Eco 101 of Customs reform
This month’s news reports about the Bureau of Customs (BOC) have been quite unflattering, to say the least.
Reports of higher prices, along with increased difficulties by some importers, painted a picture of painful adjustments to the reform. But is such pain really all for naught?
Part of the challenge, it seems, lies in thoroughly understanding and then effectively communicating the implications of the reform program, including a clear appreciation of the economics of customs reform.
Back to basics
The public needs to understand where we are in the reform process, what successful reforms will bring about over time, and to what extent simple metrics, such as customs revenues, could be used to evaluate “success.”
Indeed, despite (some of) the media’s insistent focus on revenues, success in the BOC requires that we look beyond this single indicator. We should try to understand the bigger picture, and this is where a review of basic economic principles becomes useful.
If reformists apply the right taxes on imported goods, this will typically increase the final sales prices of these goods.
So, if consumers have gotten used to cheaper products, which is possible mainly because of smuggling in some parts of the country, then our consumers must understand that higher prices could be part of the initial sacrifices linked to the reforms.
Of course, the eventual supply-side response of our producers needs to be monitored. After all, that is part of the reason why we implement some of these tariffs on imported goods in the first place.
Furthermore, if for some products, final prices increase due to tighter tax implementation, the end result could be lower demand for these products over time. And this introduces a slightly complicated effect on revenues.
If the price goes up by more than the quantity going down, then revenues could increase.
However, if the quantity goes down by more than the price going up, revenues could actually decrease.
This is an important reason why tax revenues should not be the only metric used to assess the reform progress.
What does the data reveal?
With the basic economic story in mind, and thanks to granular trade data which the BOC has made available, we can begin to identify some of the nuances in the reform process and its outcomes.
For convenience, our analysis focuses on just three broad product types: (1) electrical products, (2) printed materials, and (3) resins. Drawing on our ongoing research at the AIM Policy Center, we made a comparison between December 2013 and June 2014 in terms of import volume, dutiable value and revenue collected.
First, suppose valuation increases (i.e., customs officials apply the right value and taxes on the imported product), but quantity imported eventually decreases, but by a smaller percentage. Here the typical result is higher revenue.
As an illustration, electrical products seem to exhibit this pattern, based on our calculations.
Valuation increased by 4.88 percent between December 2013 and June 2014. And the total volume imported decreased by 3.37 percent. Revenue nevertheless increased by 5.29 percent.
Second, suppose valuation increases, but the quantity imported decreases by a bigger percentage. Here, the expected result is lower revenue.
In the BOC database, printed materials appear to exhibit this pattern. Valuation increased by 0.78 percent. Volume decreased by 5.42 percent. Hence, revenue decreased by 5.36 percent.
Third, suppose both valuation and quantity increase. Here is where we expect, unambiguously, higher revenue.
Although our basic economic theory may not be enough to explain this scenario, it shouldn’t take a lot of imagination to account for what’s happening.
After all, BOC reforms are intended to lower trade frictions, which could then translate into more trade.
In other words, even if valuations increase, importers could be so happy with improved trade facilitation that they would even choose to import more.
Based on our conversations with customs insiders, which were validated by some importers, this pattern could actually be seen for some products—for instance, the case of resins.
Valuation increased by 21.48 percent. Volume increased by 10.46 percent. Revenue increased by 22.59 percent.
Obviously, other factors could be at play here and not all the necessary reforms are within the purvey of the BOC (e.g., the truck ban). Nevertheless, the good thing about evidence-based approaches is that we can try to figure out whether the data speak to those possible explanations.
The foregoing analysis is far from conclusive. Yet, clearly, the case has been made that total tax revenues cannot be the only measure of reform success.
Thankfully, we have access to data in order to better understand the nuances of what could be taking place as a result of the reforms.
In some cases, with tighter customs regulation, demand will go down by much more than dutiable values go up, resulting in lower revenues for those products.
To put this more sharply, it is possible for revenues to go down (at least initially) precisely because the BOC is doing its job!
Increased openness by the BOC and other key government agencies could be a key ingredient in helping us all understand, constructively critique and support ongoing reforms.
This transparency and participatory governance is, quite possibly, the only antidote that could finally end the boom-bust cycle of reforms that plagued us in the past.
Reforms need to be supported by reform stakeholders—and not just depend on the reformists being in power.
The challenge for our reformists lies in opening up the processes, sharing the data and engaging the public in a constructive dialogue on the gains from these reforms.
They should not be defensive when reforms don’t yield early results—and the public (and notably media) needs to better understand that reform outcomes usually follow a J-curve (i.e., outcomes could become worse initially before they get better over time), notably in areas like customs.
Ideally, public sector officials could also be humble enough to admit when reforms are not working as expected. And that opens the door for improvement.
That is the case, fortunately, for the present BOC leadership.
The good news is that these reformists don’t need to shoulder the burden alone, if they continue to share information that helps us better describe what we are up against. This is what we have attempted to do just now.
(The article reflects the personal opinion of the author and does not reflect the official stand of the Management Association of the Philippines. The author is an Associate Professor of Economics at the Asian Institute of Management and concurrently serves as Executive Director of the AIM Policy Center. He thanks Ser Percival Pena-Reyes for his inputs for this article. Feedback at <[email protected]> and <[email protected]>. For previous articles, please visit <map.org.ph>)
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