August, 30, 2022
Blunt policy tools, a far cry from the 'social market economy’’ proposed by the President and reformers in the opposition.
Extraordinary Gazette No 2294/30 of 23rd August 2022, issued under the Import and Export Control Act No 1 of 1969 by the Ministry of Finance temporarily suspends the importation of over 300 items. This move tightens already existing import restrictions on imported goods while completely banning the importation of goods ranging from chocolates, and household appliances to raw materials such as aluminium bars and rods. This policy change comes into effect in a market that is already facing acute shortages of essential goods. Imposing such a suspension of imports will have a significant negative impact on an economy which is already facing a severe crisis.
The import ban is presumably due to shortages of foreign exchange. These arise from macroeconomic imbalances and must be addressed through tight monetary and fiscal policy. To curb excess demand the government needs to close its deficit by reducing non-essential spending and capital expenditure and raising revenue, particularly focusing on new streams of revenue including asset disposals. Better monetary policy is already showing results, fiscal policy must follow suit.
The proposed import ban will put a significant number of businesses that are dependent on imports in a difficult situation. The most crucial impact will be on Micro, Small and Medium Enterprises dependent on imported inputs for their production process. The livelihood of street vendors, businesses dependent on selling raw materials and the construction and apparel industries will face severe hardship as a result of these import bans. Also affected will be Sri Lanka's tech industry as a result of the ban on the importation of electronic equipment.
Net economic losses in the wider economy will increase as this restricts competition. These economic inefficiencies will have to be borne by consumers through higher prices, fewer jobs and reduced economic activity. This will add to the country’s economic woes and lead to new black markets and corruption. This will also negatively affect exports as some important items needed to produce exports need to be imported.
Therefore the current policy is counterintuitive. Investments will move away from exports to import substitutes and non-tradable goods sectors. Moving towards an export-oriented economy is the only plausible answer to the country’s severe woes. Import restrictions and similar bans will hamper such a transformation. Professor Prema- chandra Anthukorala, a renowned expert on trade policy said the following in a recent conference organized by Advocata “In an economy where anti-tradable bias has underpinned vulnerability to the crisis by building up a massive debt overhang, it is necessary to combine ‘expenditure reducing’ policies with policies aimed at ‘expenditure switching’ from non-tradeable to tradable production in the economy. Therefore banning imports will only aggravate the nontradable bias, preventing the transformation into an export-oriented economy.”
Instead of depending on import bans and quantitative restrictions with a myriad of exemptions that only distorts the market, the government should move towards a more uniform tariff structure abolishing the ‘para-tariffs’ that have contributed to the anti-export bias in the economy. In order to face the challenge of forex shortages, the tariffs can remain temporarily high in accordance with the WTO rules. This will be a step toward the ‘social market economy model advocated by the President and the reformers in Opposition. Current policy is a decisive step back from this model.
Price Controls
As reported in numerous media sources the Consumer Affairs Authority has imposed price controls on the eggs by colour, after examining ‘costs’. The CAA slammed price controls of 45 rupees per brown egg and 43 rupees per white egg. Such market interventions have failed numerous times over the last two years. As highlighted by us through numerous policy outputs, the imposition of price controls to address equity concerns instead of undertaking the hard reforms needed to create competitive markets is counterintuitive. Our experience over the past few months illustrated the adverse impact of price controls on the economy, which lead to their reversal. This is because price controls create distortions such as shortages, rationing and the creation of a black market as well as substitution towards low-quality alternatives.
Although governments often introduce price controls with the intention of protecting the poorest consumers in society, they are very inefficient, as a means of redistribution. Often these subsidies are biased against the poor as they consume less of these goods than the rich. Further, sharp increases in prices could have negative consequences on low-income households in the short run. Ideally, such price increases should be made gradually so consumers can adjust to them or be able to shift to cheaper alternatives.
The Advocata Institute calls for the immediate reversal of both policy decisions. The government has taken some steps to address the macroeconomic imbalances and highlighted a commitment to economic reforms. This needs to continue and be supported by a consensus for economic reforms. Market interventions in the form of price controls and import bans will dilute the impact of economic reforms and delay macroeconomic stabilisation.
Key Points
Advocata is an independent policy think tank based in Colombo, Sri Lanka. We conduct research, provide commentary and hold events to promote sound policy ideas compatible with a free society in Sri Lanka. Visit advocata.org for more information.
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