Sunday, September 30, 2012

Thailand's Wages of Populism

Rice and rubber subsidies will blight the budget, without helping rural areas.

Thailand's year-old policy of subsidizing producers of its two major export crops, rice and rubber, has obvious negative implications for government finances. But the development challenge underlying this misbegotten intervention remains salient for many middle-income countries: How to keep rural incomes from falling ever further behind those in urban areas?

Prime Minister Yingluck Shinawatra's decision last year to buy up rice at a 40% premium over the global price was motivated by a desire to help Thailand's rice farmers. These farmers were demanding better redistribution of the nation's wealth—and, not coincidentally, have been strong supporters of her Pheu Thai party. 

The policy has already cost the government about 260 billion baht ($8.4 billion) and another 400 billion baht has been approved for the next 12 months. Similarly, following demonstrations against falling rubber prices, the government pledged 15 billion baht for rubber buying.

The costs of these policies are clear. Rice prices this year enjoyed a brief uptick in the wake of the U.S. drought but have generally remained weak. Meanwhile, the Thai government has been accumulating stocks that can only be sold at a loss. Thais are producing more rice thanks to the government support, but the price floor provides incentive to growers to put quantity ahead of quality.

This comes at a time when other countries are stepping up rice exports. Burma, once the world's major rice exporter, is starting reforms that should soon enable it to take advantage of its plentiful land and low labor costs to boost production and exports, much as Vietnam did a decade ago.
Rubber could be a similar story. Thai rubber smallholders enjoyed years of good prices which rose from 40 U.S. cents per pound in 2002 to a peak of $2.65 in April 2011. Since then prices have fallen to $1.26 despite government intervention. 

This may not be merely a short-term drop in a traditionally volatile commodity. The longer-term rubber cycle appears to have turned, thanks to slackening global demand and the prospect of large new acreage in Vietnam, Cambodia, Laos and Indonesia coming into production. Rubber tapping is a labor-intensive business, so there is every prospect of the Thai government becoming committed to almost permanent subsidies if its rubber growers are to enjoy the standard of living which they expect as Thais. 

All this means that Thailand is offering ever-larger subsidies it can ill afford. Barring unlikely sustained surges in global prices for rice and rubber, Ms. Yingluck looks to have saddled Thailand with subsidies that could prove even more difficult to remove than the fuel subsidies that blight the budgets of a long list of Asian countries. 

Also, scare stories about global food shortages don't provide any justification. Prices do spike, but the long-term price trend of most agricultural commodities remains negative. So the cost of subsidizing a particular price level is likely to rise.

One can sympathize with governments in semi-industrialized economies keen to avoid rural areas falling so far behind the metropolis as to foment urban-rural tensions. Thailand is especially prone to this problem after years of hostility that has occasionally broken into violence. Nor is it alone. China's urban-rural income gap is far worse than Thailand's, and only political repression keeps a lid on localized discontent. Importing cheap plantation labor as Malaysia does delays the problem but is no solution.

But that doesn't mean subsidies are the right way forward. Rather, policy makers need to encourage rural incomes to rise naturally through productivity gains. Efforts should be made to raise farm productivity through mechanization, land consolidation and new technology. 

In Thailand, as in other middle-income countries, money would be better spent on promoting land and labor productivity—both still low in rural Thailand. It's also time for Bangkok to accept that so much land can no longer be economically farmed. Considering rural populations are aging rapidly, Thailand needs price signals which will encourage productivity not volume production. Subsidies distort these.

Meanwhile, subsidizing major rural exports disadvantages other industries, and the farmers who grow unsubsidized crops. If you are going to subsidize, direct it to investment in yields and mechanization. 

Then again, subsidies are easier promised than paid for. The idea of some kind of farm subsidies remains alluring because even the developed economies—despite their preaching of free-trade deals—indulge in them. They're a fiscal drag for Europe and the U.S., but these subsidies are minimal compared to the economy because farmers comprise 3% to 5% of the workforce. In middle-income countries, when they're 20% to 30% of the workforce, there is a real risk of being stuck with a giant bill.

Thailand is not alone in the middle-income country problem of rural-urban income divides. 

Regrettably, these countries have nothing to learn from advanced countries—least of all those in Asia like Japan and Korea—which routinely subsidize farm production. Ms. Yingluck is misguided, but her mistake should focus attention on a very real dilemma, one that is particularly pressing for those facing still large rural electorates.

By Phillip Bowring Hong Kong-based journalist.  The Wall Street Journal

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