Protection, distortions and investment incentives in Zaire

Journal of Development Economics 22 (1986) 295--319. North-Holland

PROTECTION, DISTORTIONS AND INVESTMENT INCENTIVES IN ZAIRE

A Quantitative. Analysis* Eckhard SIGGEL Concordia University, Montreal, Que., Canada H3G 1M8 Received August 1984, final version received August 1985 This paper analyses the incidence of various trade and investment policies and their impact on the resource allocation of a small, open developing economy, Zaire. It is based on the premise that resource pulls are better measured by the protection of profits than that of value added. The study shows that in Zaire the incentives and disincentives provided by various policies counteract each other and partially defeat their purpose. Evidence of such contradictions is provided by comparing effective rates of protection with measures of distortional taxes and subsidies, as well as a measure of total profit protection. While most of the quantitative analysis is based on data of 1970/72, effective protection is also estimated for the present time following the devaluation in 1983 and various measures of exchange liberalization.

1. Introduction The purpose of this paper is to analyse the structure of protection and incentives in Z~re, first at the beginning of the 1970s and then at the present moment, following the 1983/84 reforms. Some consideration will be given to the intermediate period when evidence is available. The study of protection and other incentives in Z~ire is of particular interest since this country has applied a wide range of such policy tools during the last 15 years. The study concludes that Z~ire's trade and incentive policies counteracted each other and collectively defeated their individual purpose. It also demonstrates that the imposition of extensive controls did not solve the problems of fundamental disequilibrium, that a return to a liberal trade and exchange regime was the logical answer to this problem and, finally, that the present trade regime needs further adjustments in order to avoid a repetition of the policy sequence and difficulties of the 1970s. The next section reviews the policy environment in Z~fire focusing on the trade, exchange and incentive re~mes. Section 3 explains the method of *An earlier version of this paper was presented at the IV Latin American Meetings of the Econometric Society, Santiago, 1983; the more recent part of the research has benefited from a grant of the SSHRC of Canada. The author wishes to thank Theresa Jeanneret, Philippe Callier, and an anonymous reader for helpful comments. 0304-3878/86/$3.50 © 1986, Elsevier Science Publishers B.V. (North-Holland)

296

E. Siggel, Protection, distortions and investment incentives in Za[re

analysis and the nature of the data used. This section may be skipped by readers less interested in the technical aspects of protection measurement. The structure of protection is discussed on the basis of our measurements in section four. Policy and methodological conclusions complete the study.

2. The trade, exchange and incentive regimes in the 1970s The period since the monetary reform in 1967 can be subdivided, in terms of policy orientation , into three phases. The first five years were characterized by liberal trade and exchange regimes. The second five year period witnessed increasing controls and foreign exchange disequilibrium. After 1978, policies have tended, to rely again more on market forces, but multiple exchange rates and controls continued to exist until the introduction of a flexible exchange rate and devaluation in 1983. Since these three phases are most clearly identified by reference to foreign exchange regulations we shall first focus on the payments system before reviewing the tariff regime and investment incentives.

2.1. Foreign exchange regulations The exchange regime that prevailed during the 1970s was based on the monetary reform of 1967 and a series of subsequent regulations in 1968 and 1969 abolishing import controls and permitting the free transfer of factor payments. 1 The exchange regime thus established was fairly liberal. The only exception to the freedom of international transactions concerned capital flows which continued to be controlled in accordance with the stipulations of the Investment Code and contracts made under this code. The exchange rate of Za'ire's currency, the za'ire (Z), was first pegged to the Belgian franc at the rate of Z1 =FB100, but after 1971 the currency was tied to the U.S. dollar at a rate of Z0.5 per U.S.S. The parallel market continued to exist and its rate, which had been only 5 to 10% above the official rate in 1968, rose to Z1.37/FB100 in 1969. This generated an incentive for expatriates who were entitled to salaries in foreign currency, to exchange them into za'ires in the parallel market. The main sources of foreign currency in this market were the revenue from illegally exported diamonds, and the demand for foreign exchange emanated mainly from importers evading import taxation, as well as from businesses transferring untaxed profits abroad. The Government progressively reinforced controls on illegal exchange transactions but these measures failed to prevent the growth of the parallel market. In 1971 it introduced legislation limiting the payment of expatriate salaries in foreign 'Most of the information in this section is drawn from the yearly reports of the Central Bank (Banque du Zaire, volumes 1967 to 1983); some facts and opinions were gathered in 1985 through interviews with government officials and industrialists; others, relating to the earlier subperiod are based on an extensive industry survey undertaken by this author in 1976.

E. Siggel, Protection, distortions and investment incentives in Za~re

297

exchange to a maximum of 50~. All foreign exchange payments other than those from convertible accounts became illegal. The Government also introduced controls to prevent under-billing of exports and over-billing of imports which were practiced with the purpose of transferring capital. In 1973, which marks the beginning of phase II (that is, the move from liberalism to state interventionism), import licensing was imposed on beer, water, soft drinks and cement. Further products were submitted to licensing in 1974 (dried and salted fish, art objects and luxury goods) and in 1975 (clothing, some textiles and carpets). In order to reduce production stoppages caused by foreign exchange shortage and to avoid shortages of basic consumption goods two different exchange systems were created, one for essential goods (food, pharmaceuticals and industrial inputs) which could be imported without prior authorization of the Central Bank, and all other imports, notably those competing with local products as well as imports called S.A.D. (sans achat de devises), 2 which needed prior authorization. The Banque du Za'ire also started to require all banks to surrender 30~ of their foreign exchange revenue for its own needs, particularly the service of foreign debt, while the remaining 70~ had to be used in predetermined proportions with not more than 25% for invisibles. In view of persisting foreign exchange scarcity the Central Bank tightened the control of imports and exports further through OZAC (Office Za'/rois de Contr61e) at the point of shipping in order to reduce illegal invoicing practices and other types of fraud. However, at the same time it tolerated and even legitimized more and more payments at the parallel market rate so that in 1982/83 the majority of imports were uncontrolled and the parallel market exchange rate was widely used. This moved the economy to phase III, the return to a more liberal re,me. The reason for this move was that more foreign exchange could be generated for the economy by permitting exporters to benefit of the parallel rate and by easing the fiscal pressure on exports. Pursuing the double goal of increasing foreign exchange supply and of reviving the mining sector the Government authorized small scale prospectors to sell gold and diamonds to specific agencies and to retain their earnings in foreign exchange accounts. The proceeds could then be traded at the parallel market rate. The special export tax levied on such sales since 1981 was abolished in 1982. Special arrangements to encourage exports and to use domestic transport services were also made for coffee. All these measures towards exchange liberalization culminated in the devaluation of the official exchange rate by about 80~ in September 1983. The new rate was now very close to the level of the parallel rate. The remaining differential 2S.A.D. imports were those imports that did not involve foreign exchange purchases from the banks. In the beginning these imports drew only on foreign currency held abroad. In the late 1970s they included also foreign exchange procurement directly from exporters and even parallel market operations.

