March 2010, No. 55

Economy

High Tariffs Are No Remedy

One of the most important negative consequences of high tariffs is increased profit margin for illegal imports and attraction of goods smuggling.

The Iranian students’ news agency, ISNA, reported recently that out of 183 member countries of the World Trade Organization and 30 observer members of the organization, Iran ranked the third in terms of high tariffs.

Out of those 183 countries only Bahamas and Djibouti had higher tariffs. Why tariffs are so high in our country and what would be their consequences? Customs tariffs follow two basic goals; firstly, to assure government income (like taxes) and, secondly, to support part of domestic products which need support. Governments in all countries like higher revenues and domestic producers always increase tariffs on their end products. However, apart from restrictions imposed by the World Trade Organization (WTO) regulations or the risk of retaliation by other countries, excessive increase in tariffs will have untoward consequences which will make policymakers think twice before deciding on tariffs.

One of the most important negative consequences of high tariffs is increased profit margin for illegal imports and attraction of goods smuggling. Various studies in different countries have shown that excessive rise in tariffs can not only damage domestic economy and even producers of supported commodities, but can also reduce customs revenues of governments. Since tariff rates in Iran are the highest in the world, excluding the aforesaid two insignificant countries, their negative consequences should be easier to recognize. Goods smuggling exists in most parts of the world, but its intensity is a function of not only general corruption in economic spheres of countries, but also a function of tariffs (and non-tariff obstacles) which make illegal imports more attractive. Apart from these factors, the higher a commodity’s value compared to its weight and volume the lower will be the risks of illegal import of that commodity into the country. This would increase the profit margin of that commodity and encourage smuggling.

Why such high tariffs have not been able to support domestic production and Iranian produces are still facing limited markets and are marginalized?

Nobody knows the exact amount and value of goods smuggled into Iran every year. The lowest figure announced is 6 billion dollars a year, which if judged according to available evidences, it should be much less than the actual figure. However, other figures produced on smuggling are so staggering that it is difficult to accept them. As put by a member of Majlis (Parliament) Industries and Mines Commission, during a commission meeting in December 2009 which was attended by head of the Headquarters to Fight Smuggling of Goods and Foreign Exchange, Majlis deputies mentioned figures between 8,000-20,000 billion tomans on smuggling which had been given to them by officials in charge of fighting smuggling. The MP, who noted that “goods smuggling through official frontiers and in the open daylight” was regrettable, added that according to president of the Islamic Republic of Iran Customs Administration, goods smuggling is not an affair of a special organization and “the government should take serious steps to curb it.”

According to another informed source, based on the latest studies carried out by concerned authorities, the total volume of smuggled goods amounted to 19.2 billion dollars in 2008. Based on the same report, out of the aforesaid figure, 16 billion dollars pertained to imports and 3.2 billion dollars was attributed to exports. The report showed that 2.5 billion dollars worth of smuggled goods enters the country through official border crossings and 13.5 billion dollars enters through unofficial crossings. Before that report, the headquarters to Fight Smuggling of Goods and Foreign Exchange had noted that the total volume of smuggling stood at 16 billion dollars. Following a request by the Headquarters, the government put follow-up of smuggling issue on its agenda. Finally, chairman of the Majlis Industries and Mines Commission, noted that excessive imports and smuggling were two major problems facing the Iranian industries, adding, “A total of 56 billion dollars of goods have been imported last year against 17 billion dollars through smuggling.” In other words, contraband has accounted for more than 23 percent of the total goods entering the country.

In view of the above facts regarding the high volume of smuggling and its relation to the size of the smuggled goods, it is natural for such commodities as gold, cellphones and electronic parts to account for the lion’s share of smuggling. According to a report 95 percent of cellphones in the Iranian market are smuggled and another report has put the figure at 97 percent.

However, due to high tariffs and impost and relatively low risk of smuggling, most goods enter Iran illegally even those whose smuggling is not economical in other countries. Clothes, home appliances, fabrics and shoes enjoy a special place among smuggled goods. Of course, electronic devices and LCD television sets are major contraband items. As put by secretary of the Headquarters to Fight Smuggling of Goods and Foreign Exchange, “there is no commodity which is not smuggled into the country.”

Even if figures quoted on the volume of illegal imports to Iran were almost true, they would reveal the loss that the government is suffering from not exacting duties on those imports. The highest loss, however, is incurred on domestic industries and production units. It should be noted that high-ranking officials at the Ministry of Commerce are aware of such risks and have frequently warned producers who call for supportive tariffs about the negative consequences of high tariffs. So, why domestic producers still urge that tariffs should rise and why tariffs in Iran are almost the highest in the world? More importantly, why such high tariffs have not been able to support domestic production and Iranian produces are still facing limited markets and are marginalized?

A full answer to such questions cannot be given here, but in short, since inflation in Iran is higher than neighboring countries and since the government has kept foreign exchange rate constant for many years and the exchange rate for the national currently against other currencies has been fixed at a certain level, the Iranian economy has been dissociated from economic realities of the world and domestic producers have been disarmed in the face of less expensive foreign goods. This issue, which is the most important reason behind high imports and worsening crisis in domestic production companies has greatly reduced profits of legal importers and has increased their losses.

High tariffs raise price of imported goods and facilitate competition with them. Therefore, domestic producers, both in industrial and agriculture sectors, have always called for higher tariffs for rival foreign goods. However, since they think that foreign exchange rate is an “external factor” out of their control, they call for higher tariffs as the sole way to protect their products against foreign goods. In fact, high tariffs will help them to increase their share of the market and outdo foreign produces in the short run. However, although this privilege will lose efficiency in the long run due to illegal imports and the difference between inflation rate in Iran and neighboring countries, domestic producers still continue to call for high tariffs as a short-term remedy to their problems. Officials, who have been aware of the weak ground of domestic producers against foreign counterparts since a long time ago, have kept tariffs up in order to support domestic producers and lower their losses. Economy, however, follows its own rules and ignoring those rules will further increase the cost of economic activities. The main cause for the problem is unreal foreign exchange rate. Therefore, there is no option but to increase tariffs, and create non-tariff barriers in order to keep domestic production going and reduce the number of closed down plants whose workers are now jobless. Unfortunately, this is exactly the mechanism which makes smuggling more attractive and emboldens smugglers who aim to disrupt legal economic activities. Trying to avoid the main cause of the disease and find ephemeral remedies is only inexpensive on the surface. Perhaps, if all accessory costs and lost government revenues as well as lasting damages to industries and employment and, most importantly, spreading economic corruption as a result of widespread smuggling, were taken into consideration, it would become clear that the above mechanism is much more costly than it appears.