Comparing profits

Imagine, the French government was prepared to nationalise Arcelor Mittal to protect 650 redundancies, what is capitalism coming too? Dubbed as the clash of steel, the French abandoned the threat only after Lakshmi Mittal agreed to invest further and cancel the redundancies; the high spirited sages of free markets were conspicuous by their absence all through the faceoff between the government and the private sector.

What is indeed quite curious is the French government’s belief that it had a right to intervene aggressively in a business decision of a private entity, solely to protect employment of 650 people only. If a private entity can be coerced into digesting unwanted costs than over employment in public sector entities should be palatable. Exactly the argument in the earlier article titled “Cost or Profit”.

In separate news Regulators in the United States of America proposed a fine of USD 470 million on an international bank, which was accused of manipulating energy markets rates in California. The Bank will obviously contest. Was it not a couple of months ago that another bank settled allegation of anti-money laundering laws designed to target Iran, in particular. Perhaps a detailed search on the internet might even open a Pandora’s Box of similar conflicts between governments and the private banking sector, even ignoring the sub-prime and Libor crises.

But exactly what is wrong with this obsessive pursuit of profit by the private sector; is that not the basic tenant of the free market theory? The market is supposed to self regulate, state interference, however minute, is an anathema under capitalism. So why do governments believe that the banking sector needs to be strictly regulated, nudged and monitored? Perhaps because a banking license confers monopoly rights on a national asset, a country’s deposit base, to the recipient thereby entitling the state to dictate terms and conditions. A point elaborated in an earlier article titled “Monopoly profit revisited”.

“The US government has temporarily banned BP from new federal contracts over its “lack of business integrity” in the Deepwater Horizon oil spill in 2010, a move that could imperil the British energy giant’s US footing,” according to Aljazeera. The decision on the face of it is motivated by environmental concerns; on the other hand, conspiratorially speaking, national assets are being protected from foreign interests. This series on profit has time and again espoused the importance of national assets and the need to protect them.

Apparently, the ninety nine percent have yet to digest CEO remunerations. “A failure by the Government to clamp down on executive pay is to blame for the growing wealth gap between fat-cat bosses and the general workforce, according to a report out today,” The Independent. In spite of severe criticism, business leaders’ pays rose by 12% during the last financial year.

But how is the government responsible if the shareholders are unable to reverse this trend? If companies believe that their top management packages are commensurate with performance, then the government cannot, short of nationalisation, interfere in their private affairs. Notwithstanding the debate on what is the right amount of pay packages at that level, curtailing profit-makers remuneration can be hazardous to economic growth. The ability to make profit is a gift; public policy should not be geared towards de-motivating profit-makers, au contraire the state needs to identify such skills and employ them for managing public assets. Addressing inequality by forcibly reducing income at the top might be an easier policy but perhaps a better course of action might be to increase the pie.

“Amazon, Google and Starbucks have been accused of an “immoral” use of secretive jurisdictions, royalties and complex company structures to avoid paying tax on British profits by a committee of MPs,” The Guardian. But why? Firstly, business has nothing to do with morality and secondly taking benefit of existing provision of law can hardly be considered immoral. Avoidance is different from evasion, in the former case businesses are expected to and should take every measure to reduce costs, the latter is a crime. Exemptions and rebates are included in the tax legislations as an incentive for Foreign Direct Investment (FDI) to foster economic growth. Accordingly, MNCs after upholding their part of the bargain, through provision of employment, needed capital and economic activity, are justified in claiming their pound of flesh, so what is the fuss about?

Is this the beginning of a new perspective on FDI in the west? Read with news where IMF has been stated to endorse nation’s use of capital controls in certain circumstances, the signs indeed appear ominous.

Interestingly, the news experts commented upon above relate to the very recent past and made headlines. The objective here was not to gloat but to simply identify that the tide is changing; the wolf now appears in sheep’s clothing. Across the globe, nations are rising to the need of protecting their interests and capitalism is the casualty, believe it or not. But what exactly is wrong with the private sector making profits?

In essence, nothing! Cajoled and courted to invest much needed capital, the private sector is entitled to its reasonable profits, and what is reasonable, should always be determined by the markets. But what sectors should be left to the market is what the state needs to take cognisance of.

In all cases, free market competition will eventually result in a winner, a monopoly or oligopoly, who will then hasten to set up entry barriers to avoid future competition. At that point in time, the monopolist will enjoy the power to set price which can only be constrained by alternate options or consumer choice. Unbridled environment will result in exorbitant prices and humongous profits, a business will charge what it can get away with, which is again all fine, except when necessity is the customer. To elaborate, when a commodity falls under the definition of a scarce necessity, pricing power should invariably vest with the state otherwise it will be a cost for the nation.

The difference between a luxury item and a necessary commodity is the existence of choice in the case of the former. Frankly, if consumers are willing to pay excessively for coffee, it’s a personal choice, forced to overpay for basic bread, it’s a crime. Pricing power in the case of a luxury is to the credit of the entrepreneur, in the case of a necessity it is a debit to the nation. Unavoidable burgeoning costs relating to a scarce necessity are inflationary and sap critical resources from the system reinforcing inequality. Even when such consumption is subsidised, it is a drain on budgetary resources.

The critics will lament that the reverse option is a planned economy. Perhaps or perhaps it is a hybrid, nonetheless wisdom demands awareness of one’s limitations and the will to live within such means. Consumer choice and satisfaction for selected segments of society is an unreasonable excuse for pawning the entire nation’s future. At the end of day, there is no thumb rule when comparing public or private profit, the guiding factor is solely what is right in the best interest of the nation.

(The writer is a chartered accountant based in Islamabad)