298

E. Siggel, Protection, distortions and investment incentives in Zafre

of 10% was eliminated within the following six months. However, the parallel rate rose again to nearly 10% above the official rate by early 1985, but the parallel market has remained unimportant. Nevertheless, the existence of even a small parallel market as well as the Central Bank's intervention in the foreign exchange market at its weekly fixing, motivated by fiscal and foreign debt constraints, points to a continuing problem of foreign exchange scarcity. The devaluation of 1983 was also accompanied by a new tariff legislation, new regimes of specific industry protection, the preparation of a new investment code, the quasi-abolition of price controls, adjustments of the minimum wage and some tax changes. The evaluation of the main trade barriers and of the major incentives or disincentives to investment will be reviewed in the next section. 2.2. Trade barriers

The basis of the trade regime during the 1970s was the tariff code of 1968 which remained in force until 1983. Many tariff rates were raised during this period, especially those of products with domestic substitutes. Rate decreases or exemptions were rare and concerned only industrial inputs, thus contributing to an increase of protection. The rate structure is analysed in more detail below. On the whole, the tariff system provided increased nominal protection over time. Quantitative restrictions, on the other hand, were not generally applied. The only exception were temporary import controls and prohibition. A number of tariff rates were redundant from the point of view of the producers of competing goods because of price controls. The progressive use and tolerance of the parallel exchange rate after 1980 also contributed to tariff redundancy because the nominal rates continued to be applied to the border price (c.i.f.) translated into local currency at the official exchange rate, while products were increasingly being sold at prices based on the parallel exchange rate. The incidence of the tariff was thus reduced to one fifth of the nominal rate. On the other hand, price controls which had been a cause of tariff redundancy in the earlier 1970s were increasingly deluded as a consequence of the declining capacity of the authorities to control prices in the face of accelerating inflation and of the increasing importance of transactions at the parallel exchange rate. The new tariff code of 1983 simplified the former legislation by reducing the number of import duties from four to one (excluding the sales tax). The level of nominal rates of protection was roughly maintained while the rates of those imported inputs which did not have local substitutes were lowered. The resulting effective protection and its intra-industry variation are therefore increased, as documented in section 4.1. The Government is presently reviewing the protective structure and may be persuaded to introduce a more uniform tariff structure.

E. Siggel, Protection, distortions and investment incentives in Za~re

299

Exports have been subject to several taxes during the whole study period. In addition to the sales tax of 7%, there have been an export duty varying according to the kind of exports, a statistical tax of 1% and a temporary export surtax. The new trade regime of 1983 includes some stipulations designed to promote exports. Export duties for manufactured goods have been abolished while they continue to be levied on mineral and agricultural exports. Elimination of the sales tax for exports is under discussion. Major changes are also required with respect to export formalities and controls which still create a disincentive to export.

2.3. Policies promoting investments One of the corner stones of the open and relatively liberal economic system of Za'ire in the early 1970s was the investment code of 1969. Its three major functions were (1) to guarantee the investor's property rights including the investor's right to repatriate profits, (2) to offer tax incentives increasing the profitability of investments, and (3) to provide the Investment Commission discretional power in the selection of projects deemed beneficial to the economy. The investment code was modified in 1970 and 1974; in 1979 it was replaced by a new code that is in spirit and form very similar to its predecessor. The 1969 version of the code was the most liberal and generous one and led to a wave of new foreign investments in the early 1970s. The modification of 1974 while maintaining most of the benefits of the earlier legislation made its application more restrictive. It also introduced a new regime of partial tax exoneration for self-financed investments. The presently applicable code of 1979, although still of liberal inspiration, has introduced new restrictions mainly with regard to the origin of funds in foreign-owned ventures (at least 80% must be of foreign origin) and with regard to the ownership of funds (not more than 70% borrowing). The duration of tax benefits is also likely to be shorter with the new code, five years being seen as an upper limit. Whether the investment code has made an important contribution to the economic development in Zaire is an unanswered but interesting question. In the earlier part of the period it has certainly created a climate of confidence and attracted a flow of foreign investments. Some of these investments may have been of doubtful long-term socio-economic benefits so that one may argue that the legislation has contributed to the lack of competitiveness that plagues the industrial sector now. This, in turn, may have led the Government to grant high levels of protection. It must also be remembered that the policies of nationalization (government take-over) and Za'ireanization (replacement of foreigners by nationals) in 1974/75 have contributed to a loss of investor confidence and a generally deteriorated economic climate and that substantial incentives are probably needed to overcome these and other

300

E. Siggel, Protection, distortions and investment incentives in Za~re

disincentives to investments. The new measures limiting borrowing and favouring self-financed investment may hinder the efficient allocation of available capital to the most profitable uses by increasing the fragmentation of the capital market in the country. As to other disincentives it is worthwhile noting, without any detailed analysis, that the fiscal system includes various old and new disincentives, especially the FCD (Fonds des Conventions de Developpement) levy and a surtax on expatriate employment.

3. The data and methods of analysis Before examining the quantitative evidence of the structure of protection and other incentives it is necessary to discuss the nature of the data from the two sub-periods, as well as the methods of measurement used. Since both the data and the methods differ in the two periods the quantitative results are not fully comparable. Both sub-periods have in common that reliable macro data are not available. This deficiency made the quantitative analysis of protection a challenging task. A large set of micro data was used for the first sub-period and estimates of industry input coefficients based on a recent survey were used for the second sub-period.

3.1. The data base The data of the first study period (1970/72) are individual firm data relating to investment projects submitted by new and established firms for approval by the Investment Commission in view of obtaining the benefits of the Investment Code. They were obtained from the Government on a confidential basis and had to be aggregated, to reflect 15 major industries of the 2-digit SIC classification plus four primary industries and construction. The project files include substantial information about the market in which the firms function, the technology they use, the cost structure and the expected benefits. Our sample of 124 projects represents about two thirds of all projects examined by the Investments Commission in the years 1970 to 1974. Data exist for 42 variables, but in most projects some of the data had to be supplemented from other sources, in particular the nominal tariff rates of competitive imports or their prices. For the second study period (1984/85) the data are of an entirely different nature. Since neither firm-level data nor input-output tables are available for this period the rates of protection are based on two types of information: the nominal rates of protection of competitive imports taken from the present tariff code and its most recent changes, and estimates of the coefficients of traded and non-traded inputs based on the 1979/80 enterprise census with some minor adjustments made for the 1983 devaluation. Effective rates of protection (ERPs) for 35 typical products were computed and then ag-

E. Siggel, Protection, distortions and investment incentives in Za?re

301

gregated to the same 20 activities (15 manufacturing industries, four primary industries and construction) as in the 1970/72 sample in order to make the results comparable.

