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Price fixing by governments does more harm than good

In a little over a month-long nationwide lockdown, multiple cases of price gouging have been reported in the media. Small retailers are being penalized for hiking up the price of goods such as lentils, meat products from as little as NRs 10 up to NRs 50 per unit. With increasing complaints from the public, many local governments have taken price-fixing measures. These measures may assure the public that they will not be swindled by retailers. However, there is more than meets the eye here. Continue reading

Bidhyalaxmi Maharjan

About Bidhyalaxmi Maharjan

Bidhyalaxmi is working as Research & Communications Assistant at Samriddhi Foundation. She is a Master of Arts student at Madan Bhandari Memorial College.

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Maximum Tuition Fee Limit Regulation That Backfires

In advocating for equal access to quality education in Kathmandu valley, Ministry of Education (MoE) has recently devised the regulation to set maximum limit on the tuition fees of private and boarding schools based on official categorization of the schools and the grade standards they conduct. While the maximum tuition fees limit per student studying at 9th and 10th standard for grade-A school is set at NRs 3,600, the tuition fee limit is set varying for other schools belonging to different category for the grade standards they conduct.

Given that the appeal for this price/tuition fee control is justifiable in order to make sure that quality education as a fundamental need of the society is affordable to all income holders, the side-effect of such restrain regulation that distort the balancing mechanism of the market is unfathomable and historically observed. Simply take the cliché case of maximum rent price regulation practiced in different cities of the world that brought the entire tenancy housing market into dire straits. New York City stays as a classic example whereby setting maximum rent price below the usual market price at tenancy housing market not only disturbed the incentive to supply enough apartment to meet the growing demand for it, but it also resulted to degradation of housing quality as house-owners could not afford to upgrade and maintain the housing standard while depending on below feasibility rent revenue. Alas, it led the city to only offer the fiasco of inadequate-barely livable residential housing thanks to rent price control legislation.

Importantly, it is necessary to recognize that the disastrous unintended consequence of rent price control has less if any to do with the unique characteristics of the housing industry of a particular city, but more if not all to do with distortion of the governing market fundamental (i.e., price) that allows the supplier of a particular commodity to supply it in a particular quantity and in quality as demanded by the market.  Similarly, in implicating the distortion of same market fundamental or price in the private education market in Kathmandu, the exact same horrendous consequences are likely to be observed.

At first and foremost, when private schools are forced to depend on limited tuition fees set by the maximum limit regulation, they are also forced to invest limitedly on infrastructure maintenance, upgrade, and in adopting innovative education practice in order to break-even. And, if the legislation prescribed tuition fees or the revenue is below what the market would offer, investment on increasing the education related infrastructure and the quality of the education will also be below the pace of what price liberalized private school market would have offered. And henceforth, the quality of the private education system is more likely to be compromised.

Likewise, the ability to charge below-feasibility maximum tuition fees as per the regulation shall also discourage new investment in private schools enough to meet the demand growth of private education possibly triggered by the guardians who are encouraged to transfer their children from public schools. A research from Samriddhi Foundation clearly states that cost structure and initial investment outlay for opening schools with infrastructure required for meeting Grade-C category cannot be feasibly fulfilled by the maximum tuition fee limit set for them. Therefore, a rational investor willing to make profit will not have incentive to establish schools of such category in order to meet the growing demand of private school education. Given the widening gap in supply and demand of private school education as the consequence of this regulation, the motive of this very regulation to make private school education affordable to normal people can instead backfire. With virtually no growth in number of private schools in compared to demand for it, the supply-shortage will rather create an underground economy whereby people with better connections and willing to pay more money off the table are more likely to get their children admitted at private schools while the marginal ones are left out.

This directive on setting maximum limit of tuition fees can be a costly constraint on growth of private educational institutes of Nepal. The directive meant for ensuring quality education to all at affordable prices, in itself can be a major factor hindering the growth of educational sectors. There are numerous reforms required in Nepal regarding its quality of education. In current scenario, the government must instead focus on improving the quality of public schools and not on decreasing competitiveness among private schools affecting its quality and lowering the possibility of low income household children to get a quality education.

 

Ayushma Maharjan

About Ayushma Maharjan

Ayushma Maharjan pursued development finance as part of her undergraduate education. She is currently working as the Research and Communications Officer. She has been focusing on writing blogs and articles and has been researching on contemporary economic issues of Nepal. She aspires to craft conducive reforms through evidence-based policy making and redefine the policy discourse in Nepal .

