The world including Nepal has realized the disservice caused to all of us by the state running businesses. Worldwide privatization of government assets has taken place on a grand scale.

However, most people still maintain that regulation by state is essential. Poor service by private organizations is the reason why many of us want government oversight.

In an article on domestic private airlines in the 19-25 November issue of Nepali Times by ‘Artha Beed’, the service – or rather the lack of it – was given by him as a reason for wanting the government to step in. He said that free markets need government regulators to be successful.

Not so. Let us find out what went wrong. When private airlines first took off, the staff was enthusiastic and well groomed, service was warm, and flights were on time. Let us agree with Artha that service and courtesy has since vanished.

Let us, however, compare the situation now with what was prevailing at the time when RNAC was the only airline. Perhaps Artha is too young to remember. People used to queue up overnight to get tickets, service was non-existent, and the staff attitude said, ‘put up with us or walk to your destination’. However, bad the situation now is, it is infinitely better than at the time of RNAC’s monopoly.

Apart from the impossibility of government regulators forcing the airline’s staff to smile (Artha’s desire), regulations boost costs, empower corrupt bureaucracies, and achieve little.

Does it mean that Artha will remain permanently frustrated? Is there no way to make private airlines come upto his expectations? Fortunately, there are ways to improve efficiency and service without the heavy hand of the government.

Ending RNAC’s monopoly was good. What wasn’t good was prohibiting foreign airlines from flying on domestic routes. If you want world class service, then you must let world class companies compete in your markets.

This is not only true of airline business but of all businesses. India was no better. Under the anti-foreign-investment raj of Indira Gandhi, protected businesses produced shoddy goods and customers got lousy service. Now, foreign investment where permitted is changing that.

India which produced the ugly ‘ambassador’, even for which there was a waiting period, now offers its consumers an unlimited array of world-class cars. Its autos and their components are exported to many countries. Would this have happened under the protective regime of the Neheru-Indira era? Never.

Nepal does not need more government regulations but opening up of its market including the domestic airline market to free and unfettered competition. Then it will be companies which best serve the interests of the Nepali consumer which will thrive.

A word of caution here is necessary. Open and free competition does not mean that private businesses, be they airline or any other, will always meet all of the customers expectations. It only means that customers will have a choice and most will be satisfied most of the time. All customers cannot always be satisfied. Airlines, for example, can only provide the level of service which the public is prepared to pay for.

While travelling within the US, I find that airlines do not serve much more than a packet of peanuts and a soft drink. This is because the US airlines have found that people travel on basis of cheap fares. The preference of people is not for fancy service and gourmet food but low ticket prices. Customers want rock bottom fares and that is what they get. They can always pick up-food of their choice at the airport’s fast-food restaurants and are unwilling to pay extra for food and service inside the aircraft.

It is possible that even after the domestic airline market is opened to foreign competition Artha still does not get gourmet food served to him on his half hour flight to Pokhara. This would only be if most travelers value cheaper flights which do not factor in the cost of Artha’s choice of food and drinks.

But again if Artha has resources he should have options. He could buy a plane, hire his own pilot and airhostess, and have food of his choice served to him. Good luck Mr. Beed.

The Himalyan Times

In response to my December 27, 2004 article advocating reduction in taxes, Don Michaels sent a letter, published in THT, making a case for an increase. Let us analyze each of his arguments.

Don’s first contention is that even if taxes are reduced businessmen will not reduce prices. Don is right that when taxes go down, the prices may not immediately go down, but, in general goods are available at a cheaper rate to consumers in a lower taxed nation than in a high one. Isn’t zero or very low taxes the reason that countries like Singapore and Hong Kong boast of the world’s highest per capita trading volumes as well as living standards which are the envy of those of us in the 3rd world?

Further, high prices due to high taxation reduce demand and thus lower economic activity in the country. If Don, you can afford to buy a Toyota RAV 4 for Rs.20 lakhs, you may not, perhaps, be willing to buy it when taxes result in it being priced at Rs.40 lakhs.

Does Don really believe that if duty rates are brought to zero from say 100% prices will stay the same? How can they? Competition amongst sellers ensures that the consumers get their reductions fast.

Second point made by Don is that, “governments use taxes to build infrastructures; without them nations cannot progress”. I do agree with the later part of the sentence. Nepal does need infrastructure, desperately so. However, if anyone thinks that government taxes result automatically in building infrastructure, that person is dreaming.

