Dr. Sharmini Cooray, one of the Advisors to the Sri Lankan Government on the IMF, at the 73rd Anniversary Oration at the Central Bank made an interesting comment: “Lots of Sri Lankans say nothing works in Sri Lanka. That’s not true. Things work well for a small group of people”.
Unfortunately, Sri Lankans do not understand how things are set up to work for a small group of people. The common narrative is that corrupt individuals created the system we are in today, but the stark reality is that the economic system has been set up in a way to incentivise corruption of individuals.
Misdirected anger is then projected on individuals, forgetting that the system itself creates the corrupt individuals. This is not to say that the individuals are completely absolved of responsibility; a part of the responsibility lies on the individual, yet without fixing the system we cannot fix individuals.
Below are a few examples of how the current system works for corruption.
Last week, the President, as the Minister of Finance, issued a gazette notification to increase the Special Commodity Levy (SCL) from Rs. 0.25 (25 cents) per kilogramme to Rs. 50 per kilogramme overnight. The problem here is twofold; it creates the possibility for corruption that incurs a cost to the consumer, but also ensures that the Government loses tax revenue.
Information symmetry
Information symmetry or availability of information for all players in the market is very important. As the finance minister increases the tariff by almost 5,000%, if one importer gets to know of this decision before it is enacted, he can easily import adequate stocks for about a year at Rs. 25 cents per kilogramme before the festive season. The other players’ prices now simply become uncompetitive because their 1 kg of sugar has to be at least higher than Rs. 49, given the tariff rate imposed overnight.
As a result, small and medium sugar importers will be wiped out from the market as they simply cannot compete when one or a few players have already imported enough stocks at a tariff of 25 cents. Accordingly, now the rest will have to import at a tariff rate of Rs. 50 per kilogramme.
That is how things are made to work only for a small group of people. One of the main criticisms of the Gotabaya Rajapaksa Government was that the sugar scam was done in a similar manner.
Most importantly, the tariff increase on sugar will not generate revenue for the Government because adequate sugar has already been imported. After about a year, it is just a matter of another gazette notification for the finance minister to bring the tariff back to 25 cents and claim that the relief has been provided for the betterment of the poor.
Benefits for a select group
Ultimately, a select group of people are benefitting with the support of politicians. The truth is that the lost tariff revenue will be collected from the poverty-stricken by increasing indirect taxes such as VAT.
This is one reason this column constantly highlighted the need for keeping a simple tariff structure with menial deviations among HS Codes as well as over a period of time. This is just one way how things are worked out in favour of a select group.
As a result, negative public perception will grow, with a misunderstanding of markets to the effect that all businesses are run on the same operating system. In reality, the system affects other businesses very negatively due to a lack of a level playing field.
The solution is to change regulations where any tariff lines cannot be imposed solely by the minister of finance. It ideally has to go through Parliament and keep the tariffs on HS Codes simple and consistent. The more we complicate it, the more we incentivise corruption.
The need for a competitive system has to be institutionalised. The best governance system is making sure competitiveness remains stable. We can only do that by removing laws empowering policy-makers that further information asymmetry and providing more power to the people so the market system continues.
Tax shenanigans
Not only have we increased the SCL by 5,000%, our VAT has also been increased by 3%. When we observe the VAT rate changes, the threshold changes over the last five years is very concerning. By doing so, we have violated the tax principle of ‘stability’ by changing things too often. Once we make a mistake at the beginning, correcting it retroactively is not easy.
The VAT increase may have been introduced to compensate for the Rs. 20,000 salary hike for the 1.5 million Government employees. To make things politically digestible, an attempt may be made to increase the VAT before the Budget in order to announce it via a press release, along with a big salary increase for Government employees. On top of it, the system of vehicle permits and many perks are how things are facilitated for a small group of people.
The simple truth is that in order to make governance work, we have to make markets work. Governance is the system of making markets work and ensuring a level playing field. The moment we deviate from the markets, there is no way we can keep governance going.