Is import substitution all that bad?
I am always hesitant to comment on the Budget. This is for two reasons.
Firstly, preparation of the Budget is a time consuming strenuous task which involves meticulous planning, patience, consultation, compromise and consensus. At the end of a lengthy process the Treasury is expected to present an appealing, balanced budget.I equate this process to preparation and presentation of a bride by the bridal dress designer. Budget review is similar to the bridegroom’s impatient merciless speedy job of undressing the bride. I did this merciless job some 40 years ago. Secondly I studied economics nearly 50 years ago. I have long forgotten both – “Mata mahalu vayase-Beriya vena gayana pera se”.
But, concerns expressed by Dr. Koshy Mathai, the IMF representative, on the eve of his departure followed by several eminent senior economists worry me.
Their concern was that Budget 2014 indicates a shift towards import substitution. It appears that mere mentioning of import substitution has sent shivers up the spine of some (fortunately many are not left with a spine today!).
Import substitution is a strategy that is used to reduce imports with a view to curtail foreign dependency of an economy and to replace imports with domestic production. Those who are critical of import substitution argue on the following grounds:
nImport Substitution (IS) and Export Promotion (EP) are mutually exclusive; developed countries especially in East Asia have achieved the present status through adopting EP strategy. IS derails export promotion.
nIS makes the products costly, low quality, inefficient and uncompetitive.
nIS creates shortages, queues and high prices; and
File picture of hundreds of imported vehicles at the Hambantota port. Most cars are imported with only a few companies here engaged in producing vehicles with imported parts.
nDisastrous experience during 1970-77 era.
They take the view that developed countries including East Asian countries achieved their present developed status through adoption of Export Promotion Strategies (EPS). Most western countries, during the stage of development, enjoyed a high degree of monopoly in their products through industrial revolution, innovation and technology development. There were hardly other competitive products available in the market. They could, therefore, afford to canvass for competitive liberal economic policies. But, today with improved transport modes and facilities, explosion of IT and the access to technology an intense competition among export products have erupted.Countries are competing with each other for export products (of course except Sri Lanka where there is a competition for imports among traders and buyers). Most of the products are not demanded for their functional value what was called ‘utility’ by economists but for “extras”. See the following advertisement carried in a Sunday paper:
“Alloy wheels, Tiptronic, Leather interior, Electric memory seats, Rear power door, Zenon lights, Blue tooth, Push start, Fully loaded, with panoramic sunroof, Side reverse camera, TV/DVD, 6 speed, Automatic transmission”. All references are on accessories but not on the product – the vehicle.
Developed countries adopt IS to protect their industry during the initial infant stage. But, even today after reaching the world’s largest economy status they protect their industry. The concept of GSP+ cannot exist in a free trade world. It is alleged that the US economy protects its arms industry and promotes arms sales through creation of conflicts within and among countries. Australia and New Zealand has banned dairy product importation.
There is not even a HS code (Harmonized Commodity Description and Coding System) for those products. Japan discourages rice importation with an 800 per cent tariff for imported rice while India protects its dairy products with a 167 per cent tariff.
Once I was flying Air India. All food provided on board was of Indian origin. My teeth were strong enough to taste (perhaps detest) a hard piece of Indian processed cheese. Today, India with a population of 1.27 billion can be proud of its flourishing dairy industry.
Sri Lanka adopted a protective IS during the 1970-77 period. This had prompted the emergence of many domestic industries. They were weak, inefficient, and uncompetitive; the cost of production was excessively high and the quality of products was low. With the disastrous experience of ISS during 1970-77 period, the JR Jayawardene regime moved to the extreme opposite and opened the economy to the world. ISS was replaced by EPS. The market was flooded with imports; shortages and queues disappeared. But, the domestic industry which, by then, had not yet achieved a superior level of competitiveness was completely wiped out. Before manufacturing begins to rationalize and scale increased in a few leading industries the economy was opened.
