advocata and co-author of the “Price Controls in Sri Lanka” report

This report highlights that price controls are of limited value in reducing costs. They can cause significant welfare losses, a deterioration in product quality, a reduction in investment and, in the long run, higher prices. Advocata strongly believes that fostering competition and improving productivity are the best form of price control in Sri Lanka.


“Price Controls in Sri Lanka: Political Theatre”, a new report by the Advocata Institute finds that consumer price controls lead to unintended outcomes including lower quality.

To read more on Price Controls and download full report: www.research.advocata.org/pricecontrol

A video documentary: https://youtu.be/zG5hV94G7Qc


The Government should rethink price controls on bottled water

In an extraordinary gazette notification released earlier this week, the Sri Lanka Consumer Affairs Authority (CAA) imposed price controls on bottled water, to be enforced starting today (Oct 5).

Advocata notes that this decision will introduce distortion into the market possibly resulting in lower quality or shortages. As more than 120 companies battle for a foothold in Sri Lanka’s competitive bottled drinking water market, worries over unsafe and low quality products is concerning.

The maximum retail prices enforced through this gazette are as follows:

Control Price.PNG

In principle, the action of setting maximum prices on goods and services is known as a “Price Ceiling”. These are meant to “protect” consumers from being exploited.  Yet the reality may be different. A publication slated to release next week by Advocata, “Price Controls in Sri Lanka; Political Theatre” reveal that for the items surveyed price controls do not serve the intended purpose. Coupled with loose enforcement, consumer price controls in Sri Lanka have skewed the market towards a preference for lower quality products. The Price controls on water bottles, will likely to do the same.

According to a basic survey carried out by Advocata, market prices of bottled water for a 500 ml bottle, prior to the enforcement of the price control was as follows:

Market Price.PNG

The bottled water industry has 120+ entrants in the market. This means that until today, consumers had the choice of purchasing a 500ml water bottle at Rs. 45, Rs. 50 or at Rs. 80. Consumers were given the choice to buy bottled water as per their personal preferences and budgetary constraints. This is no longer the case.

In Sri Lanka, bottled water is regulated by the Ministry of Health through the Food (Bottled or Packaged Water) Regulations, 2005 framed under the Food Act No. 26 of 1980. There had not been major health and quality related concerns until 2016, where a CAA directive indicated that plastic mineral water bottling standards were enforced starting September 1, 2016 following the authority detecting several brands using low quality plastic bottles.

The likely result of the introduction of this new price control -- limiting the sale of a 500ml water bottle to Rs.35 -- is that producers have to now cut down on production costs, to reduce the final cost per bottle. Low production cost lead to the sourcing of low quality raw materials, in this case; water and plastic.  It also unclear whether the price controls also apply to glass bottles, which may be priced out of the market.

“In responding to price controls, the usual case is that producers would resort to producing low quality products in order to remain within the vicinity of the controlled price” says Ravi Ratnasabapathy, Resident Advocata Fellow and co-author of “Price Controls in Sri Lanka” report.

Advocata urges the government to engage relevant stakeholders and reverse the decision to unnecessarily intervene in an already competitive market.  

Full Remarks : Eran Wickramaratne at the Economic Freedom Summit

The following is transcribed version of the remarks delivered by Hon. State Minister of Finance at the Advocata Economic Freedom Summit on 12 October 2017.   Minister spoke about the challenges in policy implementation with regards to economic liberalization.

Thank you. I want to thank Advocata for inviting me to be here this morning and I read with interest what Advocata is doing and also about the Fraser Institute and its work, particularly work relating to economic freedom. 

I am going to make some general comments and maybe also, quickly take up some of the issues that [previous speaker] Anushka raised so that we could think about it a little bit more deeply, I guess as your day progresses. 

As you know, in Sri Lanka our issue is that the government’s stake in the economy is very big-it’s much bigger than we think. Just to illustrate it, the advocates of the right to information and me being one, very vociferously talking about it while in the opposition, and supporting the present speaker even when he brought a private members bell to parliament to get the right to information, now sitting on the other side and trying to implement the right to information, still strongly believes in the principle of the right to information, but I also realize some of the practical issues that have also arisen. 

For example, I was having a discussion with some friends the other day and I was telling them you know you don’t realize when you ask some information, that I’d rather not give it you because if it is commercially sensitive information unlike in other countries in which you are monitoring, in Sri Lanka the state is so big in the economy that if I give you that information it will affect the state institutions’ competitiveness, vis-à-vis, those in the private sector that are competing. Now something that we have never really thought about. So we have the state which has commercial entities, maybe around 250 commercial entities in the economy. 

So our fiscal dynamics don’t really support this as we move more and more towards eliminating, or minimizing the fiscal deficit. so the government is trying to create an environment in which, because of its low savings in the economy of inviting investment and foreign investment, looking at ways and means of sharing the risk and also having structures like the PPP structures and models to optimize the return on state assets. 

Unfortunately, a few years ago we had this situation where there was enabling legislation to expropriate some assets. I must say that this was a very negative signal and detrimental to the economy. The present government does not agree with what happened and steps will be taken to repeal such legislation. 

