Hurting to help: Why government must review consumer subsidies


Shadrack Muyesu

National budget is defined by two things – lavish figures, which are usually an improvement from the previous financial year, and deficit. It’s almost cultural for government to spend way more that she earns in GDP. Its trite practice too for the deficit to increase when all expenditure, including supplementary allocations, has been factored in. This financial year kicks off with a 7.2% deficit. With a looming expansion of the Executive and ongoing industrial action to push for higher salaries, the signs are that it won’t be any different.

And not that it’s a bad thing. In fact virtually every country on the planet is powered by debt – African countries more so. The problem arises when this debt is, as in our case, bad debt.

Expanding the tax base

To curb this trend, a raft of solutions has been proposed. Among others, government has been urged to promote economic growth and Foreign Direct Investment (FDI), reduce opportunities for evasion and avoidance, and ensure an equitable distribution of tax burden amongst citizens. Calls to minimise wastage and expand the tax base grow louder by the day with new frontiers (for tax) such as environment being suggested.

Unfortunately while well designed tax policies have the potential to shore up the budget, when implemented alone, there is little guarantee that they can stabilize the economy – not in the long-term. Overall, there needs to be a shift in development policy towards market liberalisation and self-sustainability. The country needs to correct trade imbalance then fund further growth using surplus. Ideally there also ought to be a change in government model to something smaller and more autocratic. As I have argued elsewhere (see an article Why “developed” will remain a dream: The script we all seem to be missing) Liberal Democracy as a precursor to economic development is slow and therefore not best for application where quick development is required.

No plan

As it is there is no plan apart from mitigating shortages in the short term. Government is either too afraid of the political repercussions of hard hitting economic reform, too lazy to see through a long term reform strategy, too selfish to lay a foundation for prosperity in future at the expense of its own popularity and the glory of government at that future time, or simply uncreative. I learn towards the last.

Government action is typified by several things. The 1st is government driven growth. At independence government sought to maintain control through national corporations and a huge social welfare spending.  Unfortunately for the former, poorly run and without a profit motive, national corporations have been nothing but a black hole into which public funds disappear.

Furthermore, when mismanagement eventually brings these corporations to the brink of collapse, the usual reaction has been with huge financial bailouts and/or writing of debt. Hardly are the managers held accountable or legal proceedings towards asset recovery initiated. Such an environment delivers nothing more than an endless cycle of wastage.

Third is the arbitrary revision of commodity prices and wages, especially in the run up to elections. In a market economy, wage amendments ought to be the function of the forces of demand and supply. Contrary to what is hoped for, which is putting money in the pocket of the small man, increasing the minimum wage in an environment of low production only leads to a demand pull inflation. This in turn widens the already negative balance of trade. Higher inflation rates erode purchasing power, making it less likely that consumers have excess income to spend after covering basic expenses such as food and housing.

Crowding out

The preferred way out of this mess is to decree a lower price for consumer goods and provide consumer subsidies. An intervention should be one that affects either the supply or the demand side – not both. Subsidising production is best for long term growth. In our case, however, Government not only affects the supply, it also alters the money that can be spent on those goods (demand). In some instances it also makes some forms of trade illegal. The best example is in agriculture. Farmers benefit from subsidised inputs and above-market prices from government. This forces millers to offer even more attractive prices to compete with government for farmers’ maize stocks. This puts inflationary pressure on consumer prices, which forces the politically correct government to further subsidise consumption.

The result is a basket of goods selling at much lower than their market value, which is not bad until we remember that subsidies are funded by taxes. More subsidies would mean more taxes; unfortunately Wanjiku is used to subsidies. To plug the budget deficit therefore, government is forced to borrow.

Furthermore consumer subsidies are very expensive, and when incorrectly applied, they hardly have the desired benefit. Subsidising fertiliser has, for instance, not helped smallholder farmers. This is because they face huge costs in accessing the fertiliser. On average, they travel up to 40 km to get to the nearest depot. On top of this, the quantities used by smallholders aren’t big enough to incentivise them to access subsidised fertiliser.

The country is broke. Hopefully we now see this as a result of government’s poor prioritisation. More importantly, we must appreciate our role in the mistakes that it (government) has made so far and that is our addiction to affordable goods and short termism.

Though they will cry, remove subsidies

The starting point is understanding what consumer goods are. Consumer goods are final goods. They are only purchased for consumption. Unlike capital goods such as property land and equipment, they cannot be used later for production. Borrowing to spend on consumption rather than capital is like taking a loan for a lavish spending. It is senseless to any business man, so why should it be any less so to the national function?

Spending on capital on the other hand has the net effect of increasing production. This means more industries, more jobs, more wages and more money in the pocket which increases the tax base naturally. Yet this does not mean initial spending on large scale infrastructure as government has been doing. Rather, it means agricultural investment which would increase produce, correct the export- import balance and provide money for later investment large scale infrastructure. Its benefits are more immediate and quantifiable.

The smartest way to finance agricultural investment is to do so by raising money internally through the removal of consumption subsidies. Important commodities may be expensive in the short term but if wastage is lessened, the money saved would more than make up for the budget deficit and finance more production. Going forward, it would be easier to increase taxes when people have more to spend. ^


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