An Echelon Media Company
Tuesday December 7th, 2021
Arthashasthra

What the Sri Lanka state should prioritize

ECONOMYNEXT – Currently, the Sri Lankan state does many things, badly. Despite having a strong public health system and months to get ready, it has failed to deploy the vaccines in an orderly manner. It is building expressways while cancelling public transport enhancements.

Sri Lanka needs a state that does many things well, or at least a few things well.

What are the few things that the Sri Lankan state should do well? After it has mastered delivery of the highest priority services, it can start on the lower-priority tasks.

In Part 1 (Core elements of a Sri Lanka state; public goods, national defence, justice: Arthashastra) the misguided priorities regarding public goods, including national defense, law and order and justice were discussed.

Failures to control market power were demonstrated along with a mixed report on actions to address high levels of information asymmetry.

Read Previous columns

Arthashasthra, for new thinking on Sri Lanka statecraft

Actions needed to remedy problems caused by negative externalities and to optimize gains from positive externalities are discussed below.

Externalities

Externalities occur when the actions of a person or organization impact those with whom there is no relationship or contract.

When the impact is a good one, it is described as a positive externality.

One may stand in line and obtain a COVID19 vaccine to prevent oneself from getting infected, having to be quarantined, and suffering various ill effects, including death.

But this action has benefits for unconnected others. The more people get vaccinated, the quicker the spread of the disease is halted.

Even those who refuse to get vaccinated benefit from the actions of those who do. That is a positive externality.

If people think they gain the benefits of a disease-free environment through the positive externalities only, they may avoid the injections and the associated discomforts.

If too many people think like this, the social benefits of vaccination will not be realized, and the disease may continue to linger.

Here, the state may have to step in, providing inducements for vaccination and perhaps even coercion against anti-vaxxers.

People who do not get vaccinated and who do not follow safe health practices, may suffer the direct consequences.

But their behaviors will also affect others, by spreading infection or delaying the return to normalcy. That is an example of a negative externality.

The extraction of water through a tube well on private property may be quite legal.

But if too much water is pumped out, wells in the vicinity may go dry or salinity in the groundwater may increase affecting parties with whom the person responsible has no relationship. This is another example of a negative externality.

Because no immediate consequences follow, it is likely that too much water will be drawn, with negative effects being experienced by unconnected persons.

If some action is not taken by the state, the end result may be no drinkable water for anyone.

But it must be emphasized that the only solutions are not the banning of groundwater extraction or daily inspections of each tube well.

The workable solutions may range from assigning clear private property rights to groundwater and letting the parties negotiate; to having multiple tube wells feed into a common tank, from which metered access is provided to all with entitlements, and various forms of regulation.

The trouble with externalities

Many define public goods too broadly, for example claiming that all goods and services now provided by the state are public goods and must therefore be continued to be provided by the public sector.

In the same way, there is a tendency to see positive and negative externalities everywhere, thereby providing expansive justifications for state intervention or supply.

It is true that people living by, and using, the Galle Road will gain some benefits from the diversion of long-distance traffic to the Southern Expressway.

But by itself this does not justify the massive costs of building the Expressway.

The economic justification for the new road must be made on the ground of other factors such as enabling agricultural exports, making feasible the location of new factories and the value of faster movements of tourists from airport to resort.

Reduced congestion and fatalities on Galle Road are to be appreciated and even factored into the overall cost-benefit calculation, but they cannot be the principal rationale.

The direct benefits that flow to users of the Expressway Users can be recovered through tolls, even if the revenues do not cover all costs.

Because of the positive external benefits, the state can commission the construction of the expressway and provide viability gap financing.

It is for this gap financing that comes from the taxpayer that it would be necessary to have justifications based on different kinds of externalities.

A similar logic applies to urban public transport, except for the fact that the gap financing is not just at the outset and one-time.

Perhaps except for public transport in Hong Kong, an extraordinarily densely populated place, all urban transport systems cannot cover their costs and require continuing subsidies.

These subsidies can be justified based on the overall effects on the quality of urban life.

