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Incentives and subsidies: An overview

Incentives and subsidies: An overview:-Pakissan.comMost of countries provide various forms of incentives and subsidies to their industry to make them competitive in the global market.

A subsidy is a form of financial or non financial support extended to an economic sector or institution, or business or individual generally with the aim of promoting economic and social policy. 

Subsidies come in various forms including: direct (cash grants, interest-free loans) and indirect (tax exemptions or rebates, insurance, low-interest loans, depreciation write-offs, rent rebates). Subsidies to the producers and subsidies to the consumers are the most common forms of subsidies.

Producer subsidies ensure the improvement in the supply of commodities (or services) through market price support. It may be through direct support or payments to the factors of production.

These payments may be in direct or indirect form including provision of better infrastructures to the supplier or producers or facilities to the workers. Consumer subsidies commonly reduce the price of goods and services to the consumer.

Subsidies are commonly used by governments to promote general welfare including housing, education and payment of stipend for food.

The negative aspect of subsidies is the political use of public funds for increase in the vote bank and strengthening the corporate cronyism.

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The objective of production subsidies is to expand production of a particular product more so that the market would promote without acceleration in the final price to consumers.

This type of subsidy is predominantly found in developed markets. Other examples of production subsidies include the assistance in the creation of a new firm (by Investment policy), industry (by Industrial Policy) and even the development of certain areas (by Regional Development Policy).

Consumption subsidies are most common in developing countries where governments subsidises the essential commodities like food, water, electricity and education on the basis that no matter how impoverished, all should be allowed those most basic requirements.

An export subsidy is used to improve the balance of payment by promoting exports. It may be provided through fiscal policy by means of tax exemptions and rebates on exports or through monetary policy by reduced rate of interest on loans to the exporting firms.

An employment subsidy serves as an incentive to businesses to provide more job opportunities to reduce the level of unemployment in the country or to encourage research and development.

With an employment subsidy, the government provides assistance with wages. Another form of employment subsidy is the social security benefits.

Employment subsidies allow a person receiving the benefit to enjoy some minimum standard of living.

Tax subsidies which are also known as tax expenditures can create exactly the same outcome through selective tax breaks as through cash payment.

For example, suppose a government sends monetary assistance that reimburses 10 percent of all health expenditures to a group that is paying 10 percent income tax. Exactly the same subsidy is achieved by giving a health tax deduction.

Environmental subsidies include anything that is emitted but not accounted for and thus is an externality.

These include things such as car drivers who pollute everyone's atmosphere without compensating everyone, farmers who use pesticides which can pollute everyone's ecosystems again without compensating everyone.

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Subsidies and Market Distortion:

The Commitment to Development Index, published by the Centre for Global Development, measures the effect that subsidies and trade barriers actually have on the undeveloped world. It uses trade along with six other components such as aid or investment to rank and evaluate developed countries on policies that affect the undeveloped world. It finds that the richest countries spend $106 billion per year subsidising their own farmers-almost exactly as much as they spend on foreign aid.

A subsidy increases the supply of the good beyond the equilibrium competitive quantity. The imbalance creates dead-weight loss. Dead-weight loss from a subsidy is the amount by which the cost of the subsidy exceeds the gains of the subsidy. The magnitude of the dead-weight loss is dependent on the size of the subsidy. This is considered a market failure, or inefficiency.

Subsidies by lowering the price of a good can make national goods more competitive against foreign goods, thereby reducing foreign competition. As a result, many developing countries cannot engage in foreign trade and receive lower prices for their products in the global market. This is considered protectionism, which indicates a government policy to create trade barriers in order to protect domestic industries. The problem with protectionism arises when industries are selected for nationalistic reasons rather than to gain a comparative advantage.

Subsidies in the form of Fiscal and Monetary incentives:

The global patterns and trends clearly indicate the disadvantageous position of Pakistani industrialists and business community including agriculturists.

In conclusion I would like to give some following proposal to improve socio-economic conditions as well as competitiveness of our industry:

-- Ministry of Finance can provide subsidy on those agriculture products which are concerned with the Global Food Security issue. Food processing industry, Dairy products, agriculture equipments and machinery may be included in those products. The supply of energy and other utilities may be subsidised for food processing and agriculture industry.

-- On the basis of cost of production elasticity we can estimate the impact of yield by reducing cost of production of agriculture commodities in Pakistan by providing subsidies. If cost of production by means of subsidy decreased by 10%, the production of paddy will be increase by 2.1%, maize by 5.8, Tur by 4.9%, Soybeans by 10%, Groundnuts by 3.9%, Cotton by 4.1%, bajra by 0.6%, Jucar by 0.3%, Moong by 4.1%, and sunflower by 2.5%.

