A counterproductive measure for sugar

Published April 19, 2021
Price controls have been a popular measure with governments worldwide, including Pakistan.
Price controls have been a popular measure with governments worldwide, including Pakistan.

Last week, Punjab fixed sugar’s price at Rs85 per kg, prompting ‘advice’ from the Competition Commission of Pakistan (CCP), which stepped in to remind the provincial government that it was violating the Competition Act 2010 passed by the parliament.

“The Commission by virtue of its mandate is compelled to caution (against) and explain unintended consequences of putting a price ceiling,” says a policy note issued by the CCP immediately after Punjab’s decision. “The law clearly prohibits capping the price and charges all stakeholders to promote competition in the market.”

Price controls have been a popular measure with governments worldwide, including Pakistan. They, however, have distortionary effects on the market — on demand (consumer) and supply (farmers and millers) sides — and entail economic and administrative costs that are harmful in the long run and outweigh the short-term benefits.

In the past, fixing the price at Rs40 per kg pushed it as high as Rs100 per kg

“Rather than price ceilings, the deregulation of the sugar market would be a better and sustainable option to promote free trade mechanisms where price signals can be effectively conveyed to all stakeholders to attract investment, increase competitiveness and reduce distortions in local supply,” recommends the report.

The report suggests that price controls “rarely work and fail to protect intended beneficiaries”. The negative implications, short- and long-term and direct and indirect, far exceed their benefits. As Punjab is the only province to set a price ceiling, one of the effects could be that sugar moves to other provinces where no price ceiling exists and can command a higher price. It could also encourage hoarding by suppliers or impulsive buying by consumers which will likely result in a shortage in the market. The shortage can directly affect price and consumers may end up paying even more.

On the production side, mills do not operate at an equivalent level of efficiency. Factors such as economies of scale, labour, equipment productivity and access to crop vary between different mills and give some mills a competitive advantage over others. Thus, it may not be possible for all of them to produce sugar at the same cost. Imposing the maximum retail price could mean that some mills, which purchase cane at the minimum support price as fixed by the government, may not break even.

Punjab may remain mindful that the benefit of price-fixing, particularly at the time of Ramazan, is also likely to go to the industrial (purchasers of 70 per cent sugar) consumers and those with the wherewithal to capture such benefit, not to the poor population.

In addition to the economic costs of price controls, there is also an administrative cost of it. The monitoring of such a decision to ensure that only those who are truly affected by rising prices benefit requires the involvement of the entire bureaucracy with no guarantee of success.

Price controls have a direct distortionary effect on the supply-demand equation. Pakistan’s experience with price controls provides sufficient evidence about the futility of such measures. In 2009, when superior courts fixed the price of sugar at Rs40/kg, mills maintained that for them to break even, the minimum price ought to be at least Rs48. Within months many mills stopped operations resulting in a severe shortage and prices, at times, reached as high as Rs100. Thus, a measure whose objective was to ensure sugar to ordinary consumers at affordable prices resulted in the opposite outcome.

On the basis of these facts, the CCP concludes that most of the problems in the sugar sector stem from “over-regulation and lack of competition.” If the market is deregulated, with free entry and exit, regulations and repeated interventions are not needed. In open market competition, even mandatory crushing laws are not required. These laws weaken the price signals in the market and have led the farmers to over-invest in cultivation and the millers to maintain higher stocks than required. Therefore, the issue is not whether a government must intervene to set prices but how distortionary signals can be prevented for farmers and millers.

The past practice of imposing import tariffs of 40pc on importers does not let them respond to the changes in the world market. This also shields the domestic sugar industry from competition in the international markets. In periods of excess supply, the millers get export quotas and subsidies and in periods of shortages, they make profits in the domestic market.

Pakistan’s protection of the domestic industry through tariffs and subsidies has not allowed it to develop the necessary capability to compete in the world for by-products (like ethanol), for which demand is stronger. A more efficient policy may be considered, which would consider all factors, including domestic exigencies as well as international reality and direction. This would be in line with the federal government’s desire to achieve effective deregulation.

Better options for Pakistan than setting a price ceiling lie in deregulation, removing subsidies and ensuring competition in the market.

When regulations consistently fail to achieve desired objectives (fair prices and competition), it is perhaps prudent to reconsider them — or even scrap them.

Competitive pricing in the sugarcane market would enable the growers to analyse alternate choices. Competitive pricing and removing restrictions on imports and exports (without subsidies) would give sugar producers market-based incentives to enhance their productive, technical and allocative efficiencies as well as focus on the necessary research and development to improve the sector.

The savings from subsidies would enable the government to focus on the growers instead of millers. An incentive-based system wherein farmers are paid based on quality may also

be introduced and effectively executed. Punjab may consider the viability of non-price interventions at the farm level such as introducing a revenue-sharing policy between millers and farmers as some of the states in the world do, the report concludes.

Published in Dawn, The Business and Finance Weekly, April 19th, 2021



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