Without public transport which can make the most efficient use of road space, there would be a need for more and more road construction not necessarily resulting in faster traffic movement but guaranteeing higher air and sound pollution.

Public transport is a service that can and should be charged for, but because of the considerable externalities associated with it, there is a strong justification for continuing operational subsidies.

Depending on circumstances, it may even extend to taxis or specialized off-peak forms of transport.

Externalities and state involvement

Positive and negative externalities may be interpreted broadly or narrowly. Here, the capacity of the state must be factored in. If the state machinery works well, like in Scandinavia or in Singapore, one could afford to have an expansive definition of significance.

But when the state is like ours, which lacks capacity despite being 1.4 million strong, narrowly defining the significance of externalities would be wise.

Finally, there is a possibility of a range of roles.

Just because a significant externality exists, the state should not take on all aspects of supply.

How much it should take on should be decided by state capacity and the competing demands for its limited resources.

The state can intervene as regulator, but even here, there are gradations.

A child with a noisy toy can create negative externalities for neighbors in the form of sleep and peace destroying noise.

But that does not justify a regulatory body to set decibel and other standards for noisy toys and sending out troops of inspectors to conduct raids on homes to see if toys are under lock and key during evening and mornings.

It is only the very serious externalities associated with urban living, such as the rearing of livestock in cities or the use of incendiary devices and materials that merit the attention of the state.

Given enough time and stable technology, people can come up with workable arrangements to manage externalities. Traditional ways existed in the Jaffna peninsula to manage groundwater extraction.

It was with automated pumps and sophisticated drilling equipment that the old ways got destabilized.

If the damage is rapid, severe and irreversible, the earlier conclusion that the externalities were not worthy of state intervention may be revised.

State capacity should be the critical deciding factor is deciding which externalities merit intervention.

But unfortunately, these decisions tend to be taken on the whims of politicians and senior officials, rather than sober consideration of state capacity.

Interventions that may be justified in Singapore may not be justifiable in the context of the less efficient state machinery here.

Do externalities justify supply by state owned enterprises?

People are used to state-owned and operated postal monopolies. In country after country, they are losing money and failing to provide services of adequate quality.

Even after people stop writing letters and all bills are delivered electronically, there would still be a need for package delivery (until 3-D printing becomes the norm!).

The senders and the receivers would directly benefit, but there are external benefits such as less demand for expensive real estate for bricks-and-mortar retail facilities.

Quality and price are best addressed through competition. But like in any network industry, competing providers will require interconnection.

New entrants will face major barriers unless fair interconnection is enforced to allow packages from one network to be carried by another, or at least delivered to the same mailboxes.

This means regulation as in telecommunications, but lighter.

Attention may also have to be paid to ensuring service in high-cost areas if competition fails to do so.

Ideally, the state’s role would be limited to that of regulator, with all competing providers being private. But given a pre-existing organization and work force, it is likely that a legacy provider will be present.

Unless its work culture is changed, it will be unable to compete with lean competitors and continue to be a burden on the taxpayer.

The only way to avoid this would be through a public-private partnership, whereby a private entity would be empowered to introduce a new work culture. Gradually, state ownership may be phased out, leaving only the regulatory function.

As illustrated above, rules may be used as the basis for a political conversation about the priorities for the state. Different political conversations will yield answers appropriate for the specific circumstances.

Read Part I of this column here: Core elements of a Sri Lanka state; public goods, national defence, justice: Arthashastra

Rohan Samarajiva is founding Chair of LIRNEasia, an ICT policy and regulation think tank active across emerging Asia. In Artharshastra, he looks at how to arrest Sri Lanka’s declining state capacity and re-orient it to current and future needs.

Samarajiva was Policy Advisor to the Ministry of Post and Telecom in Bangladesh (2006-09). He has also been a policy advisor for The Sri Lnaka govermment and was Director General of Telecommunications in Sri Lanka (1998-99), when key reforms were made.

He is a member of the UN Global Pulse Advisory Group on the Governance of Data and Artificial Intelligence. Information lives of the poor: Fighting poverty with technology which he co-authored in 2013 had been published in Burmese, English, French and Spanish.

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