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Rule by (Making) Law… That’s what they mean

On august 16, Bizmandu published a very bothersome news which paints a bleak picture of the business environment in Nepal. A Himalayan Java (restaurant) employee had been apprehended for black marketeering. Here is what happened:

A customer orders a bottle of water… as per the price on the item menu, he is charged Rs. 130 for the bottle of water… the customer thinks he is being over-charged, following which, he lodges a complaint at the nearest police station…the police apprehends an employee of the restaurant…The owners are then asked to present themselves before the police (one of them has to make it back all the way from the US)… the employee is released by now… the owners are then forced to pay a fine of Rs. 75,000 to bail themselves out as professed by the CDO of Kathmandu, Mr. Eknarayan Aryal.

This particular case raises various questions like:

• Is this offense by the authority justified?
• On what basis were the restaurant owners charged?
• Should the price be determined by the government? If so, on what ground? Does the government’s intervention and price control have real benefits?

“The Black- marketing and Some Other Social Offenses and Punishment Act, 2032 (1975)” explains the process of the determination of the wholesale and retail prices of the goods. It further goes on to talk about the punishment in the case of violation of the Act. However, no clause defines the process of price-determination in case of a service; in this case, the bottle of water being sold by a restaurant. In this regard, the CDO has rightly remarked that there is no clear policy; however when questioned on what ground, the restaurant was charged a fine of Rs. 75,000, he reverted back to the same Act. Now, this raises concerns on two fronts. First, if a specific sector doesn’t fall under the jurisdiction of a certain Act, is it legal to charge the sectorial entrepreneur on the basis of an irrelevant Act? Second, there is no provision of charging the guilty a sum of Rs. 75,000, not even in the case of the sectors that fall under the Act. So, on what ground did the authority fine the entrepreneur?

This Act shows that the authority thinks it is above the law. Today, it fined somebody Rs. 75,000; who will stop it from fining somebody a sum of Rs. 500,000 for a crime that is not even committed (as per the law)?

The government has intervened between the producer and the supplier and has tried to set the price. But on what basis has the government tried to do so? If the customer at a restaurant himself cannot decide how much value the restaurant is offering him, how can the government suddenly determine how much value is being created for the customer? So, the setting of the price by the government is not really justified. It cannot just set the prices neglecting various factors in the market!

Looking superficially, the price control may seem like a nice action from the government, but there are many unintended consequences it can bring along. First of all, it reduces the profitability for the entrepreneurs. This may very well lead many of them to exit the industry in addition to discouraging new entrants which may cause a shortage in the market. The consumers will then have to queue up to get a service, pay black market prices to get the service faster, or pay high price for mediocre service. And that’s still not all that there is to it. When the market is set free and the prices are not controlled, the service providers compete among themselves to provide better services in cheaper prices and you never know the market price may fall well below the government mandated price while the services get better and better. Moreover, the producers that charge higher prices get less customers and vice versa. The customers always have a choice not to go to a producer that charges too high for his liking.

When the price is determined by repetitive interaction between the producers and consumers, both are better off. The transaction will only occur between the two if both find it profitable i.e. if both find they are getting something that they value more than what they are giving up; or the transaction would not take place at all. So, it’s a mutual exchange of benefits.

The government, by making intervention strips down the benefits of the mutual exchange in the free market. The government, by intervening, like in the case of Himalayan Java, only negatively impacts the economy and risks stagnating the economy.

Ashesh Shrestha

About Ashesh Shrestha

Ashesh Shrestha is an independent researcher. He has an Economics background and is interested in Monetary economics and Public finance.

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In Defense of Profits

bishalbazaarIn late September, a few shops in Bishal Bazaar came under Department of Commerce’s scanner. Shops were found selling goods at prices much higher than their cost prices. It is unfortunate that the businessmen obstructed the monitoring and went in as far as shutting down the entire complex in order to protest the department’s move. This also earned them a lot of infamy in the public domain. However, much of this hue and cry over how businessmen were sucking life out of poor Nepalese people, ‘anarchy of businessmen’ and the likes that followed the incident were mostly unnecessary.

As a country that practices liberal economy, what is even more unfortunate is that the government has been excessively reluctant in letting go of the ages-old practice of the controlled-economy. It has adamantly held on to its four decade old regulation that bars businesses from making any profit exceeding 20%. This is outright mockery of the ‘economic liberalisation of 1990s.’ Why else is it that there is no black-marketeering when government imposes a 300% plus tariff in private cars and suddenly there is black marketeering when a private businesses make a profit of 21%? In no way is it a liberal economy when the government tells you how much profit you can make out of a transaction.

But of course, the government imposes such heavy taxes in order to give back to the people, right? Not quite. 65% of the Fiscal budget goes to financing administrative expenditure. Government’s annual revenue is lesser than its administrative expenditure. So, NO, not taxes and other sources of government revenue do not finance development in the same sense that we assume that revenues collected by government will come back to the people. On the other hand, the profits made in free markets do.