3.2. Methods of analysis The theory of protection, although well established in the literature and in empirical investigations, is still beset with problems of interpretation and measurement. 3 Some of these problems were particularly relevant in the policy environment of Zaire. The present section focuses on four such issues: first, the distinction between utilized and potential protection in conjunction with the problem of tariff redundancy; second, the treatment of non-traded inputs; third, the aggregation problems in cases of super-protection (i.e., when value added at free trade prices is negative) and fourth, the protection of profits rather than value added. The discussion of these four issues relates mainly to the first sample and sub-period (1970/72). In the second su,b-period more standard methods of computing effective protection were used. Details of procedure are reported in appendix B. The reader who is less interested in methodological issues may proceed directly with section 4.

3.2.1. Potential versus utilized protection The effective rate of protection is usually expressed as

(

)/(

ERPi= t i - ~. aot ~ J

1 - ~. aij , J

(1)

j

where a o are the traded input coefficients in world (free trade) prices and ti, tj are the protective tariffs on competitive output (/) and on traded inputs (j), respectively. Leaving the problem of the non-traded inputs aside, the formula provides a correct value of actual protection only if the tariff rates correspond to the differences between domestic and world prices or, in other words, if the tariffs are not redundant. The main reasons for tariff redundancy discussed in the literature are either quantitative restn."ctions or 'excessive' tariffs raising the import prices above their domestic equilibrium levels. 4 In the context of the present study governmental price controls are responsible for domestic prices being lower than world prices plus tariff. To accommodate this fact domestic/world price differences (t*) were estimated for competing and reasonably homogeneous outputs, and t* replaces ti in eq. (1). 3The state of the art is not significantly changed since Bruno (1973) made a similar statement more than ten years ago. 4For instance, Corden (1971, ch. 2, section VI).

J.D.E.-- B

302

E. Siggel, Protection, distortions and investment incentives in Za~re

This rate of protection may be called 'utilized' as opposed to potential rates based on possibly redundant nominal tariffs. 5 While this procedure is reasonable for output prices it poses more problems for imported inputs. The unobservable free-trade coefficients of imported inputs (a~), which can be computed from observed domestic coefficients (fi~j) as ao= fi0~l + ti)/(1 + 0 ,

(2)

assuming no redundancy, are free-trade coefficients only in a partial equilibrium sense. If firms were allowed to adjust fully to world prices this would also change the quantities of intermediate inputs consumed. One is not justified, however, to replace the unobservable ao's by coefficients observed in other countries since this would ignore persistent efficiency differences with respect to input utilization. In the absence of general equilibrium values of a o reflecting full adjustment to world prices it is in our view preferable to follow the traditional procedure of using the observed domestic coefficients and correct them for price differentials as indicated by eq. (2).

3.2.2. Non-traded inputs The data on which the present study is based does not allow for a distinction between tradable and non-tradable goods. They include information on the total sum of imported inputs (Ao) the import duties levied on those imports, and domestic purchases of intermediate goods and services (Ain). Therefore non-traded inputs in this sample refer to all goods and services that are not directly imported. In the methods proposed by Balassa and Corden 6 the non-traded inputs are broken down into imported and domestic value-added components which requires input/output coefficients. This procedure is not applicable here in the absence of input-output tables. Domestically purchased intermediate inputs (Ai,) are treated like imported ones and the excess of their prices over free-trade prices (t,) is estimated by assuming that it is a weighted average of t* and ti according to eq. (3).

tn= t*+ tj.

(3)

The higher weight of t* was chosen because of the strong incidence of price controls in the present data set. Since the Za'ire economy is not very diversified and firms purchasing domestic inputs are often the main outlets for these non-traded goods and services, the prices of the latter are strongly SThe concept of utilized protection is borrowed from Corden (1971) and extended to price controls. SCorden (1971, ch. 7, section II).

303

E. Siggel, Protection, distortions and investment incentives in Za~re

influenced by the protection of the buying firm. The influence of tj in t~ may be explained by the presence of some tradables in the domestic inputs that may be assumed to be priced like competing imports. The weights of eq. (3) were chosen uniformly for all industries, after empirical testing for a few cases where the structure and prices of non-traded inputs is known. With this specification the total expression of ERP becomes

ERP = VAa VAw

1=

PJ(1 + t * ) - ~jA}/(1 + t j ) - ~ , Ad,/(1 + t , )

- 1

t*/(1 +t*)-~.ao(tj/(1 +tj))-~.ai,(t.(1 +t,)) 1/(1 +t*)--~.aij/(1 + t i ) - ~ , a,./(1 +t.)

(4a)

The ERP computed in this way corresponds more closely to the Balassa than the Corden method since it excludes from value added the primary inputs of all backward-linked local activities. In the second sample relating to the present situation the standard way of computing effective rates of protection is used and both the Corden and the Balassa methods are applied. This is possible since exact input data are not available and input coefficients are only crude estimates. A distinction is made, however, between traded inputs with local substitutes, which are substantially protected, traded inputs without local substitutes which are not substantially protected, and non-tradable inputs.

3.2.3. Aggregation problems in cases of super-protection The usual formula of the effective rate of protection gives an inconsistent ranking whenever ERP < - 1, i.e., if value added at free trade prices is zero or negative. This case may be referred to as super-protection. In order to avoid this problem a different definition of effective protection was suggested by Soligo and Stern (1965) as follows: ERP'=

VA d --

VAw/VAd.

(4b)

The values of this measure are not comparable to the nominal rate of protection and the rate of profit protection discussed below, unless one expresses all of these measures in terms of dornestic values as ERP' does. In the present study, in order to keep the measurements as conventional as possible, the problem of inconsistent values of super-protected firms was overcome by eliminating the few cases from the sampl e, in order to calculate industry averages. As a consequence, the rates of protection in several industries are underestimated.

304

E. Siggel, Protection, distortions and investment incentives in Za~re

3.2.4. Protection of profit versus protection of value added The measurement of protection of profits rather than value added was first proposed by Schydlowsky (1967) and has recently been applied in various studies sponsored by the World Bank [Balassa et al. (1982)]. In its simplest form the profit rate of protection (PRP) is

P R P = ( H d - Ilw)/Hw,

(5)

where Hal=domestic net profits or the actual return to own capital, and Hw = free-trade value of net profits where all inputs and outputs are valued at opportunity costs. Domestic profits are obtained by subtracting from domestic value added the actually paid amounts of wages, interests and taxes as well as an appropriate provision for depreciation. World profits (meaning profits computed at free-trade prices) are computed by deducting undistorted values of these payments from world value added. The undistorted values of factor payments and taxes are computed by deducting (or adding) estimated values of the price distortions from the actual factor payments. The main distortions that need such correction are minimum wages, capital-use taxes (in the form of tariffs on capital goods) and subsidies (in the form of interest rate subsidies), indirect taxes as well as special profit subsidies (in the form of corporation income tax exemptions). The basic argument for computing profit rates of protection in addition to ERPs is that resources flow according to levels of profit rather than levels of value added. This argument implies that the prices of labour and borrowed capital are not bid up by a project or an industry under examination. In other words, the supply of these factors is assumed to be infinitely elastic. When evaluating total industries this assumption may seem overly restrictive. On the other hand, when considering disaggregated industries or projects, the assumption may be reasonable. In Za'ire unskilled labour is relatively abundant, and paid the minimum wage. Although the minimum wage is low and hardly sufficient as a family income it is likely to be above its social opportunity costs (SOC). The salaries of higher skilled workers and professionals are internationally determined and the actually paid rates can therefore be assumed to reflect SOC. The SOC of borrowed capital is also determined internationally, but the government keeps the actual cost at subsidized levels. Based on these assumptions one may argue that the rate of return of an individual project is not likely to be reduced by more projects coming on stream. Since the PRP expresses the excess of domestic over world profits as a percentage of the latter this leads to infinite or inconsistent negative values whenever Hw is zero or negative. With high rates of protection and subsidies, negative values of//w are quite likely to occur, so that PRP turns out to be

