Monday, February 26, 2007

What price a free market? :: Gulf News opinion

Oh dear. Let's take this down, line by line.
What price a free market?

02/25/2007 09:46 PM By Nicholas
Coates, Associate Editor

Ever since the formation of the United Arab Emirates as a federation, the belief that it is a free market economy and a tax-free society has been perpetuated. The message spread abroad, enticing investors and industrialists to its shores. Because of the faith in a liberal economy, unhindered by intrusive bureaucracy or burdened by oppressive taxation, people found the various freedoms available and enjoyed a complete contrast to that experienced elsewhere. This only served to increase the popularity of the nation.
As you will see, he's setting us up with a phony straw man -- the free-market economy. It's not the belief in a free market that's made the UAE successful, but a faithfulness to limited and judicious intervention in markets. Not always according to my taste, but certainly better than many governments around the world.
As commerce progressed and the population increased, so did the burden upon the state's coffers for services which, in the past, were taken for granted as being funded by the government. But the government suddenly found itself in an invidious situation: an ever-increasing expenditure due to increasing population and escalating prices affecting everyone.
Not clear this is true on a per capita basis. As the economy has grown the costs of government services have grown, but so have the government/ruler revenues.
On the one hand a move could be made to allow private enterprise to take up responsibilities the government had shouldered in the past - water, electricity, health services and so on. But on the other hand, to ensure prices did not spiral out of control, intervention measures were needed to avoid widespread disenchantment. Yet to intervene in pricing structures would mean a contradiction of the principles of a free market economy, which may deter investors from establishing businesses in the UAE. It is a predicament that still faces the government at both federal and local level.
"Spiral out of control" is a common but silly expression. And what's the big deal of contradiction of principles of free market principles -- you've already done that by having government subsidized services. There's no "predicament." As far as the merits of privatizing services like electricity and water, we know that these are prone to evolving into monopoly market structures (particularly in a small market like the UAE) and such structures need some government regulation.
Private finance

On the issue of privatisation, the governments are moving towards bringing private finance into established services and utilities sectors through share flotations or seeking joint venture partnerships. Whether a complete privatisation or partial, as with a joint venture, it augurs well in such an economy and for those who advocate this system of governance. Where it can fail is for it to make the wealthy, wealthier, and those unable to afford participation in the benefits, less well off. For in allowing prices to find their own level - a belief held by all capitalists - that level, for one reason or another, frequently becomes one which can only be attained by a few.

When many economists talk of a free market economy, they overlook one simple fact. Namely, that there is no such thing. A completely free market is a theoretical form of market economy whereby transactions are made freely, based on an agreement of the price. There is no state intervention through taxation, subsidy or regulation.
Economists are well aware that any change in government regulation creates winners and losers. And we are well aware that economies without state intervention are nonexistent. So what's the point being made?
The term "free market" applies to an array of financial exchanges in commerce. Each exchange being a voluntary agreement between parties trading in goods or services. That is only the extent to which a free market exists, as there will always be government intervention through taxation, price controls and restrictions, possibly even preventing new competitors from entering a market. So a free market is used to describe a political or ideological viewpoint on policy and is not a recognised field within economics.

Consequently, the
UAE does not practise a free market economy, nor could it ever do so, as it is likely the economy will become uncontrollable and everything affiliated to it, unmanageable. Instead, in an effort to curb excesses often experienced in certain sectors of the market, the government, federal or local, has found it necessary to intervene and restrict price increases deemed unreasonable.
He's made a presumption that without basis that a free market would become "uncontrollable" and "unmanageable." What does that even mean? On what evidence or logic? Economists believe (yes, I said believe) that markets are generally a good way to organize markets, but they also believe that there are limited circumstances where government intervention is necessary.
Most dramatic

Perhaps the most dramatic of these interventions was that of reining in the increases in house rents. Possibly the only weakness there was the directives were local, not federal, so losing an opportunity to standardise on a suitable law, or level, throughout the country.
Price controls are not a good idea. The Soviet Union and the destructive effects of rent control in New York City should be evidence enough that economists have the theory correct on this one.
There have been other, sometimes contentious, interventions to restrain traders from exploiting a buyers' market. In recent times, directives allowed merchants to ignore exclusive agency agreements on specific foodstuffs, so parallel imports can be obtained at hopefully lower prices. But without effective monitoring or control, it is difficult to determine if it was successful; certainly the public saw no noticeable difference. Of course, this circumvention is only a precursor to that eventuality as such agreements will be against the terms of the World Trade Organisation, of which the UAE is now a member.
The author does not see a plain fact - exclusive agency is created by the government. It's creation of monopoly by government. Economists have long argued that the UAE should end the practice.
With the cost of living in the UAE increasing exponentially, the government's temptation to interfere in even more areas of business is there. Not only will it seek ways to curb unnecessary increases, but to ensure a balanced budget, one that is not entirely reliant on an oil economy. In this regard, it is tempting to look to taxation as a way to boost revenue.

There are already some charges made upon the people, like customs duties or local tariffs on various services and alcohol, tobacco and petroleum products. But as yet there are no laws which allow for the collection of taxes, as is widely practised elsewhere.

There is talk of Value Added Tax being introduced to replace Customs Duty and, if done, it will have an immediate effect on the cost of living and to commerce in general. Not only will companies have to keep proper books of account, maybe for the first time ever, but also there will be personnel employed by the private sector as tax collectors for the government - something that is quite common in taxed societies.

The prospect of such inevitable dramatic changes in the economy, and therefore society, must be very intimidating for those officials concerned with maintaining the dynamic and attractive image of the
Theory tells us Customs Duty and VAT are equivalent. Equivalent.

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Blogger Bss said...

This comment has been removed by the author.

10:40 PM  
Blogger Brn said...

Thanks for this excellent response. I especially loved the miss use of "exponentially" in describing the increasing price of living. I guess that it is technically true, but that exponent is pretty small.

10:41 PM  
Anonymous nadia said...

Very well described...Informative. Thnaks.

2:10 PM  
Anonymous Anonymous said...

"such structures need some government regulation..."


John, are you feeling okay? ;-}

Actually, and much to my surprise, I agree with you pretty much completely with this. Weird. (I'm going to go check my own temperature.)

6:08 AM  
Blogger Keefieboy said...

Theory tells us Customs Duty and VAT are equivalent. Equivalent.

Maybe for the end user. But my experience of VAT in the UK (as a business-owner) is that you spend a lot of time documenting 'inputs' and 'outputs'. At the end of the day if you are not the end user, then the VAT is charged but refunded, until it hits the end of the supply chain. I find it to be a huge, pointless beaurocratic burden. This will drive up prices because companies will have to deal with monthly or quarterly or, (given the usual operation of tax in the UAE) annually upfront and let's fight about it afterwards VAT returns.

This is the World Bank pushing for this. For the life of me I cannot understand why they think it's so great!

11:12 PM  
Blogger sharewadi said...

Excellent post Mr TEE. I wouldn't even dare to pretend I know as much about economics as Mr Coates, but your thoughtful analysis reassures me that my headscratching as a result of reading some of the local UAE business press, is not always due to my own dimwittedness :).

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