A committed socialist like Rajiv Gandhi stated that not more than 15% of what government collects is spent on what the collection is for. 85% or more just disappears in funding the government machinery and in corruption. Why not let the private sector do the job? Why not allow foreign and domestic investment to be utilized for building of roads, airports, communication networks, and power plants?

In India when government regarded telephones as infrastructure people had to wait for years to obtain a connection. And if you did manage to get one it was just that one model made by a government factory and had to be black. When a member of India’s Parliament complained about his instrument not working to the Minister, he was told that only the ‘lucky’ few got telephones as India was poor and there were no funds for ‘luxuries’. Now India’s private companies are not only supplying phone connections by the millions each month, but, are also contributing thousands of crores in taxes to the government.

Don your argument regarding infrastructure doesn’t hold water. Tax money is people’s money, if it is not collected by government it would be available for whatever people desire including infrastructure. To allocate resources is the work of capital markets not government bureaucrats and politicians.

Thirdly, Don says, “As for ‘taking’ money from the rich, who is it that creates the wealth of a nation? Is it a CEO in his plush office or the worker on a construction site, factory, mine or farm?” The implication here clearly is that the worker builds wealth, the businessmen contributes nothing.

This contention displays such ignorance of the wealth generating process that all other arguments of Don pale in comparison. How can anyone even think that a worker without capital, or managerial resources, can produce wealth? Far from it.

If workers could produce wealth on their own then Nepal would be as rich as the US. Does Thapa, a porter, in a remote mountain village at Lukla work harder, or, Smith, an elevator operator, in New York’s Waldorf Astoria Hotel? Thapa in Lukla barely survives, Smith in New York with 1% of the effort owns a car, an apartment, and flies for a holiday to Mexico each year. If Thapa in the Himalayas expended the same effort as does Smith, Thapa would surely starve.

Don, productivity and wealth are the result of capital and capital is destroyed by taxes. Businessmen are required, for they bring in this much needed capital; without them, there would be no site on which to construct, no factory, no mine, and no farm except for subsistence hand to mouth agriculture.

The Himalyan Times

Ajay Bajracharya, marketing team leader of an NGO, ‘Smallholder Irrigation Market Initiative’ in Jawalakhel, is disappointed. He, like so many others in Nepal, was hoping that Kerry would become the President of the US. Ajay was opposed to Bush’s reduction of taxes for the wealthiest 2% of the taxpayers in the US.

Ajay felt that Bush favoured the rich. It didn’t matter to him that Kerry is married to a billionaire heiress to the ‘Heinz ketchup’ fortune. Kerry’s promise to increase taxes for those earning over US$2,00,000 a year was enough for Ajay. For him taking money from the rich shows that you are for the poor and the downtrodden. If it could only be that simple!

Many people feel the same and populist governments round the world, with a few notable exceptions, make policies to ‘squeeze’ the rich. India, during Indira Gandhi’s regime, had the dubious distinction of having the highest tax rates in the world. The income tax on the wealthiest was over 90%. This burden when combined with wealth, gift, and death taxes exceeded 100% of the taxpayers income in several instances.

If, as Ajay believes, this is automatically good for the poor, then Mrs. Gandhi would have succeeded in wiping off poverty from the face of India. Exactly the reverse happened. Tax collections did not increase, foreign exchange reserves remained chronically short, and India’s economy stopped growing. Unemployment and poverty became synonymous with India.

What happened? The rich refused to be sitting ducks. They rebelled against their enforced martyrdom at the hands of Mrs. Gandhi’s egalitarian philosophy. They evaded taxes, sent their capital to Swiss banks, or simply stopped working.

Now, lets turn to those countries which either had low taxes to start with or reduced them. They become fabulously rich. 11 of the world’s 16 wealthiest jurisdictions are tax havens. The top five are Bermuda, Luxembourg, Switzerland, Liechtenstein, and the US.

What about the ‘evil’ corporations, should they be made to part with at least 50% of their profits? The case of Ireland is instructive. 20 years ago Ireland was Europe’s shame. Its economy was in shambles; double digit unemployment had become the norm. It was Ireland’s onerous tax policy which was, to a significant extent, responsible for this sorry state of affairs. The corporate tax rate was 50%.