E. Siggel, Protection, distortions and investment incentives in Za~re

305

a somewhat inoperational measure. The measure used in this study, although one that is not totally free of this problem, is the rate of subsidy to profits (RSP) computed as RSP=(IId-IIw)/VAw,

(6)

where the denominator of eq. (5) is replaced by world value added. Negative world value added poses of course the same problem as negative world profits, but it is less likely to occur than the latter. Since the RSP is expressed as a percentage of world value added, just like the ERP, the difference between them can be broken down into the incidence of various implicit taxes and sudsidies. As argued above, implicit taxes are imposed on labour through minimum wages and on capital through tariffs on capital goods. Consumption and excise taxes, although distorting the price paid by consumers, do not provide protection to producers. Interest rate subsidies and direct profit subsidies increase resource pulls and are taken as distortions. The relationship between RSP and ERP is easily derived as

RSP= ERP + (DS-- DT)/VAw,

(7)

where DS=distortional subsidies (direct or implicit in factor prices), D T= distortional taxes (implicit in factor prices). Rates of subsidy to profit are calculated in this study only for 1970/72 since only the first data base provides the necessary information. 4. The structure of protection and incentives

In the following four paragraphs we present our findings and quantitative evidence. First, the protective effect of trade barriers of the 1970/72 period is examined. Then follows a discussion of the investment incentives and their incidence on economic profitability in the same period. Various biases of the incentive structure are examined in the third paragraph, especially biases with regard to employment effects. The last paragraph deals with the structure of protection at present as it results from the 1983 devaluation and the new tariff code.

4.1. Effective protection in 1970/72 The potential (ti) and utilized (t*) nominal as well as the potential (ERPHYP) and utilized (ERP) effective rates of protection of 20 industries in Za'ire are shown in table 1. The first conclusion that the Government's price controls have worked strongly against industrial protection provided by the

E. Siggel, Protection, distortions and investment incentives in Za[re

306

Table 1 Nominal and effective rates of protection in 20 industries in Zaire, 1970/73 (114 projects, in percent). t~ (1) 1. 2. 3. 4. 5. 6. 7. 8. 9. 10. 11. 12. 13. 14. 15. 16. 17. 18. 19. 20.

Agriculture Forestry Fishery Quarries

Food industries Beverages Fats/oil Textile industry

Primary woodworking Furniture Paper/printing Leather products

Rubber products Chemicals/soap

Petroleum refinery Non-met. minerals Metal products

Transport equipment Miscell. manufacturing Construction

53 20 30 24 24

100 20 40 21 60 0 40 29 43 15 38 28 37 32 0

ERPHYI ~ (2) 134 22 42 24 26 204 76 76 20 80 -14 93 25 73 18 46 36 85 40 -7

t$ (3) -9 - 5 30 24 - 18 -30 20 40 4 46 0 40 19 6 15 17 28 37 28 0

ERP (4) -40 - 13 42 24 -42 -41 76 76 -0.4 44 -14 93 9 -21 18 13 35 85 29 -7

tj (5) 23 16 5 25 20 9 2 25 20 47 22 21 27 31 8 24 23 26 27 19

ERPNET (6) -52 - 30 - 13 -6 - 53 -53 41 41 -20 15 -31 55 - 13 -37 -6 - 10 8 48 - 3 -25

~The t. used in ERPHYP is

~---~t -Lltj. n--3 iT3

tariff can be derived from comparing the utilized and potential rates. The utilized nominal rate (t*) in column (3) differs from the tariff (ti) when the latter was found to be redundant on the basis of comparing the ex-factory price of domestic output with the border price (c.i.f.) plus tariff of competing imports, and when part of the output was exported (exports being taxed rather than protected). In ten industries this price difference was either unobservable due to hetrogeneous output (i.e., the local produce was dearly inferior in quality) or it was found to be not significantly different from zero. In the other ten industries the domestic price was observed to be lower than the word price plus tariff indicating redundancy of the .nominal tariff. On the basis of industry case studies we have concluded that tariff redundancy resulted mainly from price controls. Most strategic consumer goods like bread, beer, soft drinks, soap, food oils, fats and cigarettes were priced following approval by the government and the approval was given on a costplus basis. While price controls were actually enforced at the factory gate level this was not the case for prices at the retail level. Therefore, shortages frequently resulted in high retail margins and generally high profitability of the retail trade. In spite of the possibility of side payments we have

E. Siggel, Protection, distortions and investment incentives in Za~re

307

considered only the official prices since side payments usually benefit individuals and not their organizations. In some cases (e.g., beer and soft drinks) ex-factory prices were observed to be not only lower than the world price plus tariff but lower than the world price itself. Such prices would be expected to choke off imports, but some of these goods were nevertheless imported. This may be explained by the absence of perfect homogeneity of imported and locally produced goods, especially by brand-name loyalty and consumer's prejudice in favour of imports, or by shortages of the local output relative to demand at the low, controlled price. The level of tariff protection in the early 1970s, as reflected by the present sample, was low and varied substantially among industries. In eight industries low and controlled output prices and the presence of import duties on inputs have resulted in very low or negative effective protection. The lowest degree of protection was observed in the food and beverage industries and in agriculture. For agriculture and forestry the negative protection was attributable to the high export share and export taxes in these activities, while in the former two industries price controls were responsible. The highest rates of protection were measured in the leather, automotive, textile and oil and fat industries where tariffs were relatively high and not redundant. The average effective protective rate for the whole sample was - 5 % , in spite of the apparent dominance of positive rates (the unweighted industry mean was 18%). This rate reflects a mean 'utilized' tariff equivalent (t*) of 9% on output (the redundant nominal rate is 40%) and anaverage tariff on inputs of 24%. ERPHYP was usually larger than tl due to the generally escalating nature of the tariff structure in Za'ire in 1970/72, i.e., tariffs on inputs were normally lower than tariffs on final output. The effective rate of protection shown in column (4) does not take into consideration the fact that Za'ire's currency was overvalued, already in 1970/72, at a rate of approximately 25% with respect to a partial-equilibrium exchange rate. 7 Evidence of overvaluation was the existence of a parallel market. Since imported products competing with local ones are rendered especially cheap when the currency is overvalued it follows that the actual protection (net of the overvaluation factor)is lower than ERP. Column (6) shows the net rates for (ERPNET) after adjustment for currency overvaluation. The ranking of industries is not changed since E R P N E T is obtained by a linear transformation of ERP involving the ratio of the official to the equilibrium exchange rate. Price controls and the policy of low output prices for strategic goods in the early seventies may have hurt some industries that were deemed worthy of trade protection, as well as their domestic suppliers, notably the agricul7Cleaver (1975, pp. 52-69) estimated that the official exchange rate was overvalued by 19.2% in 1970, by 37.7% in 1971 and by 21.4% in 1972.