-- Inland Freight subsidy can also be covered in this clause; however, the major factor of in competitiveness of Pakistani products in the international markets is the cost of shipping. The reason behind high cost of shipping is the lack of Pakistan own shipping line.

As you aware that National Shipping Corporation has become inactive and freight outward from Pakistan is monopolised by few international shipping lines. The added charges on Pakistani products by those shipping lines and their cartelization make Pakistani products uncompetitive due to high freight charges.

-- We understand that subsidy on international transportation and logistics cannot be permitted in the WTO regime. However, it is strongly recommended to activate Pakistan National Shipping Corporation by transfer of its management and operation to the private sector.

Furthermore, Pakistani Investors should be encouraged to launch shipping line business and those investors should be supported by fiscal and monetary mechanism including subsidised rate of interest on long term debt financing.

-- Lower expenditure on health is an extreme problem is Pakistan. An average Pakistani cannot afford spending on health and medical care. The consumption patterns in Pakistan indicate that 80 percent income of the lower and middle class peoples is consumed on food, clothing and shelter related expenses. The spending on health by public sector cannot meet the minimum requirement. Consequently, general public has to suffer badly.

The survey on the causes of poverty indicates that unplanned expenditures on health and medical care is the top most cause of shifting middle class peoples to below the poverty line. In fact a comprehensive health insurance scheme is required in Pakistan to maintain availability of a minimum required level of health facilities to all resident citizens. The cost of medicines, particularly imported medicines to fight the long duration diseases is the major contributory factor of higher and unaffordable health expenditures.

Pharmaceutical companies in Pakistan cannot produce those products because of the much higher fixed expenditures on royalties and equipment etc. There is an urgent requirement to provide subsidies for those Medicare and life saving products. For this purpose pharmaceutical industry in Pakistan should be subsidised. This type of subsidy is not against the WTO norms and agreement. The provision of subsidy to pharmaceutical industry will not only improve the living standards in the country, it will also reduce the import bill.

-- Another area of importance is the plastic industry. In the modern world, plastic has become the basic commodity because of it multiple uses in common life. It provides substitute of wood, metal, natural fibers, rubber, paper, and many other things. To provide plastic goods at lower prices mean to reduce the prices of thousands goods of common use. No doubt, it can reduce the rate of inflation by multi-tier effects. For this purpose, it is suggested that basic material and primary products of plastic industry should be subsidised.

Here, it is notable that a device and mechanism should be designed for effective utilisation of subsidies. The past practices of subsidies by public sector indicate the inefficient and ineffective utilization of subsidies. Nepotism, corruption and irresponsible attitude of the policy implementers are the major causes of ineffective utilization of subsidies. FPCCI can provide its services to design an effective and efficient mechanism for subsidies.

It is important to note that in past some kinds of financial assistance were available to the exporters in the forms of Business Support Fund (BSF), Competitiveness Support Fund (CSF) and Agriculture Support Fund (ASF); now such types of facilitation either have been abolished or become inactive in Pakistan. In the absence of such facilities if government does not provide facilitation of subsidies to the producers the materialisation of GSP plus by EU will not fruitful.

Incentives & Exports: Global Pattern
Financing Instrument Share (%)
Export Guarantees 44.1
Tax Concessions 29.7
Loans 14
Grants 4.5
Interest Rate Subsidies 4.3
Others 3.4
Source: Economic Intelligence Unit, London

Incentives to Industry
Country Subsidies and Transfers Payments
===========================================================As % of total Billions US$expenditure
USA 60 1084
Germany 58 410
UK 56 319
Japan 52 354
Israel 48 23
Turkey 47 24
India 38 25
Malaysia 24 4
Indonesia 21 3
Pakistan 8 1
Source: World Bank

Patterns of Public Expenditures (% of total Expenditures)
=============================================================================Subsidies OtherGoods and Compensation Interest and other expense
Countries/region services of employees payments transfers
Bangladesh 13 22 17 37 20
India 9 9 19 62 1
Nepal 10 27 6 56 1
Pakistan 20 4 26 24 26
Sri Lanka 10 26 30 19 15
Turkey 12 24 - 52 4
United States 9 9 10 65 7
China - - - - -
World 12 22 6 48 7

September, 2014

Source:  Business Recorder;


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