Last week William Ruto was sworn in as the fifth President of Kenya. AS his first order of business he removed the subsidy on fuel prices arguing it had not achieved its intended purpose (help Raila Odinga win?) and was too expensive.
According to reports, since the beginning of the year Kenya
has spent $1.2b (sh4.56trillion) or about 80 percent of all its tourism
earnings on keeping the pump prices down.
Whenever the issue of subsidies comes up, however flowery
the language used to justify it, I know it will end in tears...
Last year the Uhuru Kenyatta government seeing that fuel
prices were rising, sought to ease its citizens pain by holding the price at a
predetermined level. The removal of the subsidy saw an immediate jump in fuel
prices to record highs of Ksh179 (sh5650) a liter of petrol.
They say that the market can remain irrational more than you
can remain liquid. When governments try out such subsidies, somewhere in their
thinking is that the adverse market changes are temporary and will soon blow
over. They think the market is just being irrational and will soon return to
its senses.
For Kenya of course, it was an election period – called the
silly season in some parts, and one can not help but think the Kenyatta
administration was thinking if they can fend off the worst of the price
increases their chosen one, Odinga would win and they can deal with the fall
out later.
While global oil prices have been falling in recent weeks,
it was probably too little too late.
Subsidies are intended to control prices in an attempt to
subvert the laws of supply and demand.
The way to influence prices is to appreciate the laws of
supply and demand. If prices are high increase supply and if prices are low and
you want to increase them push up demand. Simple but not easy.
If you can not influence the factors of supply and demand
the wise thing to do however painful is to let the market take its course and
brace yourself for the impact.
"Thankfully Uganda did not catch the monkey-see-monkey-do flu. The government stayed away from subsidizing fuel prices, even if they hit the highest they have risen ever, we tightened our belts, controlled our travel and we are still here despite warnings that we would start dying like flies....
In these hard times when we are trying to get back to
pre-covid levels of economic activity, we cannot afford to start throwing money
to placate an irrational electorate. When people call for government
interventions they speak as if no one is paying for those interventions. Taxes
are used to pay, but if tax collections are not coming as they should how are
governments expected to pay? The stupid ones print more money, creating
inflation, which is caused by too much money chasing to few goods and then they
have to put the brakes on money supply anyway to fight inflation.
That being said, the question then arises what should
governments do to prevent such crises or when they are out of control to ensure
the crisis does not blow up out of proportion.
It goes back to the old wisdom of making hay while the sun shines.
When the times are good, leadership should be exercised to
ensure some of the surplus is stored away for just such a crisis. What happens
is that when countries have good economic times, they increase spending on
consumption and place little emphasis on saving and investment.
When the effects of the Covid lockdown begun to tell, Singapore announced it would use $60b from its reserves to tide it population
over the worst. They could do this because they have been prudent with their
expenditure and as a result have been able to build up a reserve.
However, there is a place for subsidies, when they are used to support production and not consumption...
The Ruto government announced hat it would subsidise
ferterliser prices as a way to kick start agricultural production, especially
among the small holder farmers. Increased production, especially of food will
help manage inflationary pressures, boost agroindustry and increase revenues.
While you still will be fighting the market, the redeeming quality here is that
its for production and not consumption.
The long-term goal maybe to start ferterliser production in Kenya or source cheaper supplies in future and hopefully do away with the subsidy altogether. Easier said than done, because often times powerful interest groups build up around these subsidies and fight tooth and nail to prevent their removal long after they have outlived their usefulness. All the more reason to introduce susbsidies cautiously.
The overall principle should be to stay away from trying to
control prices but if we must try to intervene first understand the market
dynamics, so that the intervention can be the most effective.
While political expediency may push towards an attempt to
control prices, the economic realities will inevitably catch up and will have
bigger political costs than those the country was trying to save.