308

E. Siggel, Protection, distortions and investment incentives in Za[re

tural sector. In maize mills, for instance, which are virtual outlets for the production of maize, the price of domestic flour was kept below the price level of imported flour and led to the closure of mills and the decline of traditional food agriculture in southern Za'ire. 4.2. Further incentives and disincentives and the rate of subsidy in 1970/72 In Za'ire three kinds of further incentives (in addition to protection) existed in the 1970/72 period. As already discussed, the most prominent policy instrument designed to stimulate foreign and domestic investments was the Investment Code. It provided incentives in the form of corporation income tax holidays and exemptions from import duties on new capital equipment, as well as a series of numerically less important incentives. The benefits were obtained after application supported by a detailed description of the investment project and the submission of production and cost data and following the approval by the Investment Commission. The second type of incentives, which was also discretionary, consisted of interest rate subsidies granted by the development bank SOFIDE. The third group of measures was nondiscretionary or automatic, but took the form of disincentives. This group of measures included labour use taxes imposed through the minimum wage and excise taxes. More details are provided in appendix A. All these distortions are taken into account simultaneously by calculating 'world pr.ofits' and comparing them to domestic (distorted) profits in the rate of subsidy to profits (RSP) as shown by eq. (6). Since profits are taken as net profits they are computed by deducting from value added all wages and salaries interest on borrowed capital, depreciation, direct and indirect taxes. The RSP values are shown in table 2 [column (5)] where they can be compared with the ERP values [column (1), repeated from table 1]. This comparison suggests that the net additional incentives resulting from distortional subsidies and taxes add to protection in about as many industries (11) as they diminish protection (nine industries), thus contributing only marginally to the total level of encouragement. When comparing the rates of subsidy to profits (RSP) in column (5) with the ERP in column (1) one must remember that RSPs are measured as percentage of VA,, instead of//w and are therefore comparable in a particular sense. Equality between ERP and RSP implies that profits are much more strongly protected than value added since the excess of domestic over world profits is expressed (in RSP) as a percentage of a larger base than would be the case in the corresponding profit rate of protection (PRP) defined by eq. (5). The replacement of PRP by RSP in the present study is necessary because the free-trade values of the profit residual are zero or negative in a large number of cases thus posing problems for aggregation. Another advantage of RSP over PRP is that the numerical difference between ERP

E. Siggel, Protection, distortions and investment incentives in Za[re

309

Table 2 Effective rate of protection, distortional taxes (DT) and subsidies (DS), the rate of subsidy to profits (RSP) and the domestic resource cost ratio (DRCR) in 20 industries in Z~ire, 1970/73 (in percent). ERP rank (1) (la) 1. 2. 3. 4. 5. 6. 7. 8. 9. 10. 11. 12. 13. 14. 15. 16. 17. 18. 19. 20.

Agriculture Forestry Fishery Quarries Food industries Beverages Fats/oil Textile industry Primary woodworking Furniture Paper/printing Leather products Rubber products Chemicals/soap Petroleum refinery Non-met. minerals Metal products Transport equipment Misc. manufacturing Construction

-40 - 13 42 24 -42 -41 76 76 - 1 44 - 14 93 9 -21 18 13 35 85 29 -7

18 15 6 9 20 19 4 3 13 5 16 1 12 17 10 11 7 2 8 14

DT ~ (2) 5 7 6 14 3 19 24 12 8 15 7 13 25 8 7 7 20 40 12 7

DS b

(3) 21 12 19 6 29 31 -16 -14 18 7 20 -2 14 16 54 11 14 18 9 19

Net incentivec (4)=(3)-(2) 16 5 13 -8 26 12 -40 -26 10 -8 13 - 15 -11 8 47 4 -6 -22 -3 12

RSP rank (5) (5a) -24 -8 55 16 -15 -29 35 50 9 36 - 1 79 -2 -13 64 16 29 63 26 5

I9 16 4 10/11 18 20 7 5 12 6 14 1 15 17 2 10/11 8 3 9 13

alncludes labour use and indirect taxes plus capital use tax. blncludes capital use tax and corporate tax exemptions. CRounding may prevent adding up.

and RSP is a measure of the incidence of additional net incentives as shown in column (4), all expressed as a percentage of world value added. In columns (2) and (3) the further incentives and disincentives resulting from various policies are recorded as 'distortional taxes' (DT) including labour use taxes (minimum wage), and capital use taxes (tariffs on capital good imports); and 'distortional subsidies.' (DS) including capital use subsidies (interest rate subsidies on borrowed capital) and exemptions from the corporate income tax. In the whole sample the subsidies (20% of value added) exceeded slightly the taxes (14 percent of value added), so that the aggregate RSP (1%) exceeded the ERP ( - 5 % ) by six points. In 11 industries the net incentives (DS minus D T) were positive and in nine industries negative. The table also shows that in 17 of 20 industries the net incentives have the opposite sign than that of the ERP. One may conclude from this analysis that when all incentives and disincentives are taken together their incidence on the protection of profits is

310

E. Siggel, Protection, distortions and investment incentives in Za~re

only small. Only in four of the 20 industries is the absolute value of net incentives stronger than that of effective protection. The significant correlation between ERP and D T (+54%) and ERP and DS (-59%) also suggests that the net incentives tend to diminish high ERPs and to raise low ones, thus flattening the incentive structure. This conclusion is further supported by evidence of the Investment Commission rejecting projects that are profitable without the benefits of the code, as reported in interviews with officials. The question whether profit protection strongly differs from effective protection is subject to arguments. Numerically ERP and RSP are strongly correlated (correlation coefficients 0.92 at the firm level and 0.90 at the industry level)) This, however, is not surprising when RSP rather than PRP is used; true profit rates of protection (PRP) would differ much more strongly. One may also take the ERP-reversing tendency of the net incentives as evidence of profit protection being significantly different from effective protection, in spite of their high correlation coefficient. 4.3. Policy biases in the structure of protection and incentives

The computed rates of protection and subsidy were used to test several hypotheses concerning policy biases in favour of specific characteristics of investment projects, especially their ability to generate direct and indirect employment and to absorb indigenous rather than higher foreign skills. First, the hypothesis that capital-intensive projects may receive more protection or subsidies than labour-intensive ones is not supported by the sample data. This was unexpected since in earlier case studies we had observed such a bias. For instance, the Investment Commission is known to have favoured in its decisions modern techniques of production and rejected the use of secondhand equipment, although the creation of employment was a policy goal stated explicitly in the 1969 Investment Code. Other examples of possibly inappropriate investment incentives are the promotion of automatic bread baking or the relatively high protection of the synthetic textile industry. The second hypothesis that we tested concerns the relationship between protection and the propensity to import. A correlation coefficient of 0.31 between ERP and the proportion of imports in intermediate inputs (for 114 projects) weakly supports the hypothesis that protection may be counterproductive for the generation of indirect employment as well as for the constant concern of easing the foreign exchange constraint. An equally weak but opposite bias seems to exist between incentives provided through subsidies (interest rate subsidies and tax holidays) and the import propensity of firms. The pro-import bias of the total incentive structure was therefore inferior to the one resulting from tariffs. aFor measures of correlation and variation, see table A.1.