This burden on companies was reduced in the 80’s but in 1991 it was still considerable at 43%. At this point, the Irish leaders showed vision and guts. TAXES, all around were cut.

Over the next 10 years, taxes on companies were slashed drastically. Today the income tax on companies is 12.5%, one of Europe’s lowest. If we buy into Ajay’s argument then these cuts should have made the rich richer and the poor poorer.

Nothing of that sort transpired. The Irish economy went from being ‘the sick man of Europe’ to become a ‘European tiger’. Unemployment dropped by 50%, and investment both foreign and domestic zoomed. The economy in the 90’s showed the highest rate of growth – 7.7% each year – amongst all the developed countries.

The people of Ireland (hope Ajay is reading this) were the biggest winners. The Irish, who were Europe’s poor, now enjoy the second highest standard of living in that continent.

Did the government lose revenue due to these cuts? No. At a 50% rate, corporate taxes raised revenue equal to 1% of GDP. With the rates at 12.5%, the government gets 4% of GDP from the corporate income tax. The ‘evil’ corporations are now bearing a fourfold higher burden as a result of taxes being reduced to a fourth of what they were.

There might be valid reasons for Ajay to support Kerry but increase in taxes should not be one of them. Run away from politicians who promise increased taxes for that’s the way to poverty. Support those who will limit the burden of government not enhance it.

It is for sake of Nepal’s poor that we should cut taxes. The rich will always manage, it is for the disadvantaged that lowering of taxes may mean the difference between living and dying.

The Himalyan Times

The year 2004 has been a bad one for the big drug companies of this world. It has been a particularly trying year for Merck, one of the world’s biggest drug manufacturers. Merck share price dropped from its peak of $95 in November 2001 to US$27 in November, 2004. This means that the company is worth US$60 billion vs US$200 billion it was worth just three years ago.

The reason for Merck’s pain is its blockbuster arthritis drug Vioxx. Merck has had to pull it off the market. Worse, Merck faces liability potentially running into tens of billions of dollars which it would have to pay to the users of Vioxx.

In a study conducted by Merck, it appeared that users of Vioxx faced a slight increase in risk of getting a heart attack. Merck decided to make the study public and, in keeping with its high ethical standards, also recalled Vioxx. Stores have sent the medicine back to the company and so have consumers. They are entitled to a full refund.

There is do doubt that Merck is seriously wounded. Swarms of lawyers in the US smelling blood have sprung into action. They have begun the process of collecting names of all Vioxx users. Cases will be filed on their behalf against Merck. It is possible that every user will be entitled to damages whether or not he has been harmed.

Those who have suffered heart attacks will probably be awarded damages in tens of millions of dollars. If someone has died while taking Vioxx, it is conceivable that Merck may be liable for a 100 million dollars in damages. It is now certain that Merck will end up paying billions of dollars to settle claims against it.

Persons investing in Merck have seen the value of their holdings vaporize. Its shareholders have lost a substantial portion of their wealth. If you bought Merck shares at its peak, you would have witnessed your holdings decline by over 70% in value.

This example illustrates why drug companies in the US have to charge high prices. The risk involved in developing a new drug is just too great. The approval process is time consuming, tortuous, full of pitfalls, and costs a fortune. In the US, the Food and Drug Administration (FDA) which has to approve all drugs takes upto ten years to do so. The company seeking approval may need to spend a billion dollars before it is ready to market its new molecule.

And even this rigorous approval process does not protect a company from liability. It still remains fully liable to users for any untoward effects which may come to light years later. The fact that Vioxx was approved by FDA does not protect Merck from liability in the least bit.

Vioxx has shown to not only Merck shareholders but also to investors in other drug companies as to how severe the liabilities can be. The share prices of other drug companies like Pfizer, Roche, and Bristol Myers have also fallen. In recent years a mere whiff of legal trouble is enough to cause share prices to plunge.

When we complain of mega profits and high prices drug companies charge, we have to take into account the enormous risks they face. Drug prices in the US and worldwide can come down only if the FDA is disbanded and legal liability is limited to actual damages.

For a user of Vioxx to be awarded a million dollars in damages without having to prove actual harm is not reasonable. If he has suffered a heart attack or died, yes a million dollar or even several million dollars may be reasonable compensation.

