The Costs of "rent-seeking"

A central theme of this blog is economic inclusion and the need to do away with rent-seeking behaviours.  In the article I last posted, I argued that people feel they are unfairly suffering the pains while not benefitting equitably from the gains.

The rising cost in Malaysia is partly a consequence of these inefficiencies, where a few people are extracting the resources of the country at the expense of many.   The Edge last week carried an excellent analysis of the auto industry in Malaysia.  It is also a very good example of the rent-seeking behaviour that this blog seeks to highlight and articulate against.  We would like to share a couple of these articles in this blog with you, reproduced with the permission of The Edge.

The Edge Jan 6, 2014, issue
The opportunity cost of having a national car

Malaysia received RM2.2 billion in automotive FDIs between 2006 and 2012, while Thailand got RM22.3 billion. 


 

Malaysia and Thailand both have automotive industries that started in the 1960s, assembling mostly Japanese marques for the domestic market. However, during the 1980s, they took different paths in pursuing their respective industrialisation agendas. Malaysia took the less travelled path by setting up its own national car programme with Proton, while Thailand opened up its market to all. The rest, as they say, is history. In 2012, Thailand produced 957,623 units of passenger vehicles and 1.53 million commercial vehicles for a total of 2.48 million units, out of which over one million units were exported.

In terms of domestic sales, Thailand hit 1.3 million units in 2012, versus Malaysia’s 569,620 units. Compared with Thailand, Malaysia’s vehicle exports remain lacklustre at about 20,000 units a year.

So, what went wrong? Many experts blame the malaise in Malaysia’s automotive industry on the government’s auto policy that revolves around protecting the national car.

Since the establishment of Perusahaan Otomobil Nasional Sdn Bhd (Proton) in 1983, Malaysia has not been able to keep up with Thailand, and more recently Indonesia, in getting foreign direct investments (FDI) for the automotive industry.

Between 2006 and 2012, Malaysia’s automotive industry only attracted RM2.2 billion in FDIs while Thailand received a staggering RM22.3 billion.  The high level of automotive FDIs received by Thailand translates into a large production base, dominated by Japanese and American car makers. In 2012, Thailand’s automotive assembly capacity was 2.78 million units yearly, with Toyota Motor Corp the largest assembler with a 700,000 annual capacity.

In February 2012, Toyota announced plans to add another 200,000 units annually to its production capacity in Thailand by 2015. Mitsubishi Motor and Isuzu will add another 100,000 units a year each to their annual capacities of 400,000 and 220,000 units respectively. Suzuki, meanwhile, will add another 65,000 units in capacity, to produce 200,000 units by 2015.

On the other hand, Malaysia’s total production capacity stood at about 960,000 vehicles per year. As Malaysia’s total industry volume was only 627,753 units in 2012, this means the industry is facing severe overcapacity, producing at just 65% of installed capacity.

The overcapacity issues rest mainly with Proton and its huge but underused facility in Tanjung Malim. In comparison, Thailand’s plants were running at 89% capacity as in 2012.  The national car programme in Malaysia and the resulting two-tier mass market coupled with a high excise duty structure have also been blamed for high car prices and high household debt among Malaysians.

According to Bank Negara Malaysia statistics, almost 26% of the total household debt of RM784 billion borne by Malaysians was for car loans. Along with the agenda to promote the national car programme, with Proton needing the critical mass to survive, much of the government’s resources and planning priorities have been channelled towards building expressways and highways to support the vast growth in private vehicle usage, at the expense of improving the public transport infrastructure.

The price to pay for a poor public transport system is that the government is also forced to keep fuel prices low through subsidies as private vehicles have become a necessity for Malaysians.  The funds spent on expressways and highways as well as the annual allocation for fuel subsidies could have been better utilised in other productive areas such as education, public transport and healthcare.  Supporters and promoters of the national car can deny it all they want, but the facts clearly show that the consequence of the decision to start Proton in 1983 has been a very costly one. The country has not been able to achieve the sizeable automotive industrial base, capacity and capability that Thailand has achieved.

While Thailand welcomed the world, we chose to protect the one.