E. Siggel, Protection, distortions and investment incentives in Za~re

311

The correlation between RSP and the proportion of skilled (mainly foreign) labour in total labour payments, although equally weak (0.21), suggests nevertheless a slight tendency for incentives to favour higher foreign skills. These observations cast doubt on the usefulness of the tariff structure (cum price controls) to enhance employment. It seems that employment in backward-linked activities and employment in lower domestic skills did not benefit as much from the incentive structure as did imported and foreign skills. The major limitations of testing the relationships discussed here lies in the fact that the sample data are not necessarily representative of all producing firms, but only of those applying for additional financial support, in other words, firms that were in greater need of protection than older, well established firms.

4.4. The structure of protection today The present (early 1985) structure of protection is the result of a new tariff code introduced in September 1983 and two subsequent changes (April 1984 and March 1985), as well as several directives introduced by the Department of Finance and the customs office OFIDA. In general the tariff structure may be described as strongly but unequally protective of existing industries an¢l complex in administration. Administrative complexity results from the fact that most intermediate inputs may be imported at either a low rate of 3% if used as industrial input or at a higher rate of up to 60% if used for other purposes. The legislation requires the customs office to supervise the bookkeeping and inventory of all industrial enterprises in order to avoid fraudulent imports. Essential features of the tariff structure are as follows: final consumption goods are generally strongly protected with the exception of 'strategic' goods like beer, bread and soap. Duties on luxury goods are especially high. Intermediate inputs bear a low tariff when there are no domestic substitutes and modest rates when domestic substitutes are being produced. Since most industrial inputs are only bearing a 3% import duty while the final output is protected by nominal rates between 10% and 80% the effective rate is often substantial, particularly in cases of low domestic value added. A further feature of the present structure of protection is its discrimination against new intermediate industries. As discussed earlier the tariff on imported intermediate industry inputs is either 3% if there are no domestic substitutes or a higher rate of up to 100% if the product is presently produced in Z~fire. Consequently, the system provides no encouragement to, and in effect discourages, the establishment of new intermediate and capital goods industries, while protecting existing industries. Since most of Za'ire's manufacturing industries exist since more than ten years the protection provided is contrary to the principle of infant industry protection. In

312

E. Siggel, Protection, distortions and investment incentives in Za~re

addition, the dual tariff, depending on the utilization as intermediate or final product, besides imposing a cost of monitoring, encourages the import of intermediate products and discourages their local production. While nominal rates are usually taken to determine the price level of domestic substitutes, this assumption does not always hold. Before liberalization Za'ire's price controls often reduced the level of protection potentially provided by the nominal tariff. This is no longer the case, since price controls are for pratical purposes abolished. 9 For a few products the tariff may nevertheless be redundant in spite of positive imports that may be explained by the prestige image of imported goods. Beer, for instance sells ex-factory at a price well below the border price (c.i.f.) plus tariff, although local beer is of good quality and certainly a good substitute for imported beer. Many domestic products, however, seem to sell at a higher price than the border price plus tariff of equivalent imports. This price difference can be explained by administrative charges associated with import controls by OZAC, special levies for maritime freight (OGEFREM) and the harbour as well as documentary credit charges; it has been estimated by OFIDA as approximately 15% of the border price. 1° It is also likely that part of this price difference results from the scarcity of foreign exchange which still prevails in spite of a formally liberalized exchange regime. On the other hand, there are factors reducing the level of protection afforded by the tariff structure. Such is the case of fraudulent imports that circumvent import duties and are sold in large quantities in domestic markets, for instance the fraudulent import of recycled textiles (friperies). A new feature of the present tariff demonstrating the Government's willingness to protect certain industries at the present level of production costs is the 'gliding tariff'. According to this regulation the sugar, wheat flour and cement industries are provided the amount of protection that is necessary to equalize the cost of imports with the production cost plus a margin of profit. 1~ The sugar industry receives the highest nominal protection (150%) since the present world market price of sugar is low. Wheat flour and cement can also be imported at prices below Za'ire's production cost apparently as a consequence of surpluses in Europe. The gliding tariff provides them with temporary support, but it also fails to induce cost reduction, which may be harmful in the longer run. To the extent that industries export part of their product their average 9Formally, ex-post controls are still legal and are defended by government officials as a protection of consumers against monopolistic pricing. However, we have found no evidence of present price controls. I°OFIDA, 'Innovation douani6re en mati6re de protection contre la pratique de pfix anormaux ~i l'exportation des pays &rangers', Document no. DG/BE/85 5.043, p.3. A conservative estimate of 10% of these charges is used in the values of t* in table 3. 11OFIDA, 'Innovation douani6re en mati6re de protection contre la pratique de prix anormaux ~ l'exportation des pays &rangers', Document no. DG/BE/85 5.043, pp. 1-10.

E. Siggel, Protection, distortions and investment incentives in Za~re

313

protection is lower since exports are still taxed if only at reduced rates. Very few manufacturing industries do export, and if so only small proportions of their output, so that the overall protection is not significantly lowered. It is interesting to note that exporting firms see the main incentive to export in the access to foreign exchange thereby facilitating the import of raw materials and spare parts. This observation confirms that foreign exchange shortage is still a factor to reckon with. The new tariff legislation includes two further re~mes which is evidence of increased protection. First, in addition to a lowered tariff, most imported industrial inputs are also exempted from the sales tax on imports, thus increasing effective protection of the industries concerned. Second, the revised tariff of 1984 provides special protection for the assembly of transport equipment, electrical appliances and electronic/acoustic implements under CKD (complete knockdown) and MKD (medium knockdowo) regimes. In these product categories complete sets of parts can now be imported at 3 ~ (CKD), 15Y/o(MKD) or without any (CKD of transport equipment) import duty, while the import duty on the assembled products has been lowered from the former 180Y/o to a range of 40~ to 60~, varying among products. Since the value added in such assembly operations is typically small, protection can easily amount to several hundred, if not thousand, percent. The regime was introduced in order to stimulate new economic activities of the assembly type. The potential reduction in fiscal revenue due to lower rates is expected to be made up by increased imports of parts as well as through increased direct and sales taxes from assembly operations. From an infant industry standpoint one may be prepared to defend such policies in view of stimulating technology transfers and developing new technological capabilities. The policy may, however, equally result in the establishment of new and permanently inefficient activities. The rates of nominal and effective protection computed for the same industries as in the earlier time period, are shown in table 3. They are considered not more than rough estimates due to the absence of reliable data at the present moment. The method of computation is further described in appendix B but the major cause of uncertainty underlying these estimates is the dual nature of the tariff for many products that are used as both intermediate inputs and final consumption goods. This characteristic of the tariff gives rise to ambiguous pricing pratices and implies, as we have argued earlier, extensive monitoring. The actual level of tariff protection depends in these industries not only on the utilization of the product but also on the effectiveness of the controls, which makes the assessment of protection a difficult task. In spite of this caveat the rates shown in table 3 may be taken as indicators of a generally high level of protection and the existence of sizeable distortions. The average ~ffective protective rate at the industry level is

314

E. Siggel, Protection, distortions and investraent incentives in Za?re

Table 3 Nominal (t*) and effective rates of protection (ERP) in 20 industries in Zaire, 1985 (in percent).