It is claimed that the introduction of EPS has resulted in manufacturing products taking the lead among exports replacing primary products. But the reality is that the export structure remains unchanged; having implemented the EPS for 35 years, the country is still struggling with exports with an ever widening trade deficit. It is true that the manufacturing exports have come to the top of the export list. But, this is due to one single industry- the apparel industry. It is no secret that the apparel industry was introduced and nourished by one dedicated man. The apparel industry is the success story of late President Ranasinghe Premadasa and certainly not of the EPS.
IS creates shortages and queues. IS restricts market operation and consumer choice. During the 1970-77 period, I used to stand in queues to buy 2-3 SMA cans for my infant son. I had to register my marriage to buy a suit length and a sari for the wedding. The picture today is much different. Any item in any quantity in any form is available. But, the availability does not guarantee affordability and accessibility. What fraction of our population can afford to access most of the imported goods? Further, recent media reports revealed that public health, consumer affairs and local government authorities have conducted raids and discovered many imported food items not suitable for human consumption; some products which were rejected or condemned and have well passed the expiry date had found their way into Sri Lankan consumer market. It was not long ago that some milk food was banned by the authorities. There are many issues relating to imports of chemicals, fertilizer, medical drugs. Too many vehicles on the road cause congestion, delay and accidents. According to Motor Traffic Department sources, there are 5.3 million (which is equal to the number of families in Sri Lanka) vehicles registered in the country. On average there is a vehicle per family. But, the reality is displayed on the road side. Many are waiting long hours for a bus in the hot sun. Bus shelters, trees and walls which provided cover and shade have given their way to the city beautification process. Many health, pollution and safety issues connected to imports are daily reported. Incommunicable diseases connected to imported (so-called junk) food are on the increase.
All the evils in implementation should not be used to denounce the concept of IS. However much the IS is good as a concept it could get ruined in implementation. It is not possible for every country to be equally competitive in every industry. It is essential that a country should focus on some industries that can be highly successful. Industries with comparative and competitive edge would need protection at the infant stage.
This protection comes from IS. It is natural that countries protect industry the way parents protect their infants until such time they are ready to go out to the world.
Economics deals with human behaviour which is diverse and unpredictable. No economist from the time of Kautilya came out with a universally-accepted-all-season development theory. So much water has flown under the bridge after Adam Smith referred to a metaphorical “invisible hand,” which will move markets towards their natural equilibrium and Alfred Marshall’s Principles of Economics. Economic theory and concepts have grown over the time to address contemporary issues. It is unfortunate that some of our senior renowned Economists are still glued to economic theories invented in the 18th Century and in the West.
IS and EP are not mutually exclusive; they are complimentary to each other; one cannot discuss “either” and “or”; they are components of a single policy package. It is not advisable or feasible to apply bits and pieces of that package. There is no pure capitalism or pure competition in the world.
Nowhere in the world would one find a market operating on perfect competition except at an Irida Pola (Sunday Fair). The invisible hand is no longer effective. Governments play a significant role in the economy. The Keynesian theory provides a greater rle to the government. During the 2009 economic crisis, the US government and the Federal Reserve came to the rescue of the banks and the industry in the guise of “Bailing Out”. Billions of dollars were pumped into the economy. Nature, level and the degree of protection is decided by governments and not by the market forces. Granting GSP+ and its withdrawal was a government decision. Whether other countries including Sri Lanka should or should not buy oil from Iran is not determined by the market. It is decided by the US government. The role of Government and the policies and regulations made by policymakers can benefit or adversely affect the competency of a country and an industry.
In this background it is meaningless to discuss and argue the pros and cons of IS or vice versa EP. IS should not be discarded as a single policy measure. IS should be used appropriately and wisely along with other components of a holistic economic policy. What is wrong is not the presence of Import Substitution Strategy but the absence of a Holistic Economic Policy.
(The writer can be reached on chandra.maiyadde@gmail.com)