On the area of property rights, and private property rights I would say, that these must be exercised with responsibility, particularly to the environment and to negative externalities and pollution and so forth. I also happen to be the United National Party Organizer for an electorate south of Colombo. One of the frequent complaints I have, and I’ll probably receive that complaint this morning because I chair the district development council at 10 o’clock this morning in the south of Colombo, is that the private companies are polluting the Bolgoda, the Kalu Ganga and all the waterways around there, so I think we have lots of issues regarding the security of property rights and we want to basically secure property rights, but secure property rights in a responsible way. In terms of monetary policy, our government has upheld the principle that the Central Bank must have its independence and can act independently. And we have recently made sure that the Central Bank has that right. I recently was in a pre budget discussion and some of the younger, if I can call them, business entrepreneurs, one of the things they told me was the Central Bank has made some comment about real estate and that it is dampening the real estate market. I quickly leaped to the Central Bank’s defence, and what I said was that the Central Bank has every right it make that statement independently of the government because we don’t certainly want to have an Asian crisis - like a  Malaysia and Singapore situation - where the Central Bank was subsequently accused of really not acting in time. So we have a central bank which is free to act independently. 

Exports have come down as you all know, drastically as a percentage of GDP over the last 15 years. Our government’s twin strategy is while attracting foreign investment is also to encourage trade, and particularly exports. A national export strategy has been formulated and much work has been done, and we are certainly looking at implementing some of those suggestions. 

In terms of revenue that comes to government, most of our revenues are collected at the border. Whether it is the taxes on duty or other taxes in terms of efficiency of collection, are collected at the border, so more that 50% of revenue is collected at the border. About 80% of all our revenue comes to three state institutions- the customs, the excise department, and the Inland Revenue department. 

So we must liberalize trade, but we have to do this in a measured way. We must bring in anti- dumping law to ensure fair trade practices. We will have to have a trade adjustment package as we adjust particularly while these domestic industries and entities, some of which will get hurt, in our move to liberalize further. We are under no illusion, and I think in Anushka’s remarks this morning he made it clear too about the imperfections of the market, ranging from information asymmetry, weaknesses in competition and also externalities. We want to have regulation, but hopefully, smart and unobtrusive legislation- institutional  reform and a change in the mindset.

I would like to conclude my brief remarks by actually taking the four issues that were raised and also to show the complexity when we deal with these issues.

For example, Anushka said that in a recent exchange at the Ministry of finance that the industry pointed out that there was a lack of skills and if they were to try to get those skills from overseas, the immigration department would refer that to a line ministry and then it would be months before a response comes, and once the response comes and the process is completed, you may or may not have the requirement for the skill you were actually seeking. So that’s a very practical problem and I asked them then and there, what do you think is the solution. And they immediately suggested a solution- they said can’t you give the discretion to the controller of immigration and emigration to make that decision. This was just about two weeks ago. I had a discussion with the controller of immigration and emigration and I told him that he will be soon getting the power to make that decision. Yesterday I followed it up, and it might require a cabinet approval and the suggestion that came from the industry was very simple: just annually decide what are the skill sets you need, give him a list of the skill sets and then let him make the decision on the spot, review the list from time to time depending on the needs of the economy. 

Now the reason I highlighted this was, as Anushka said, our issue often is not very large disagreements on what needs to be done, but is actually an inability to implement. I think if I were to pick one thing as a priority that needs to be done it is to focus on implementation.

Often, not often, every day almost every hour, I get phone calls saying that can we have a meeting, can we discuss something and I’ve got to the point that I just do not have time in my calendar time for meetings. This is my first meeting at 8.30 in the morning and my final meeting concludes at 12.30 tonight. And therefore we all need to do some sleeping. 

So I tell people please send us a note, just a very short note with what the problem is but also include in your notes, what you think the solution is going to be. Because if I could just pick it out and send it to the relevant point of implementation, that will greatly help them and assist them and then we can monitor or get some feedback as to why it can or can’t be actually done. So implementation is actually the key. So we are open, send us a note, remember that change does not always come from the top, change often comes from the bottom because that’s where people are under pressure to change.

He also referred to the three wheelers and I really liked that, because there is this very middle class idea that “my heavens this is a menace. Can we in some way limit it or get rid of it”. Three wheelers are here to stay. They are a very important part of our economy; they are a very important part of our community. But we all understand that they need to be regulated in some way because of the undesirable aspects of that industry, too. 