1. Agriculture 2. Forestry 3. Fishery 4. Quarries 5. Food industries 6. Beverages 7. Fats/oils 8. Textile industry 9. Primary woodworking 10. Furniture 11. Paper/printing 12. Leather products 13. Rubber products 14. Chemicals/soap 15. Petroleum refining 16. Non-met. minerals 17. Metal products 18. Transport equipment 19. Misc. manufacturing 20. Construction

t~

t*"

tj a

tk~

(1)

(2)

(3)

(4)

-2 15 30 30 49 10 35 42 45 60 22 70 60 38 12 51 74 60 70 n.a.

3 3 3 3 5 3 3 3 3 3 3 5 3 3 3 3 3 3 3 n.a.

20 20 10 20 30 60 10 10 30 30 15 20 20 50 20 50 30 20 20 n.a.

n.a.b n.a.b 20 30 n.a. c 0 25 32 35 50 12 60 50 28 2 41 ¢ 64 50 60 n.a.

ERP

ERP

Corden (5)

Balassa (6)

- 12 13 50 42 116 5 79 138 66 197 47 238 146 59 36 92 403 172 329 n.a.

- 14 17 62 62 163 7 107 221 81 335 62 396 168 78 46 120 567 322 664 n.a.

aThe 'utilized' nominal rate of protection usually exceeds the potential one by an estimated 10% due to various administrative charges, as well as by a margin attributable to foreign exchange shortage, except as explained in footnotes b and c. bin agriculture and forestry the nominal tariff is of little relevance since a sizeable proportion of output is exported and exports are taxed. CFor sugar and wheat in the food industry and for cement in the non-metallic mineral industry a gliding tariff applies. dt~= tariff on imported inputs without domestic substitutes. etk= tariff on imported inputs with domestic substitutes.

a p p r o x i m a t e l y 116% u s i n g t h e C o r d e n m e t h o d a n d 182% u s i n g t h e B a l a s s a method. At the p r o d u c t level, w h i c h c o r r e s p o n d s often to the firm level a n d m a y t h e r e f o r e be m o r e r e l e v a n t w i t h r e g a r d to t h e i n c e n t i v e s e n c o u n t e r e d by i n d i v i d u a l enterprises, e v e n h i g h e r p r o t e c t i o n levels o f u p t o several t h o u s a n d p e r c e n t w e r e c a l c u l a t e d . I n v i e w o f t h e u n c e r t a i n t i e s o f s u c h e s t i m a t e s it is safer, h o w e v e r , t o c o m p a r e a v e r a g e i n d u s t r y rates. This is a l s o m o r e c o n sistent w i t h t h e i n d u s t r y r a t e s of t h e e a r l i e r p e r i o d s h o w n in t a b l e s 1 a n d 2. T h e c o m p a r i s o n of the p r e s e n t s t r u c t u r e of p r o t e c t i o n w i t h t h a t o f the 1970/72 p e r i o d suggests t h a t the tariff p r o v i d e s in g e n e r a l m o r e p r o t e c t i o n n o w t h a n it d i d in t h e e a r l y 1970s. T h i s is also t r u e w i t h r e s p e c t t o the p e r i o d i m m e d i a t e l y p r e c e d i n g t h e d e v a l u a t i o n o f 1983, b e c a u s e of the

E. Siggel, Protection, distortions and investment incentives in Za~re

315

reduced incidence of the tariff being applied to import values based on the official exchange rate. For the intermediate period it is very difficult to evaluate effective protection, since it depended mainly on the extent to which imports occurred at the official or the parallel exchange rate as well as the extent to which price controls were enforced. 5. Conclusion

The review of trade, exchange and incentive policies in Za'ire as well as their incidence as reflected by effective rates of protection and subsidy has revealed a great need for policy harmoniTation and simplification. If the experience of the 15 years examined can teach any lesson it is that increasingly complex regulations and controls cannot outsmart the fundamental motives of the economic agents. They will just add to the bureaucratic and law enforcement burden and still end up with more fraud, bribery and the implied redistribution of wealth from the weak to the powerful and ruthless. Many policies in the past were well intended but thier impact remained weak or even unwanted because their effects were either poorly understood or lacked consistency with respect to other policies. During the early years of the study period the trade regime provided relatively modest effective protection since nominal rates were frequently redundant due to price controls. In the later 1970s when the parallel exchange market grew in importance and price controls became less effective protection generally increased, but much less than the nominal rates suggested. Redundancy then resulted from the application of the tariff to officialexchange-rate-based prices. The incidence of the tariff was also unequal among firms depending on how effective controls were and on what exchange rate traders and producers were able to use. The 1983 devaluation and elimination of price controls have reduced some major distortions in the price system but the new tariff regime has reinforced protection to some industries thus creating new distortions and discriminating against new industries. Some highly protected industries like the steel industry are known to be financially and economically unprofitable. The study has shown in some detail that various incentive measures counter-acted each other and partially defeated their purpose. This conclusion was documented in detail only for the earlier period since the measurement of profit protection was not possible in the post-1983 period, but it is likely to hold as well for the present situation. The fiscal system continues to provide various disincentives to production and to exports. The issues raised in this paper also lead to three major conclusions of a theoretical or methodological nature. First, the computation of effective rates of protection is meaningful only when actual domestic/world price differentials are used. Price controls have rarely been considered as a source of tariff

316

E. Siggel, Protection, distortions and investment incentives in Zafre

redundancy but are sometimes very important. Second, the treatment of nontraded inputs usually poses problems that vary with the kind of data being available. Alternative assumptions to those underlying the Balassa and Corden methods may be considered. Two such alternatives were explored here. Third, the concept of profit protection is an important addition to the~ theory of protection. In its pure form (PRP) it is often rendered inoperational through the possibility and likelihood of zero or negative freetrade profit residuals. This problem can be overcome, at least partially, by the use of the rate of subsidy to profits (RSP) used in this paper.

