Are all subsidies bad?

In the few years I have been an op-ed writer, there has been one key observation – my articles on fuel subsidies always draw a disproportionate response, when compared to other topics. Last week was no exception, as I argued, once again, that the government should do the right thing – end forty years of fuel subsidies.

I think these reactions happen for a number of reasons.

First, the debate of whether we should remove the subsidies and government price control that accompanies the arrangement is a very old debate. It is as old as the subsidy arrangement itself. Second, it is divisive. Third, it directly affects all Nigerians, and immediately if it is removed.

It is in this context that some see my arguments as being pro rich. That is not the case. Indeed, I argued that two motivations for fuel subsidies, of which reducing energy costs for the poor is a major one, has never been achieved. Another reaction I got was the suggestion that fuel subsidy is the form of subsidy enjoyed by Nigerians. This is also not the case. The Nigerian emerging market economy is actually overshadowed by different forms and range of subsidies.

Now, the concept of subsidy is broad and wide that many of such arrangements go unnoticed. It is a form of government intervention in the market – operating between the lines of demand and supply. Tax waivers, for instance, are a form of subsidy, so is the provision of inputs to farmers. So also is the payments made out to relatively poor people by many governments all over the world (which technically, Nigeria is about to start, and I hope to comment on this very soon). Our higher education system is also largely subsidized as well as tax breaks for new companies in certain industries.

While the administration of these subsidies can always be improved, I am not against all forms of subsidies in the country. Indeed, I favour the Central Bank of Nigeria (CBN) administered set of credit subsidies across agriculture, manufacturing, power, aviation and SMEs in the country. These subsidies include the Anchor Borrowers Programme (ABP), the infrastructure finance fund, and the power and aviation fund (PAIF) etc. These subsidies have two main features that make them different from the fuel subsidies, and in that respect do not impose the extensive economic distortionary impacts as in the case of fuel subsidies.

First, these subsidies are linked to production. Subsidies linked to production lowers producers costs, help improve productivity overtime, and often act as incentive as long as there are elements of competition. These CBN credit subsidies work by lowering the interest rates paid overtime, stabilizing credit and the cost of credit, and providing long-term finance. Across power, aviation and agriculture industries in Nigeria, given the relative short-term finance available at the credit market, this support is immense. It is also important to note that the CBN does not own, nor manage the firms that receive the subsidies, and they are provided through intermediary banks whose responsibility is to ensure the requirements are met and the loans are repaid.

It is thus no coincidence, as some of the recent reports from Niger and Kebbi have shown, that the success recorded in agriculture in the last few years in relation to rice, wheat and grain production, are based on subsidized agricultural credit. So, subsidies such as those provided by the CBN helps ensure the necessary, adequate, timely, and long-term finance for development across the targeted sectors, helping to provide the stability in finance and capital that is often a binding constraint across the industries.

Second, subsidies are meant to be transitional and dynamic. A transitional subsidy arrangement works best because, by its very nature, subsidies are meant to take care of externalities, which are not suppose to last forever. For the credit subsidies, the period is fixed and the cost is finite, whereas the fuel subsidies have become a permanent feature with no certainty of the cost to the government. A dynamic subsidy arrangement also means that a well-designed subsidy programme today may become a critical economic distortion variable tomorrow, and no longer meet the original objectives set. In the case of fuel subsidies, whereas subsidies are meant to be transitional, this has been with us for over 40 years.

In conclusion therefore, the form of subsidy, the conditions attached to it, and how the subsidies interact with other policies are critical components of whether a subsidy arrangement will enhance or distort economic activity. In a situation where the outcomes and the results diverge from the intended impact, the subsidy has already failed. The fuel subsidies are consumption subsidies and these are the worst forms of subsidies, especially because they are always difficult to withdraw.

So, these arguments go to show that subsidies are not new and they are not necessarily bad. What makes a subsidy bad, and I cannot think of any worse than the fuel subsidies, is the manner of their operation, the costs of such subsidies, and the opportunity costs to the economy. There is no doubt in my mind that the money spent on fuel subsidies, estimated at over N6 trillion in 5 years, if it had been spent otherwise on education, health and or infrastructure, would have had greater benefits to the economy.

 

Ogho Okiti