Unfair pains and unequal gains

This year will be about the rising cost of living.

Whether it is the price of petrol, sugar and electricity, toll rates, property taxes or the implementation of the Goods and Services Tax in 2015, they will be catalysts for a general rise in prices.

Higher prices have a compounding and escalating effect. The higher cost of one item can lead to an increase in the prices of many other items. Employees will then demand higher wages, thus further escalating costs.

The fact that people believe their costs or prices will rise is sufficient to prompt sellers or suppliers to demand higher prices. Economists term this as rational expectations.

Where this spiral will lead to is anybody’s guess at the moment.

Personally, I believe the effects could be a lot worse than just a higher cost of living.

As costs escalate, it will impact the country’s exports, current account, national reserves, interest rates, exchange rates, employment, equity and bond prices, and consumption — literally, the entire economy.

Already, people are unhappy, and this has led to protests. Almost inevitably, the pain will intensify and protests will grow. Where will this lead to? Why are the people so unhappy? Can they not understand that the country has limited resources? Is there a way out?

Although no one likes to suffer pains or pay more, people do know how to make choices. They are willing to pay for what they want or need. They know they have to pay for electricity if they want to light up their homes. They have to pay for the roads they use and the food they consume.

People understand the need for good governance, prudence and living within their means. They know there are limits to subsidies. They understand the need for financial responsibility.

So, why are they upset?

I think there are at least three reasons.

Firstly, their EXPECTATIONS were dashed.

For many years, they had the impression (indeed, they were often told publicly and at political rallies during elections) that the government was able and willing to help pay their bills (yes, subsidies) in exchange for their votes. It would be reasonable to suggest that some citizens might feel there is a “social” contract on this.

Their disappointment is reinforced by the fact that there is a convergence and sudden increase in the prices of so many items, and all shortly after last year’s general election.

Secondly, they feel the prices they are asked to pay are not FAIR.

In other words, they are not getting value for their money. We know value and price do not necessarily equate. Are they right? Are they paying too much? A thorough analysis will be helpful. I suspect it is both true and false, with sufficient evidence to support both conclusions. There is no question that our electricity rates are subsidised, for example. But it is also a fact that due to the various monopolies in the economy, many of our costs are excessive. The construction cost of our roads, for example, is high by international standards.

Many of our goods and services are monopolised to serve the interests of a few members of the elite. The people, by and large, have no say in who and how these contracts are given. Yet, the burden of subsidising this elite group of businessmen falls on the people.

Thirdly, it is about EQUITY.

Is the pain fairly shared? The hardcore poor are assisted and the rich can afford the higher prices, but is the urban middle class forced to carry the bulk of the burden?

Businessmen have exemptions to capital gains, tax deductions on all sorts of expenses and makes foreign exchange income.

On the flip side, urban fixed wage earners are pushed against the wall, with rising costs, a falling ringgit and skyrocketing property prices. They are also forced to provide private education for their children despite having little avenue to earn extra income.

This feeling is further compounded by perception.

They read about multi-billion-ringgit projects, multi-million-dollar homes in the US and London, private jets and luxury yachts. Some of these are paid for by the very government that is telling the people that they have to tighten their belts.

Meanwhile, Kuala Lumpur City Hall is proposing to spend 27% more than last year. And the people are asked to pay up through higher assessment tax. They are told it is good for them because it reflects the appreciation of their property values. This irony is not missed by many people.   

The people are also told they must pay more to ensure the government’s financial wellbeing and maintain the country’s credit ratings.  

But for that message to be effective and accepted, the preachers need to explain how they are also contributing EQUALLY to the cause. Leadership is also about humble servitude, and words without actions are hypocritical.

Besides the daunting task of making sure that price increases do not spiral out of control, I believe we need an honest and credible response to the question of whether the pain we are going through will be shared fairly by those who lead and those who are led before we start the journey of healing.

Our divided nation must heal to move forward.

We must find ways to get out of the middle-income trap and the declining standard of our education as well as reverse the brain drain. We need to build a middle ground where we can talk about sustainable fiscal policies, about rolling back subsidies and making our economy more inclusive and efficient.  

And we need to share any pain or gain fairly.