Saturday, January 25, 2014

EFN Asia 34: Chatib Basri on Subsidy and Protectionism for the Poor

My first exposure to international and regional free market network was in 2004. First in the US in April-May that year when I was one of the International Fellows of Atlas, then in Hong Kong September of that year, during the Economic Freedom Network (EFN) Asia Conference 2004, sponsored by the Friedrich Naumann Foundation (FNF) and co-sponsored by five Beijing- and Hong Kong-based institutes.

Among the great presentations in the HK conference was one by Dr. Chatib Basri, who was then a faculty member of the University of Indonesia and individual member of EFN, now Indonesia's Finance Minister.

This is his first slide after the title. I remember my eyes brightened at these clear and erudite words from two of the intellectual giants of the free market literature.

 The two questions that his paper wanted to explore and answer...

He presented short-run impact of eliminating fuel and electricity subsidies, which actually benefit the non-poor.

These slides are interesting, about bribes given by the public to certain government officials and bureaucrats as regulations are plentiful, complicated and costly.

There are alternatives for the poor if fuel and electricity subsidies are removed -- scenario 3. In the table below, the signs of scenarios 1 and 2 are mostly negative while scenario 3 are mostly positive. Meaning there is better result, better impact for GDP growth, for exports volume, and for employment generation, if business bureaucracies are reduced, if the economy is deregulated and liberalized.

Then he proceeded to answer the question, "Is trade protection good for the poor?" He noted that poor people are net consumers of rice. Based on a paper by McCulloch (2004), out of Indonesia's 51.35 million households (in 2003?), 9.69 million (18.8 percent) were net rice producers, 3.36 million (6.6 percent) were rice producers but are net consumers (ie, their consumption is larger than their production), and 38.33 million (74.6 percent) were non-rice producers.

He discussed the three models of trade protection.

1. Interest group model -- Government will supply protection in order to maximize their personal wealth and/or client loyalty. On the demand side, industries seeking protection.

2. National Policy model -- Government provide protection for non-economic objectives such as distributional consideration and employment.

3. Grosman and Helpman model -- Trade protection is the result of bargaining between government and various lobby groups. Industry will form a lobby that manages to increase the domestic price of the goods from which they earn a profit. And politicians take advantage of trade policies as a source of income to fund election campaigns.

The math of G-H model and its independent variables are:

* Ratio of domestic output industry i to total import industry  (z)
* Import demand elasticity (E) 
* Dummy of capital intensive sector, to make a distinction between labour and capital intensive sector (the poor mostly work in labour intensive sector) (I)

The result is shown here.

So, who benefit from protectionism?

* Protection is given to the sector with high-level import penetration.  In addition, sectors with high capital intensive were benefited from trade protection.

* Within the agriculture sector: there is no statistical evidence between trade protection and wages

His conclusions:

* There is no evidence that fuel and electricity subsidies benefited the poor (except some to kerosene).
* Elimination of subsidies if compensated by reduction of cost doing business (corruption) will help the poor
* There is no evidence that trade protection benefited the poor.

Loud applause greeted him after he spoke. Bright man, clear mind.

See also: 
EFN Asia 19: Chatib Basri as New Finance Minister of Indonesia, May 21, 2013

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