No businessman hoards all of his profits in a locker. He consumes other services, invests somewhere or saves his profits through banks and other financial institutions. When he consumes a good X, the producer is making money and the suppliers of the raw materials are getting jobs. This even creates new job opportunities as demands increase. Investments create economic benefits to the society. Even his savings propel economic growth as that is a capital that some other individual can acquire from banks and financial institutions to kick-start his new venture. So other than the amount that a businessman saves in his locker for some unforeseen circumstances in the future, all other profit he makes is channeled back to the economy and that multiplies the wealth of the society. This is the unseen side of the marvelous thing called ‘price’ and the profit it helps generate.

And the misguided notion of consumers being fleeced by businesses in the aftermath of free-markets is the least of my worries. In a free market where the government does not interfere with prices and the profit margins that service providers set for themselves, the transacting parties work-out a fair deal for both of them voluntarily. One can always bargain with the service provider to get a service at an affordable price. But in no way is an individual entitled to an affordable service. If I cannot afford a suit at Bishal Bazaar, that is not the place for me. I better explore alternatives such that my wants fit my budget. If I still think that I cannot have a regular tailor do my suit and I go out of my budget to fulfill my want, then that is a trade-off I have made between the satisfaction of a Bishal Bazaar-tailored suit and the added work-load that I have to take on, to cover for the expenses. There is really no connection with the cost price of tailoring a suit. It is all about the value I see in a commodity.

Liberal economy and profit control are incompatible with one another. Profit is an amount that a consumer is willing to pay to a service provider over the cost price of the same commodity/service to transfer the ownership to himself. A price is a value that a consumer puts over a commodity. Nobody can be forced to buy something that gives him no value in return. Similarly, nobody ought to be forced to limit his profit to an arbitrary figure if the other party in the transaction is willing to pay for it.

There are other things like cartel, adulteration and anti-competitive practices that the Department of Commerce should be looking to curb, if it wishes to protect the consumers’ welfare. But in no way should profits ever be on their list.

Akash Shrestha

About Akash Shrestha

Akash Shrestha is a researcher at Samriddhi Foundation where his focus areas are investment laws, public enterprises and education.

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How you pay as much as the government wishes!

petroleum cross-subsidyWe know that government cannot give something to us unless it takes that something from somebody else. Somebody always pays the price. Reflecting upon some of the decisions made by Nepal Oil Corporation (NOC) regarding prices of petroleum products, whose NOC is the sole importer and supplier in Nepal, shows how government can completely disregard law in order to make this happen. Let us look at the case of one of the latest price hikes in petroleum products in Nepal.

March 14, 2014, Nepal Oil Corporation hiked the price of petroleum products in Nepal (reducing it again by some portion after a couple of days that followed). We will not delve into the numbers thus reached, but rather restrain ourselves to the mechanism by which this decision was made.

There are a few procedures that a Public Enterprise (PE) or the government has to follow before making a decision. The authority of decision-making must be allowed by an Act (a parliamentary legislation, setting out legal principles.) To our dismay, there is no such thing as Nepal Oil Corporation Act till date. Yes, a PE that does over Rs. 100 billion worth of business a year i.e. a fifth of the fiscal budget, is not guided by any Act.
But this is only the tip of the ice-berg. In cases like these, whenever a decision has to be made by the government or a public institution, it is done by publishing a notification in Nepal Gazette. But as it later unfolded upon digging into the archive of Government Gazettes, no such notification was published before the price hike. After some more research, it was found that the Board of Directors, under the chairmanship of the Secretary of Ministry of Commerce and Supplies forwarded a proposal to the cabinet asking for a permission to hike the prices of petroleum products. Cabinet approved! Prices rose!

Now here is the problem with that – Can the government then arbitrarily set any price for any service it provides? Of course, there was a rationale behind the move. The prices of petroleum products surged in the international market and NOC had to make some kind of adjustment. NOC bears huge loss on sale of LPGs and makes up for a portion of that loss through profits made on sale of petrol and kerosene (and sometimes, diesel.) But when a government monopoly cross subsidizes its loss to cover up for its inefficiency and lack of financial planning, it is the people that actually pay. It makes no economic sense when a government corporation controls price to run on loss worth hundreds of millions to billions of Rupees per month (see the table below). Besides, who gives the government the authority to put a fine on a person who rides to his office on a motor-cycle and cooks his food on electric cookers to pay for a hotel/restaurant or some other household’s consumption of LPGs? A few more things – when one allows the government to give it something, it also allows government to take something from the itself; who decides what is best for all? And on what basis? Wherein lies the limit of government discretion? These are some questions for ideological debate. But while the debate is on, no one can undermine the need for some reform measures.

