Incentives and subsidies: An overview
By SHAUKAT AHMED
of countries provide various forms of incentives and
subsidies to their industry to make them competitive in the
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.
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
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
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
Subsidies and Market
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
-- 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.
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
Interest Rate Subsidies 4.3
Source: Economic Intelligence Unit, London
Incentives to Industry
Country Subsidies and Transfers Payments
% 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)
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