So far so good. Enter the political economy. Debate has already begun on providing support (read protection) to Hulas Motors so that it would produce more such cars fit for the high-level government officials, thus allowing it to achieve economies of scale and finally make it competitive and affordable. As the argument goes, there would be some form of “network externality” which would make the vehicle affordable to mass consumers. The company is suggesting that the excise duty levied on the vehicle manufactured by the company is a silent killer and that it was on the verge of collapsing. Therefore, as the argument goes, there is a need to protect this domestic company.
Being a student of international trade and a close observer of Nepal’s multilateral trade obligations, I was tempted to investigate further and see how, if at all, the government could provide protection to the company in a transparent manner. My findings, based on my experience and a brief investigation followed by discussions with my colleagues, are presented below.
First, it might be tempting to reduce, if not waive, the excise duty imposed on the vehicles. It has been recently learned that an earlier government has already done so, and there could be a demand for further reduction of the duty. This option can be hugely popular because what we would be doing is to provide a “level playing field” for a national industry by penalizing foreign goods. However, when the decision was made, politicians and bureaucrats at the helm of Ministry of Finance were probably oblivious of the fact that their action falls foul of the “national treatment” provision of the WTO. This provision, among others, requires all the member countries to provide equal treatment to “like products” whether domestically produced or imported from other WTO members.
This means that Nepal cannot charge different domestic taxes for products based on their country of origin once the goods have cleared the customs by paying appropriate customs duties and charges levied at the border. Violating a WTO provision means that we would be dragged to the Dispute Settlement System of the multilateral trade body, and we are sure to lose the case. The clear implication is that we have to either decide to lower excise duty for domestic as well as foreign vehicles, or restore the status quo ante.
I sympathize with the dream of the managing director of Hulas Motors who may have a plan to transform the company into a viable entity. Convincing his family members to start using the vehicle would be a humble beginning rather than asking for further support from the government (read taxpayers). Charity, after all, starts at home.
Second, the government can provide subsidy to the industry without violating the WTO provisions because as a least developed country, Nepal is not barred from providing subsidy to the domestic industry and the same treatment does not need to be accorded to foreign vehicles. However, the problem with this decision is whether or not it is the best use of the government’s resources that could go into building schools or hospitals or supplying food to prevent famine in some parts of the country.
Even if industrial policy argument is invoked, we should be clear on whether we should be providing subsidy, if at all, to a vehicle manufacturing company instead of tea, coffee, ginger and large cardamom producers, who have the potential to contribute immensely to the economy due to high value-added content as well as reduce our ballooning trade deficit.
Third, government can make use of provision of the Public Procurement Act to ensure that at least the vehicles for public sector should be purchased from Nepali suppliers. Here the tricky issue is that suppliers need not be a manufacturer; even importers of vehicles made in other countries are eligible to supply such vehicles. Although there is a mandatory provision in the Act that requires public procurers to provide a 10 percent price advantage to Nepali suppliers, Hulas Motors so far has not been able to obtain contract for supplying vehicles to the public entities for two reasons.
First, the company has targeted its products to a niche area (mainly for hilly regions) and not necessarily for supplying them to public offices located in urban areas. Second, despite the price advantage of at least 150 percentvis-à-vis imported vehicles based on customs duty, excise duty and VAT currently imposed on imported vehicles, it has not been able to supply such vehicles to them so far.
In theory, it is possible for the government to amend the legislation, provided the multilateral donor which had helped draft the new Procurement Act of the country does not create a hurdle and include a provision which mandates use of “made in Nepal” or “assembled in Nepal” products, to the extent they are available in the market, in all public procurement supplies. This does not contradict our WTO commitment because Nepal is neither a member nor an observer to the Government Procurement Agreement of the WTO.
However, there is a moral argument that a company which is unable to compete even after getting at least 150 percent preference over foreign made vehicles should not be provided further protection. This is because the cost of this would be borne by the public sector institutions, which are, for all practical purpose, financed by taxpayers. The real question is whether or not it is morally justified to pass on the higher cost to them when foreign vehicles could be competitively supplied in the market at a much lower cost. Moreover, given the fact that Hulas Motors will remain a monopoly supplier of the product in the foreseeable future, who is going to prevent it from earning super normal profits by charging higher prices to the consumers due to the “market power” created by virtue of such provision in the amended legislation?
Fourth, the government can refund the duties imposed on the imported raw materials used for the vehicles again invoking the industrial policy argument and without violating the WTO provisions just the way export-oriented industries are favored. However, if the government resorts to this action, it will open the floodgates for rising demand to protect other industries selling predominantly to the Nepali market, resulting in dwindling of government revenue.
I can fully understand the arguments advanced in favor of providing further protection to a domestic industry. I also sympathize with the dream of the managing director of the company who may have a plan to transform the company into a viable entity. Convincing his family members to start using the vehicle would be a humble beginning rather than asking for further support from the government (read taxpayers). Charity, after all, starts at home.
Finally, given the predicament highlighted above, it is up to the government to decide whether it wishes to choose a populist path or make a rational decision in a transparent manner without violating our international obligations and/or creating major distortions in the economy.
ratnakaradi@yahoo.com
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