Misguided protectionism should go

Last month in Chennai, Commerce Minister Nirmala Sitharaman articulated the Government’s moral dilemma ( dharmasankata ) over protectionist measures. While the demand from several sectors (dominated by big companies) for protection may seem justified, such moves run the risk of impacting the vast SME sector and consumers as the cost of production and consumption go up.

The SME sector has been the spine of the economy, accounting for most of the job creation and sustenance and manufacturing exports. Unfortunately, the feeble and fragmented voices of SMEs seldom get heard in the din of demands from large companies. So, the commerce minister’s comment comes as a refreshing acknowledgement that the Government knows the dangers of agreeing to demands for protection, and the need for a selective approach.

The minister seemed to have acknowledged that protection from imports for large corporates increases the input costs for SMEs, which are downstream value-adding companies that provide most of the manufacturing jobs and exports. SMEs, being vulnerable and having limited staying power, will face the heat of higher input costs which will make them uncompetitive, leading to large-scale closures, job losses and fall in exports.

Sitharaman also said that the Government has to ensure that vulnerable large corporates mired in huge debts are protected from cheap imports to help them survive and repay the loans taken, mostly, from public sector banks.

In fact, a corollary to the protectionist logic is that the Government need not protect large corporates if they are not structurally vulnerable to making sustained losses — merely to help increase their profits — as protection kills job creation opportunities and increases costs for the common man.

However, in the absence of clear guidelines on the conditions under which the Government should protect large corporates from cheap imports, many undeserving players seek and avail themselves of cover in the name of Make in India and, in the process, end up destroying the competitiveness of the SME sector, making everyday life far more expensive for the common people.

If we have to rationally consider to whom and under what conditions the Government should provide protection from imports, some things become clear.

Protection should be given only to those sectors that will incur losses if not protected. No profit-making industries/companies should get it.

Give protection only to ensure that the beneficiary sectors/companies remain profitable and are able to sustain their debt-servicing obligations

Given the huge impact on SME sectors, job creation, and cost of living for all, protection should never be given to sectors/companies that are structurally profitable

Once granted , protection should be regularly monitored and reviewed — about its duration, continued impact on the targeted as well as downstream sectors — and changed/discontinued accordingly.

At the risk of going against the accepted philosophy of deregulation and decontrol, it may be a good idea if the Government can actually lay down some “good conduct” rules or conditions while granting/extending protection. These conditions include:

The recent financial performance of the companies likely to benefit from protection

Reasonable restrictions on the dividend of companies craving/enjoying protection

Restriction on managerial remuneration to promoters and/or their family members

The logic for these considerations is pretty clear: Protection involving huge socio-economic costs should be given only to help overcome weak finances and the gains from protection should not be diverted for generous dividend distribution or managerial compensation.

We have sadly misused the provision to get protection from imports and converted the privilege into a profit guarantee scheme for a few. It must be noted that all protection is not in the form of tariff barriers or import duties; this can be much more subtle in the form of imposing unnecessary certifications.

A look at the list of beneficiaries will offer some clarity of thought here.

Steel: Sells at 50 per cent over international prices. Domestic steel producers enjoy safeguards in the form of anti-dumping, minimum import price, etc that benefits all with a few receiving near-free ore and coal in addition, which reduces their input costs by over 10 per cent.

Cement: Imports are virtually impossible as BIS certification — which takes months to realise — has prevented imports from most of the competitive, exporting cement factories in South East Asia. Cement companies enjoy availability of virtually free limestone, fly ash and, in some cases, coal too.

Similarly, tyres, viscose, polyester filament, plywood, floor and wall tiles, caustic soda (used in paper and textiles), soda ash (soaps and detergents), batteries (vehicles, UPS, standby power packs) all enjoy protection in some form or the other.

Do they really deserve this? Essential products that most Indians use now cost 25 to 100 per cent higher than international prices, and this makes our export of value added products non-competitive. In fact, our buildings will cost 40-50 per cent less if the protection-enabled pricing power of large corporates is removed.

In the past when term-lending institutions lent money to corporates at much lower interest rates, they understood that they were using public money to subsidise the corporates and, hence, laid down conditions such as the companies should not pay dividends or increase promoters’ salaries if they did not repay even one instalment of interest or repayment. The lending institutions also ensured they had the right to convert unpaid instalments into equity if the company defaulted on more than three instalments.

They had a sense of fairness when they allowed transfer of money from the public to corporates. They wanted the corporates to grow and provide employment, but did not want them to use low-cost funds to line their nests without fulfilling their obligations.

This is not to suggest that we should go back to the era of choking regulations, but there is certainly a need to appreciate that imposition of social/societal costs does not lead to value/gains being captured by a few segments of society.

Hopefully, with the commerce minister demonstrating such clarity on the downside of protection and the exceptional circumstances under which protection may be granted, we should soon see some fair guidelines being issued to stop and reverse the present profit guarantee scheme for the super rich.

The writer is the chairman of Loyal Textile Mills