Reform liability and compensation norms, eliminate regulations to extent possible and we will see cheaper drugs. Will we be sacrificing safety? As we have seen with Vioxx, government approvals by no means guarantee safety, they in fact enhance the danger by providing an illusion of safety when we all know that you should take drugs only if you must. There is hardly any drug which does not have any side-effects.

There are dangers stemming from regulation and limitless liabilities. FDA is going to be even more careful in approving new drugs. New life saving drugs may not be available to the world for decades.

“I think this is really blown out of proportion,” said Dr. Carl Lavie, medical director of preventive cardiology at Ochsner Clinic Foundation, in New Orleans. “I don’t think it’s easy at all to get a new drug approved, and if you start being extremely conservative you stand the risk of taking good medicines from people.

Fewer companies can now afford to develop new drugs. Companies will not market drugs which harm a few even if they substantially help a 100 times more people, since the potential liability for damages far exceeds potential profits. No one is looking at how many have benefited from Vioxx, every lawyer is concentrating on those harmed. Regulations cost far more lives than they save.

It appears that Merck will have to pay damages even if Vioxx users reside outside the US. Are you a user? If you can prove usage you too may become a millionaire. Good luck.

The Boss

China today offers us the amazing scenario of a country marching towards economic freedom while remaining politically unfree. Even as the communist rulers of China liberalize their country for business and welcome foreign capital, they maintain their stranglehold on political power.

The result of the loosening of the State’s grip over the economy has been stunning: since 1980, the Chinese per capital income has more than tripled, over 200 million of its people have moved from poverty into middle class, foreign investment has soared to almost US$50 billion exceeding what is invested in India by foreigners by a factor of 20, and it has become one of the world’s principal exporters with its US$350 billion in export of services and goods – beating India’s export by over four times.

Government in China has been slowly but surely reducing its role in the economy. State owned enterprises which accounted for over 80% of the Chinese industrial output prior to 1980 now account for half that figure. This while exports from privately owned companies have skyrocketed. Shenzen, one of China’s dynamic coastal provinces has seen its exports rise from US$17 million in 1980 to US$6 billion in 1991 and today its exports exceed US$35 billion.

This transformation has occurred even as China remains undemocratic; dissent is virtually nonexistent after the Tiananmen square massacre. What this tells us is that however desirable democracy may be for other reasons, it is not indispensable for a country in achieving prosperity and wealth.

Singapore became wealthy under the iron-fisted rule of Lee Kuan Yew. Singapore did not offer parliamentary, electoral, and press freedom to its people as India did. Singapore, however, unlike India and Nepal, gave its people economic freedom soon after the end of World War II. The result: Singapore today is one of the world’s wealthiest economies: its people earn an annual average income of US$27,000.

China’s transformation too is taking place under the iron-hand of its communist rulers. In the first decade of its economic reforms, though China saw mounting political dissent, it was mercilessly quashed: tanks, troops, and bullets were employed in the 1989 attack by the government on demonstrators at Tiananmen.

Economic reforms however continued. Controls on foreign exchange were loosened in the 1990’s leading to the present boom in investments from the US and the rest of the world. Today the world invests more in China than in the US. Stock markets – the prime symbol of capitalism – were set up in Shanghai and Shenzen in the early 90s.

In 1992, the supreme leader of China, Deng Xiaoping, acting more like the free-market Lee Kuan Yew of Singapore than a Maoist, spoke out in favour of the free market policies being followed by the coastal regions of Guangzhou and Shenzen. What happened? All dissent to open market policies was effectively shut up. Who was going to dare speak up against the supreme leader himself? These coastal regions largely freed from bureaucratic red tape and over-bearing controls grew at a sizzling 15% annual rate.

From then onwards there has been no looking back for China. Chinese people, who were at one time called no-good-opium-eaters by their colonial masters, shook the world with their ability to flood every market with goods. The efficiency of Chinese firms makes its competitors quake with fear.

This is not to say that things can’t go wrong in China. The government still exercises controls over vast areas of its economy and that’s where the danger lies. China’s controls over its currency and its inefficient and outmoded State enterprises can lower its growth. Other than that things are good and getting better.

Lessons for Nepal: all it needs is one strong leader who can give the people economic freedom, nothing else is going to make Nepal rich. Democracy and political freedom, important as they may be, are not going to result in Nepal’s progress. That is what we understand from what has happened in China and Singapore over the last few decades.

The Himalyan Times