NOC needs to adopt sound financial planning. Stealing from one to give to the other has to end. NOC should therefore switch to Automatic Pricing Mechanism in the distribution of petroleum products. Once price control is removed, there will be prospects of profit-making for the private sector as well. This will bring in competition in the industry and market will drive the prices. Then, it will be those who use a service that pay for the service. Drafting an Act that gives room for market forces to act freely would be a positive first move.

NOC’S Estimated Profit/Loss Position based on IOC Price, Effective from 01 July, 2014

NOC's monthly profit and loss position*Source: Nepal Oil Corporation

 

Akash Shrestha

About Akash Shrestha

Akash Shrestha is a researcher at Samriddhi Foundation where his focus areas are investment laws, public enterprises and education.

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Why fair-price shops are actually unfair

Image source: Ekantipur.com

Image source: Ekantipur.com

Once again with the festive season at our door steps, the government’s intervention in the market and our daily lives is clearly visible.  Owing to the fact that particularly during this season the economy becomes more vibrant and the players in the private sector try to increase their profit by engaging in unscrupulous activities, one of the many ways through which the government tries to check this behavior is by setting up fair-price shops across the country.

Although, the government does this with good intentions, the same has not necessarily translated into good results. The previous year, the government set up fair-price shops to provide salt, sugar, rice, ghee and other commodities at subsidized rates to the people. Nepal Food Corporation (NFC) also took to selling goats. NFC bore a loss of NRs. 3.7 million selling goats last year and the allegations of corruption that made it to the headlines in the distribution of goats clearly indicate government inefficiency in doing business. And yet, the government plans on doing the same this year as well. Year after year, the government incurs losses, creates avenues for corruption and does not really help the customers—how fair is their do-gooder business model then?

The rhetoric of the government of Nepal being a free economy is contradictory to its action owing to the fact that fixing price is not a sign of a free market economy at all. Last year the government hue and cry about the implementation of maximum retail price (MRP) on essential products. As it turned out while a handful of big shops in urban centers went ahead of MRP, endless small shops across the country were unaware of the decision which meant the decision to implement MRP went largely unaccounted for, unimplemented and unregulated.

The government plans to open up fair price shops at seven locations in the valley and about a dozen others all over the country. The question that pops up with around 26 million population being spread across 75 districts is that–do these few fair price shops cater to the needs of all the people across the country? And is it really fair to subsidize the commodities of urban citizens with taxpayers’ money when majority of the people in rural areas, never get benefitted by it? Definitely not. Looking back, price fixation in the previous year did not work well and very few people benefited from it. So, in that case, how is it going to be any different this year?

It is quite clear that the government isn’t good at running business and there are several reasons for it. First and foremost government is run by politicians not businessmen and we know that the only goal of politicians is to get re-elected and their intentions are mainly focused in pleasing the people for short term. Things that would be beneficial to them in a short term could become a disaster for the economy in the long term. Politicians are constantly trying to prove themselves to people and are encouraged to do so with policies that bring more harm than benefit. Even if not doing anything would be the best option politicians opt to make rules and regulations puts them in the headlines.

Similarly, an undeniable fact is that government doesn’t have capital to invest; all it does is tax people and use their money for doing business which it is not good in the first place. Private sector, on the other hand use their own capital and resources to create wealth by providing goods and services that people choose to consume and use. When a government run business fails, it is ‘us’ who suffer mainly because we are denied of the promised goods and services which we paid up for in the form of tax. On the flip side, when a corporation fails it is either a group of investors or an individual who is at loss; for a consumer even if a corporation fails there are always other options to choose from which does not happen in the case for monopolistic government-run businesses.

Another reason why government should not be running business is its nature of being a monopoly and not being competitive. Examples include Nepal Electricity Authority, Nepal Oil Corporation, Agriculture Input Company Limited and several other public enterprises. Nepal Food Corporation providing goods at a lower rate subsidized by the government keeps other competitors out of business which eventually lowers the number of private goods and service providers limiting the options for general people. Because of this very reason the sight of long queue for fertilizers, petroleum and other products provided by the government has been regular throughout the year.

If the government really wants to help the people and check the private sector it needs to build a strong monitoring and evaluation system with set standards in discussion with the private sector which would be a better way to go about.

So, this festive season when you see fair price shops and see people lining up to get goods at a subsidized rate ask yourself how fair are the fair prices shop.

Koshish Acharya

About Koshish Acharya

Acharya is a student of social sciences and has been associated with Samriddhi, The Prosperity Foundation for the last three years.

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