Only Competition Can Curb Predatory Market Power, Israeli Reforms Prove

The State Revenue Administration shows how reforms in the cellular telephony industry helped all Israelis. The dairy giants should be the next target.

Hagay Frid

The massive cost-of-living protest in the summer of 2011 led to the establishment of the Trajtenberg Committee on socioeconomic change; one recommendation was to stoke competition in the food industry. The Kedmi Committee was then set up to craft those steps in detail.

One recommendation was to lower customs on imports of canned tuna. In Israel, frozen tuna is imported and then canned, and the government wants to protect this industry and its workers. That’s why Israel’s tuna producers – or tuna packers to be precise – were protected by a heavy tariff of 12% plus 3.50 shekels ($1.01) per kilogram. At such rates nobody finds it worthwhile to import tuna, and Israeli canners enjoy a captive market.

The implications of a captive market were revealed when the State Revenue Administration published its 2012 annual report Tuesday. The document includes a 10-year analysis of tuna-industry revenues and profitability. It turns out that sales by local canners rose 80% over the period and profits skyrocketed 700%, immune to the effects of the cost-of-living protest plaguing the rest of the food industry in 2011 and 2012.

The Kedmi Committee’s recommendation to lower tuna tariffs was stubbornly opposed by the companies, while, as usual, the workers were sent out to talk to the media and fight for their jobs. This is the standard effort that portrays the opening of a market as a threat to the workers. But the high profit margins involved are now expected to come down after Finance Minister Yair Lapid staved off the pressure. He’s gradually reducing customs on imports of canned tuna.

Tuna reflects the severe problem facing an Israeli economy dominated in many areas by monopolies or oligopolies that make their owners rich and drive up the cost of living. Two unnamed food industry monopolies – apparently Tnuva and the Central Bottling Company – were also analyzed by the State Revenue Administration. Their combined revenues doubled over the past decade while profits jumped fivefold.

Throughout the world, the food industry is considered nearly free of risk. This means its profit margins, although thin, are secure. It’s unlikely that there are other countries where the profits of a dairy or Coca-Cola bottler increased fivefold in a decade. This can only occur when producers are completely safe from the threat of competition.

Regarding dairies, this week Lapid imposed price controls over several more products and lowered other price-controlled products by an average 1.1%. Good luck to anyone who thinks this is change will curtail Tnuva’s predatory power in the market.

Power to the people

The only thing that can curb predatory market power is competition. This was shown after new competitors were allowed into Israel’s cellular telephony market. The State Revenue Administration tells the story using corporate tax figures in the industry. Tax collections rose to 1.6 billion shekels in 2010 from 200 million shekels in 2003 – an eightfold increase. Since 2010 they have fallen to 1 billion shekels – a nearly 40% drop.

The traditional cellular operators tried to intimidate the Communications Ministry, headed at the time by Moshe Kahlon, by claiming that competition would harm thousands of workers. Economists who obviously had been hired by the companies said the reform would muffle gross domestic product due to the layoffs that followed.

So it’s a good thing we have the State Revenue Administration’s analysis to discredit this PR ruse. The administration compared the corporate tax paid by the four large cellphone companies between 2003 and 2012 with the income tax paid by their employees over the same period. It found that corporate tax revenues had jumped eightfold at their peak and fivefold as of 2012, while taxes collected from employees had fallen by one-third.

“The widening gap until 2010 between corporate tax collections from these four companies and taxes deducted from the pay of their workers reflects a growing gap between the return on capital at these companies and the return on labor,” the administration says. “For the first time since 2004, this gap began narrowing in 2011.”

In other words, the uncompetitive four-company market stung consumers due to high rates while barely benefiting the workers, whose combined pay apparently dropped. The only winners from the lack of competition were the companies’ stockholders and their managers, who drew huge salaries for not competing, not providing optimal service, and not benefiting their workers.

All this ended with the introduction of competition – even if some workers got hurt. But these are workers whose pay hadn’t gone up anyway while others’ pay had risen at a torrid rate. The reform was therefore one of Israel’s greatest equalizers. Consumers came out ahead, as did the workers, in the long run. The only ones who suffered were the tycoons and their cronies.

The country needs to remember this lesson for all its uncompetitive industries. The only way to boost equality and consumer welfare is a reform that stokes competition. And any damage done to employees is nothing compared to the benefit gained by millions of other workers.

Ultimately, the best tax of Israel’s rich is the tax of competition. This is the only way to reduce the inequality between them and the public. So the next step should be to take on Israel’s monopolistic food giants – Tnuva first.