We are doing it in an interesting way. If a man falls from a coconut tree and gets injured, the three-wheeler was his ambulance. If there is a road accident, the three-wheeler is the ambulance.  Until very recently, the districts of Hambantota, Matara, Galle, Colombo, Gampaha and Kalutara, until very recently there was no ambulance service that anybody could call. Unless you had private insurance and called your private hospital, you have virtually no ambulance. Today, we have a very modern ambulance service operating in all these cities; 93% of all telephone calls are answered within the first minute. And I’ve had a personal experience addressing a meeting like this, where somebody suddenly fell ill and I timed it, and it took 8 minutes for the ambulance to get that person from off the premises, on the road and to the hospital. When are rolling this out country wide, but before that it was the three-wheeler that was the ambulance. He talked about the three-wheeler being the last mile connectivity and I agree with it; I think it will always be the last mile connectivity. But the problem today is that it is not the last mile, it is the long mile. That’s the problem we are facing and that needs a change in government policy from getting off the highways and into public transport. Who cares about the high way? It is the politician that Anushka referred to, in his very expensive car. Or it is maybe some of you, who drive on the highway.   I’ve asked audiences on places I go, and ask them how many have actually driven in the highway - sometimes I get only 2 or 3 hands in an audience of 100 people. That’s the economic benefit that people have received in terms of transport. 

Of course, there are other benefits that come from a highway in terms of industry and the economy. So we need to improve our public transport and this something we need to persuade the government to do.

We have a lack of capital in the system: small savings and a lack of capital, often wondering how this could actually be handled. The government comes up with all kinds of schemes with some being elaborated on, but how do we actually overcome this problem? We are, if I could generalize, I know these generalizations are always dangerous, we are somewhat risk averse.

China is China, but China certainly does not have a risk-averse entrepreneurial culture. We are somewhat risk averse, whether it is the micro financing industry. They went with all good intentions to the North and the East and today the things they have to hear about their microfinance loans. I can understand both sides of the argument. On one side, that’s all they have- all they have, what they have is loan money and not capital. On the other hand, people that took the loans, but they actually needed some equity in their businesses even if they were female headed households but there was a lack of equity and we’ve gotten into a bind where loans have turned into equity without really intending them to turn into equity. The same is happening in small industries because of a lack of capital. 

He mentioned Sri Lankan airlines in the few comments he made on state owned enterprises. Clearly there is a problem with Sri Lankan airlines. I would like to ask the question, what should we do with it? What should we do with it? It doesn’t matter who is in charge. It doesn’t matter what the management team is. Fundamentally, is there a proposition for Sri Lankan airlines? Is there a business and economic proposition for Sri Lankan airlines in the current economic context of the airline industry? My own personal view is that there isn’t an economic and financial proposition. We need to be honest with ourselves. We need to then ask ourselves the question- how much are we willing to pay, if it brings some kind of national pride to fly the flag in the air? That’s the question we need to ask ourselves. That’s a political question, that’s not an economic and financial question. A political question needs a political answer and sometimes we have to make political decisions. But I would like to say this about Sri Lankan airlines. Sri Lankan airlines was sold eight A350 900 aircrafts-long flying, broad bodied aircrafts which didn’t fit its strategy. I think the sellers also have a responsibility, Airbus industries in France also has a responsibility. They should have taken note whether a small country like ours, with a small GDP, a small airline competing internationally should have actually been sold these aircrafts. Sellers and buyers both have responsibilities in an economy. And that is unfortunate that we have had to already pay nearly 100 million dollars, in basically terminating 4 aircrafts- still 4 aircrafts on our books today.

I would not take more time responding to some of the issues that came out of Anushka’s speech but I would like to say this. I think your conference is a very important conference. I’m particularly glad about the discussion topics that you have chosen. Exchange control liberalization, property rights, improving the bureaucracy, free movement of people and then labour market reforms. Certainly, I would look forward to the deliberations and the conclusions that you reach but please send us a note on implementation and not a report. Thank you.

Razeen Sally delivers Lecture on Three scenarios for Sri Lanka's future

Prof. Razeen Sally delivered a public lecture at the Advocata Institute, last week on Sri Lanka's future.  This is the third edition on Advocata's series of public lectures.  The full lecture is now online.  The event was done in partnership with the Echelon Magazine. 

 

From Economy Next:

Sri Lanka had windows of opportunity to change direction in the past, but had 'missed the bus' several times in its post-independence history according to many commentators.

Sally recalled something that is said often about Brazil: "Brazil is the country of the future, it always was and it always will be.

"There is that golden potential out there, but it is never achieved," Sally said.

"Of course Sri Lanka never misses an opportunity to miss an opportunity. I hope that opportunity has not been squandered. It is late in the day, but it is still there."

Sri Lanka's economy did not have enough competition with 'commanding heights' of the economy controlled by oligarchs. 

The country was in the grip entrenched political and economic interests without any new blood to bring change and competition.

"Sri Lankan economy has a competitiveness problem," Sally said. "It has a productivity problem," The way to raise productivity and to raise competitiveness is to have a stronger private sector. 

"And also to have much more globalization of the Sri Lankan economy. More trade, more exports import as well as more foreign investments.

Doing business policies had to change. A combination of domestic and private sector investment was needed to transform the economy to have 6-8 percent growth.

Reforms were needed to bring 3 to 5 billion US dollars of foreign investment. 

Sri Lanka needed simple and predictable tax policies.

"No more price controls, no more announcements of exchange controls."

A stable macro-economic policy that went beyond the IMF program, including tax reforms that were genuinely simpler and relatively low without sudden changes was needed.  Institutional checks were needed including a genuinely independent central bank with better policies.

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