The curse of (uncontested) imports

A factory employee works in a thread spinning factory in Cairo, Egypt, July 5, 2018. REUTERS/Mohamed Abd El Ghany - RC1339B685A0

Raúl Prebisch famously argued that developing countries should replace imports with domestic production because of the potential gains in industrialization that would stem from such import substitution. In the strategy advocated by the late Argentine economist, the state would play a central role by nationalizing companies, subsidizing domestic producers, and setting tariffs.

Prebisch-like development strategies gradually fell into disgrace during the debt crises near the end of the last century—in no small measure because multilateral rescue organizations such as the World Bank and the International Monetary Fund advocated economic liberalization.

Instead, the export-driven success of Asian economies like South Korea shifted the focus of the economic development paradigm from discouraging imports to stimulating exports. That change in emphasis from imports to exports was predicated on both the catalytic effect on domestic production of exposure to global competition and the transfer of technology that stems from foreign direct investment. Gradually, as the development paradigm shifted, so did policies—from those promoting trade to support domestic industries to those aimed at turning developing countries into platforms for multinational corporations in order to integrate into global markets.

But for countries in the Middle East and North Africa (MENA), export-led development strategies have had little success, and instruments of the earlier import-substitution strategy—such as state-owned enterprises, high tariffs, and subsidies—have survived. Instead of fostering domestic production as Prebisch envisioned, however, these legacies have created crony-capitalistic industries that have limited the level of competition in many sectors of the economy and furthered the dependence on imports. Episodes of liberalization ended up transferring ownership from state to private monopolies. What is more, competition authorities—still in their infancy in MENA—have had little space to level the playing field among private sector actors and stop collusion among companies including foreign and state-owned ones.

Besides tariffs, which are taxes on imports, restrictions can include quotas (limits on import quantities) and constraints on the purchase and sale of foreign currency. In MENA countries, these barriers have had the detrimental effects of fostering an import lobby that distorts market incentives; of reinforcing an inefficient subsidy-based private sector; and of causing higher prices for tradable goods.

First, agents that benefit from the import “industry” constitute the biggest lobby against domestic production. For example, exclusive import licenses grant a monopoly on imports to an individual or a national agency. These licenses discourage potential domestic production. Indeed, licenses–and the monopoly power associated with them—increase the domestic price of imports and import-competing goods, thereby increasing costs of producers who buy these imports (or substitutes) as inputs. Auctions to allocate import licenses with expiration dates are a good approach to taking on importer monopolies. Auctions could limit the capture of excess profits by non-deserving agents and result in, at the very least, lower prices and costs to downstream users and consumers.

Second, universal subsidies reinforce the distorted structure of the economy toward import dependence. Subsidies on imports such as food or basic goods increase demand for them. Moreover, the subsidy renders artificially higher the demand for the products of the exclusive importers and can cost the government a lot of money that could be spent elsewhere. Profits from oil exports or foreign aid have funded the universal subsidies that support the monopolization of imports. When government purchases are relatively large, the potential for quid pro quo corruption with private actors is large. The agriculture and agribusiness sectors epitomize distorted competition between local production and (monopolized) imports in the presence of consumer subsidies. That is especially the case for wheat and rice in many African countries. There are, of course, other impediments to the development of agriculture to serve domestic demand, but ending monopolized imports and substituting targeted subsidies for the universal variety would help farm sectors meet domestic needs.

Third, import dependence leads to persistent twin deficits; that is, a budget deficit drives the trade deficit. Imports of universally subsidized goods are widely inflated. The excessive imports are either smuggled into other countries or used as an input in industry, which as a result garners an artificial advantage when the import is not sold at world prices. That is especially the case when the government is in the business of buying the import and selling it. A good example is the soft-drink industry, which benefits from subsidized sugar—and carries bad health consequences to boot. Liberalizing imports and associated logistic and distribution chains, and cutting subsidies, would help resolve the persistent deficits that have plagued the region since the start of the Arab Spring in 2011 and the collapse in oil prices in 2014. Unless those deficits shrink, citizens may be asked to face drastic cuts in transfers or social services to preserve the rents of a few non-deserving oligarchs.

Putting the emphasis on liberalizing imports should be at the heart of any development strategy in MENA. That should foster the development of productive sectors and be a good base for promoting exports. Even if that does not occur, reducing monopolies on imports would still be valuable because it would result in lower prices and reduced deficits.