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Commerce Commission: helping or harming the poor? Professor Wadan Narsey

18/03/2012

Recently, the Commerce Commission of Fiji (CCOF) has been quite belligerent in the exercise of its powers, supposedly to protect consumers against price exploitation.

The CCOF has imposed price controls on selected food items, hardware items, medicines, inter-connection rates between telecommunication companies, and even on bread.

Where the industry is clearly not competitive (such as with mobile inter-connection rates), such regulation can and probably has had some positive results.

But where industries are reasonably competitive, price controls can have many unintended negative consequences for the poor, possibly outweighing the benefits.

Unfortunately the CCOF cannot crack the really tough nut:  what is the “acceptable rate of profit or mark-up for businesses, in a high risk economy like Fiji?”.

Some ineffective regulation can easily be reversed by future changes in policy, but some measures and approaches may harm the business climate and economy for years.

Hardware and pharmaceutical items

   The public has seen on TV the CCOF staff, mostly very junior, charging into hardware merchants’ offices accompanied by policemen, carting off mountains of documents, while demanding costs and prices data on thousands of items.

While the CC claimed to have evidence of markups of up to three thousand percent, the public have seen no data on what exactly these items were, how many such items, and the average markup for all the items combined.

Nevertheless, the CC charged ahead and set all  kinds of price controls- some fixed percentage mark-ups and some maximum prices.

Similar processes were followed with pharmacies and the thousands of items they sell.

Do these measures really help the poor?

Unintended Effects

   Price controls, whether in dollars and cents, or percentage mark-ups, can work in certain situations, but also have inherent weaknesses.

Different items for sale have very different turnover rates: some move  fast, some very slowly.  But once bought and paid for, items sitting in the shop have carrying costs.

Items that do not move fast, have higher carrying costs, and require higher mark-ups for a “reasonable” profit to be made.  Faster moving items can have lower mark-ups.

Retailers react very rationally to price controls.  If there is a fixed percentage mark-up applied to all items, those items which do not show adequate profits, will simply not be sold, harming the poorer consumers.

Some retailers who previously would have searched for cheaper products of quality simply won’t. Why bother? The same percentage markup on the items will simply mean a lower dollar profit.

If there is a fixed maximum price, several outcomes possible, apart from transfer pricing.  To maximize his dollar margin, the retailer will look for the cheapest product, regardless of quality.

They will sell lower quality tools or building materials; or cheaper but lower quality medicines from developing country companies which don’t follow strict health and safety standards.

If the profit margins are too low, wholesalers and retailers will not buy in bulk (carrying costs are too high), and the natural result will be occasional or frequent shortages.

It is always the poorer consumers who will suffer: the rich will get the quality they want, when they want it, at whatever price the seller wants; as the rich do everywhere.

Strange Price Control on Bread

The bread industry in Suva and the larger towns is very competitive, with many small bakeries and one or two large ones.

The small bakeries produce only the high volume items, such as the long loaf and buns; they generally pay poorer wage rates; often do not abide by labor and health and safety requirements; using cash transactions that leave weak paper trails for FIRCA, they also manage to pay lower income taxes than the larger bakeries with formal accounting systems. Small bakeries can charge lower prices and still make adequate profits.

The larger bakeries sell not just the high volume items such as long loaf, but also specialist products, which have lower demand and require variable profit rates; they tend to follow higher union wage rates as well as abide by other labor laws such as maternity leave, FNPF payments etc. which further eat into their profits.

If the Commerce Commission imposes the same price control on high volume bread products, they inevitably discriminate against the larger bakeries.

If the profit margins on particular items shrink to unacceptable levels, the larger bakeries must stop producing those items.

Can the Commerce Commission lawfully force a producer to produce something they find unprofitable?  The Commerce Commission apparently thinks so!

Always An Unequal Battle

   The CCOF may have a manageable battle (barely) regulating industries where there are just a few large players and only a few products- such as the banks, insurance companies, or the mobile giants.

But it is a Herculean task to take on hundreds of wholesalers and retailers, and thousands of products, every month, every year.

With most products being imported, product prices keep changing every few months, with changing prices in source countries, and with changing exchange rates.

These businesses employ hundreds of accountants and other staff who get personally rewarded if they manage to maximise the company profits, legitimately (or illegitimately) in the face of price controls.

The favorite tactic to evade price controls is transfer pricing. Foreign suppliers can be told “give me a higher supply price and deposit the margin in my account in your country, or else I will go to another supplier who will”.

It is impossible for a few junior inexperienced CCOF staff to successfully monitor all these changing costs and transactions every few months.  And they don’t get paid any extra either, if they succeed in the rare case. Often, they may be “paid off” to not succeed.

The Commerce Commission will always face a losing battle.

The toughest nut to crack

   To set any price control, the Commerce Commission must decide:  what is the acceptable rate of profit or mark-up for the product?

In a safe stable environment, businesses are quite comfortable with low mark-ups and lower rates of profit.  But in a high risk economy where there is a risk of coups, devaluation, foreign exchange controls, and arbitrary decrees, all businesses, require higher rates of profit, just as banks want higher interest rates on risky loans.

Unfortunately, while the government of the day will want low mark-ups to help the poor and the country, investors and businessmen are not here to serve the country, but their own pockets.

If their requirement for an “acceptable rate of profit” is not met, the good entrepreneurs who can deliver quality products, will simply leave. What the country will have left will be businesses who are not dynamic, have low expectations, and have nowhere to go.

An inhospitable business environment?

   The continuing media censorship hides the reality that Fiji’s intimidated business community feels dismayed by the unreasonableness and apparent arrogance of the Commerce Commission of Fiji.

The CCOF is not able to meet CEOs of multinational companies; senior businessmen are made to feel as if they are criminals; and businesses are spending huge amounts of time providing information on thousands of products, all with marginal returns to the CCOF.

The average investor feels, why bother operating in Fiji, when there are so many other more hospitable and more profitable places in the world?

Small businesses are also disheartened when they see that select powerful business people are able to have their monopolistic products exempt from the price controls.  Why focus on the bread maker and not the noodle maker?

Are some businesses “more equal than others” in this Orwellian world of ours?

The way forward for CCOF

   The CCOF should clarify whether its Chairman (Dr Mahendra Reddy) is really an “Executive Chairman” doing the full-time work of a CEO (while also holding down an equally onerous job as a Dean at the Fiji National University).

No doubt, Dr Reddy, as an academic economist, finds the CCOF job intellectually challenging and exciting enough to do it for little pay.  But this is not a sustainable long-term solution for an important institution such as the Commerce Commission of Fiji.

The Commerce Commission should focus its limited human resources on the monopolistic sectors and follow basic economics: only interfere in the market if the “Marginal Benefit to Society” is greater than the “Marginal Cost to Society”.

Have a go at the mobile companies which unashamedly steal millions from consumers  who give them interest-free money up-front for “pre-paid” cards, but don’t use their money by a particular date; while engaging in deceptive price discount gimmicks.

Have a go at the insurance companies which the RBF has badly failed to regulate.

Target a few major high volume consumer items only if there is a lack of competition.

To be transparent and accountable, the Commerce Commission should present hard data to the public justifying their price control measures.

Who knows, there may even be cases where prices are even higher after price control?

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