Taxes and Jams

This is not a new post, this is actually a repost from an old blog, originally posted here.

After hearing about PKR’s promise that should they take over Putrajaya, they would alleviate the current taxes and duties imposed on foreign cars, my first reaction was to shudder at the thought of worsening traffic due to increased ownership of cars amongst the urbanites. Then I read an article written by Hafiz Noor Shams an economist at IDEAS saying that those who believed so did not understand economics and the substitution effect due to the changes in prices.

Now, I am not an economist, but I do opine that the whole idea of increased traffic congestion due to an uplifting in taxes and duties may not be all too farfetched.

I must agree that the point on the substitution effects is sound, as prices of more superior goods become accessible, people will tend to move from lesser goods to these superior goods.  Just like if the price of butter decreased, more people will move from margarine to butter. Currently, the taxes and duties levied on foreign cars are higher than locally made cars, making them more expensive. By getting rid of these levies people who would have bought the Protons and Peroduas would instead opt for a now more affordable foreign car with much better quality. Therefore, people who could buy cars initially would still buy cars, albeit a foreign one, and thus, traffic was always going to be bad anyway.

However, I think this view is merely looking at one side of the coin, I also believe that the uplifting of these levies would put a downward pressure on prices of cars in the market across the board. As more people now have access to better cars, we can safely predict that Proton and Perodua would start to see their market shares dwindle (who are we kidding, if a Vios can go as low as MYR65K would you really buy a MyVi?). The only way to survive in a much more competitive market would be either to produce better quality cars or to reduce margins and sell cars at cheaper rates and thus capitalize on volumes sold. The short-term option would be to reduce margins and sell cars for cheaper (I don’t actually have the data on the profit margin of Perodua and Proton, but with the current protectionism in place, I wouldn’t be surprised if they are comfortably higher than usual. In the Malaysian Insider article, Rafizi himself has said that a Perodua vehicle can cost as little as 23,000).

As prices drop, people who couldn’t afford cars in the first place now realize that they can, and the more affluent people can afford to have more than one car for their household without stretching their budget too much as they may have compared to when the protectionist measures were in place.

What I am saying here is that, while uplifting the taxes and duties on foreign cars will mean better accessibility to foreign cars for people who would have bought cars anyway, I also believe that the surplus in locally made cars will mean downward pressure on price towards market clearance (supply and demand), possibly giving other people who could not own cars to begin with to be able to do so. With greater access to cars overall, one can deduce that congestion is likely to get much worse as well.

I am not against the uplifting of the currently outrageous taxes and duties and nor do I think that traffic congestion is the main issue here. I just think that we should not be too quick to say that the opinion that the abolishing protectionist policies will lead to congestion are the thoughts of minds uneducated in economics. On the subject of protectionism, I am actually for the movement towards a freer economy where price and quality is determined by natural market forces instead of being propped up by man-made stilts. As an economics student, I understand that protectionism, while arguably necessary during the early stages, creates inefficiencies in the market. It creates firms that are complacent and hampers the need to be competitive. Protectionism creates market failures, and I believe that uplifting of other forms of protectionism is way overdue as well e.g. petrol and gas subsidies, sugar subsidies, Bumiputra discounts (gasp!) etc.

I just hope that, the opposition party does not make promises just for the sake of winning elections and that behind all these promises, they have plans to make up for the 8 billion ringgit in reduction of tax revenue and have a solid plan in place to alleviate the current traffic situation that is plaguing the bigger cities in Malaysia.

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