Appendix A: Note on the computation of the rate of subsidy to profits (RSP) The rate of subsidy to profits as simplified in eq. (6) was computed according to the following formula:

RSP,=( (V~-VT')- E¢A~-A~j)- E(Ai.--A,.)--(W~--W~.) w

i

"

(Id--IW)--(Dd--DW) -

T~-(T~--17~gd~)

I/7(-- E

ti-

Ain

J

( Va(__~ ~_ ~ Aa..( t, ~_ A. ( t. ~_ W:( t, =\ \l+t,/ z7' 'J~,l+tiff ~ "\l+t.ff \l+tw] \l +t,,I

\l +tkJ T'L--(T~--II~gd~)t~

(V'/(l+t')--~[Ao/(l+tj)]--~'[AiJ(l+t")])

(A.1)

where

v,

= domestic and world values of output (i), = proportional excess of the domestic over the world price of output, t* d w Ao, Ao = domestic and world values of imported inputs (j), = proportional, rate of import duties on imported inputs (actually tj paid), A~.,A,w = domestic and world values of non-traded inputs, = proportional excess of actual domestic over equilibrium prices tn (tariff equivalent home goods deflator),

E. Siggel, Protection, distortions and investment incentives .in Zafre,

317

market and shadow values of unskilled wages, t w - ~ - proportional excess of market over shadow wage rates of unskilled labour, I d, I w = actual (subsidized) and shadow values of interest payments for borrowed capital, tr -~ proportional excess of actually paid over shadow interest rate (usually <0), D a, D w = actual and corrected values of depreciation, tk = proportional excess of actual depreciation over its shadow value; corresponds to the tariff rate on imported capitalequipment, T ed --__ all indirect (consumption and excise) taxes actually paid, T~ = corporation income tax actually paid (equals zero for projects approved by the Investment Commission), IIg~ = gross profits at world prices, vd/(1 + t * ) - ~. [A,/(1 + tj)] -- ~ lAin~(1 + t~)] wz

=

.J

!I

-- W~/(1 + t w ) - Ws-- Id/(1 + t,) -- Dd/(1 + tk),

skilled wages, proportional rate of corporate income tax.

S tc

For projects benefiting from theadvantages provided by the Investment Code the depreciation term in domestic profits changes to Dd/(l+tk). This implies that the duty-exempted firms have their capital cost lowered by the rate of tk. Approved projects also benefit from a total income tax exemption (i.e., T~=0). The implicit subsidies and taxes by which actual profits differ from free trade ('world') profits are as follows: For the computation of world profits the interest on borrowed capital is adjusted to reflect international opportunity costs. This interest rate was estimated by Cleaver (1974, pp. 47-49) as 16%. Many projects in the sample have benefited from interest rate subsidies in the form of lower interest rates offered by the development bank SOFIDE (Societ6 de Financemerit du Developpement). In some cases the interest actually paid was only 5% to 6% resulting in a substantial subsidy. Capital.

For the computation of world profits all salaries and wages to skilled labour categories are evaluated at market prices, i.e., the actually paid amounts, assuming that they are in short supply. Unskilled labour is valued at shadow wages reflecting its opportunity cost. The shadow wage of unskilled labour used here was calculated elsewhere as an average of the very low marginal product in agriculture and wages in the informal urban sector [-Cleaver (1974, pp. 37--47)]. Labour.

318

E. Siggel, P r o t e c t i o n , d i s t o r t i o n s a n d i n v e s t m e n t i n c e n t i v e s in Z a ~ r e T a b l e A.1

Mean,

variance and correlation coefficients of rates of protection 114 f i r m s , Z a i r e , 1 9 7 0 / 7 2 .

Industry level

Firm/project level Aggreg. mean ti t* ERPHYP ERP ERPNE T RSP ti-t~ t~ - - E R P H Y P ERP -- RSP

0.40 0.09 1.08 -0.05 - 0.24 0.01 ----

Variance 0.07 0.07 405.9 0.37 0.00 0.21 --~

and subsidy in the sample of

Correl. coeff, -------0.20 0.68 0.92

Unweighted mean 0.33 0.15 1.22 0.18 - 0.05 0.20 ----

Variance 0.05 0.04 13.0 0.18 O. 11 0.09 ----

Correl. coeff. -------0.11 n.a. 0.90

While the corporation income tax is perceived as a normal and undistorting tax fully deducted from world profits, consumption and excise taxes are treated as distortions in the same way as import duties, i.e., they are not deducted from gross world profits. Since excise taxes are fully shifted to consumers (in the presence of imports) they do not affect effective protection. This is not so for the rate of subsidy to profits when world profits are computed at world prices of traded inputs and outputs, and at shadow prices of domestic resources. Taxes.

Appendix B: Note on the computation of effective rates of protection in 1985 In the absence of input--output tables or reliable data at the enterprise level the present effective rates of protection were calculated by applying the presently valid nominal rates to the principal inputs and outputs, as well as estimated input coefficients. This was done for 38 major industrial products representing at least 70% of output in each industry. The product-level rates were then aggregated to 19 industry-level rates by using the proportions of output as weights. Tradable inputs are separated into (a) those without local substitutes imported at low (usually 3%) import duties as well as indirectly imported inputs with the same import duty, and (b) inputs with local substitutes that are substantially more protected (between 10% and 60%). The balance of total inputs are treated as non-tradables and are either included in value added (Corden method) or deducted by assuming zero effective protection (Balassa method). All input coefficients are estimates based on data of two enterprise censuses (1970 and 1980) and adjustments made for the effects of the 1983 devaluation. The values obtained should therefore be understood as approximations reflecting the average level of

E. Siggel, Protection, distortions and investment incentives in Za~re

319

protection as well as the strong variation among products. A ranking is not being established due to the uncertainty underlying such estimates. The nominal rates of protection are utilized rather than potential ones in the sense that they include not only the nominal import duty but also administrative charges of roughly 15% as reported by OFIDA. The rates exclude the sales and excise taxes since these also apply to local production. Sales tax exonerations on the input side are offset against banking and administrative charges of imported inputs. References Balassa, B. et al., 1971, The structure of protection in developing countries (Johns Hopkins University Press, Baltimore, MD, for the World Bank). Balassa, B., et al., 1982, Development strategies in semi-industrial economies (Johns Hopkins University Press, Baltimore, MD). Banque du Zaire, 1971-1983, Rapport annuel, volumes 1971 to 1983. Bruno, M., 1973, Protection and tariff change under general equilibrium, Journal of International Economics 3, 205-226. Cleaver, K.M., 1974, The evaluation of private industrial projects in terms of community objectives, Cahiers Economiques et Sociaux (IRES, Kinshasa) XII, no. 3. Cleaver, K.M., 1975, The effective rate of subsidy and resource allocation in Zaire, Unpublished Ph.D. thesis (Fletcher School of Diplomacy, Corozal). Corden, W.M., 1971, The theory of protection (Clarendon, Oxford). Krueger, A.O., 1983, Trade policies in developing countries, Seminar paper no. 249 (Institute for International Economic Studies, University of Stockholm). Schydlowsky, D., 1967, Effective rates of protection and allocation of resources in a competitive economy, Mimeo. (Harvard University, Cambridge, MA). Soligo, R. and J.J. Stern, 1965, Tariff protection, import substitution and investment efficiency, Pakistan Development Review 5, Summer.