SUSPENDING ECONOMIC LAWS CAN ONLY END BADLY

Tanzanian President John Magufuli last month decided that his government will buy all 220,000 tonnes of the cashew nut crop because the market was not giving his farmers a fair price.

He has bought the crop at almost double the market price and incurred an unbudgeted $320m.

Tanzania’s output account for under five percent of world production so it is unlikely that this development will move the needle on global prices to ensure the government breaks even.

And this comes at precarious point for our southern neighbour because with a reduction in the nuts’ exports the currency can be expected to depreciate, which is not a good thing as a$66m Eurobond payment is due in March. It will cost more in local currency – a further drain on the treasury to meet the country’s obligations.

"Populists and anti-free marketers will be toasting the president for his action and his political approval ratings may even jump to historical levels. But when the dust settles down the high fiving and back slapping will go with it...

Magufuli is trying to subvert the law of supply and demand because it is not convenient for him. In simple terms the law dictates that prices will rise and fall according to supply. When there are shortages prices go up, when there is too much of anything around prices will fall.

We may fault him on the nature of his intervention but he probably has no choice but to intervene.

The fault is in his government and those before him, who refused to face the cyclic nature of the cashew nut market squarely.

Throughout history politicians have tried to defy the law of supply and demand, because it did not suit their purposes or threatened them politically, often blaming it on foreign conspiracies to unseat them.

But Tanzania will learn this course of action is expensive – see the hit the exchequer has taken already and often causes the same problem you were trying to avert – in this case, a collapse of the cashew nut industry.

It seems global cashew nuts have fallen due to lower demand from India and Vietnam – big producers in their own right, but also reduced demand from Iran which is suffering trade sanctions.

Dar es Salaam had two choices both hard to swallow, either they let the farmers take the loss and may the best survive, which might have been a disaster as most of the farmers are small holders and therefore the industry’s collapse will be felt among more households.

Or do as they did and try and prop up the price for the farmers, although now they are stuck with a crop they cannot sell for a profit, in fact they are facing a 50 percent loss if they sell at market prices.

The aforementioned populists and anti-free market proponents will argue that that’s what governments are for to protect their people from such vagaries out of their control.

"What they don’t say is that the funds committed to this subversion of the free market have to come either from diverting funds in the budget, which may hurt social services, infrastructure development or other support to the productive sectors of the economy, or by printing more money, which will invariably trigger inflation which will affect the productive sectors, harm tax collections, which will affect service delivery – the dreaded vicious cycle....

What the populists are not addressing is the question of what happens if prices remain depressed next year and the next, then what? They say the market can remain irrational longer than you can remain liquid.

And if you think about it farmers will develop a kind of moral hazard. Because they are shielded from the market forces their incentive to be efficient – to produce more with less, is diminished and not only that whenever there is a problem they will expect the government to step in. Not a recipe for growing a globally competitive industry.

The solution is simple but not necessarily easy.

Clearly the market has to be restructured which is a medium to long term venture.  Tanzania needs to incentivise processors to set up there. These can provide a better price than that that the export markets will give for raw cashew nuts. As they should also support these producers market their output locally, regionally and even abroad. Incentivising processors and subsiding marketing costs is a more efficient use of resources than buying nuts from farmers at inflated and unsustainable prices.

While the market is the best creator of wealth, It is true too that it is the worst distributor of resources – to those who have more will be added on to them. Wealth distribution is the role of governments But for governments to fulfil this role they need to understand the way markets work and not be corrupt.

Tanzania will pay a high price for this misadventure, but some people just like to learn the hard way.

The trick is not to subvert the market but like a Judoka, to use the opponent’s weight – the market in this case, to bend it to your will.