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Andi: ‘Global Value Chain’ Opportunities - Part Four

Colombian economy Written by  Monday, 21 September 2015 11:10 font size decrease font size increase font size 0
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The “global value chain” opportunities arising for Colombian exporters -- identified in a recent study for Medellin-based Andi (Colombia's industrial trade association) -- could see greater growth if Colombia tackles certain tax, regulatory, infrastructure, energy-cost and labor issues.

 According to the Andi study, some 10,500 Colombian enterprises are now exporting to a total of 180 countries around the world. While those numbers may seem impressive, just 10 companies account for 55% of Colombia’s export sales -- and only six of these companies reach markets in more than 50 countries, the study notes.

Meanwhile, the share of imports as a percent of Colombia industrial production rose from 34% in 2002 to 40% in 2013. If excluding Colombia’s petroleum refining sector, then the share of imports as a percent of total industrial production rose from 35.7% in 2002 to 43.8% in 2013, according to the Andi study.

As for the share of exports as a percent of Colombia industrial production, this rose from 23.8% in 2002 to 28.8% in 2007, not including Colombia’s oil refining sector. However, total industrial growth in Colombia in the 2002-to-2013 period (excluding oil refining) grew by just 0.4%, the study shows.

Chemical products, metals, food-and-beverage production, non-metal mining products, medical instruments and machinery sectors grew by 3.4%, whereas other sectors recorded a net decline of 3.1%, according to the study.

Changes Needed

 According to Andi’s study, far more needs to be done for Colombia to boost exports in sectors beyond oil and mining. Such diversification not only would help Colombia boost its economy, but also avoid the “Dutch disease” commodities-export trap (today’s worst example being Venezuela) – as well as avoid the failed model of protectionism.

But to achieve such expansion, Colombian entrepreneurs need to undertake strategic investigations into how they can participate in the “global value chain” -- while government can aid this process with infrastructure improvements, regulatory changes and tax reforms, according to the study.

The most obvious example of structural obstacles to export expansion is Colombia’s relatively poor road transport system.

The road network – especially in the Andes mountain regions -- results in container freight shipping charges that are several-times higher in-country than the freight charge from ocean shipping.  Today, it costs more than twice as much to ship a container from Buenaventura to Bogota (and vice-versa) than it costs to ship that same container from Hong Kong.

According to a recent World Economic Forum study (2014-2015), Colombia ranks a miserable 128th out of  144 countries in terms of road transport infrastructure, 102nd in rail transport, 90th in marine port infrastructure and 78th in airport infrastructure, the Andi study notes.

However, Colombia’s “generation four” (4G) divided-highway expansion projects – mostly due for completion over the next five years – are expected to slash freight shipping times by 30% and shipping costs by 20%, thus helping boost exports, the Andi study notes.

The 4G project carries an estimated price tag of COP$47 billion (US$15 billion) and would expand or upgrade some 8,900 kilometers of highways, tunnels and bridges. A related Magadalena River dredging project also would slash freight costs.

But other improvements also are needed, according to the Andi study.

While entrepreneurs must make their own decisions about where to source raw materials, where and how to organization production, and which markets to target, some of their business costs and opportunities aren’t directly under their control, including taxes, tariffs, transport infrastructure, energy costs, regulations and labor laws, the study notes.

“The difficulty of production in Colombia, and the procedures and the policies adopted by our principal competitors, have resulted in a significant rise in imports of intermediate and final products,” according to the Andi study.

These problems have resulted in “greater difficulties [for Colombian companies] to insert themselves into the global value chain.” This also has encouraged the emergence of  “multilatinas” – that is, Colombia-based companies that to a greater or lesser extent are now operating elsewhere in Latin America, the study notes.

To boost the prospects for Colombia-based exporters to participate in the global value chain, companies would benefit from more competitive energy costs, faster and cheaper freight costs, more flexible labor laws, a more competitive and predictable tax regime that stimulates investment, and a reduction in import/export paperwork (including processing delays), according to the study.

Colombian entrepreneurs face constant changes in tax, environmental, labor, tariff, transport and commercial rules that impede planning and complicate investment decisions, according to the study. Proposed or final regulations often aren’t communicated effectively, don’t always take into account producer concerns and often don’t provide sufficient time for entrepreneurs to adjust their operations to the new legal mandates, according to the study.

Relatively uncompetitive energy costs penalize certain industries such as pulp/paper-making, cement, textiles, metals, fertilizers, medical gases, ceramics and glass, as energy can represent about 20% of their total costs of production, the study notes.

A recent study co-sponsored by Andi and four national electric-power trade associations found that electric-power costs for Colombian industries consuming more than 500,000 kiloWatt-hours (kWh) per month were slightly under US$0.12 per kWh, compared to an average of US$0.068/kWh in the U.S., US$0.086 in Brazil, US$0.114/kWh in Chile, US$0.075 in Peru, and US$0.179/kWh in Mexico (see chart).

With Colombia, Chile, Mexico and Peru now in the process of developing a “Pacific Alliance” that aims to boost participation in the “global value chain,” Peru currently has the upper-hand on energy costs among the four partners, the study shows.

Given that Colombia has important manufacturers in energy-intensive sectors including cement, pulp/paper-making, textiles, metals, ceramics and glass, regulatory changes could help level the competitive playing-field, according to the study.

One idea: Regulators could bolster regional, cost-reducing power-supply “clusters” for energy-intensive industries, according to the study. This would encourage more factories that generate their own electricity to sell any excess, cheaper power directly to neighboring industries.

However, a recent proposed regulation from the national power regulator (CREG, in Spanish initials) would boost costs for grid power whenever self-generators have to turn to the grid for backup power whenever they shut-down for maintenance or repairs. This proposal would discourage future investment in self-generation, according to Ingenios Cauca, one of Colombia's biggest sugar mills, which operates a cogeneration plant.

Hydropower Vulnerable to Droughts

Under Colombian law, the country’s predominantly hydroelectric-based generation sector is required to have (or buy) costlier thermoelectric generation capacity in order to ensure grid reliability during drought events, the study notes.

This thermoelectric power – especially from plants burning relatively expensive liquid fuels such as diesel and fuel-oil – can cost two to three times more than hydropower, with the result that average contracted power for Colombian industries (once including the thermopower capacity charge) has risen 52% in the past four years, according to the study.

To reduce these costs, Andi recommends that regulators temporarily axe the taxes imposed on liquid fuels (diesel, fuel oil) used in thermoelectric plants during drought periods. Tax cuts wouldn’t be necessary for natural gas-fired power, however, according to the study

Excessive Corporate Taxes

As for other factors hurting exporters, the World Bank’s “Doing Business 2015” study found that Colombia ranks a relatively poor 146th place among 189 countries in terms of competitive corporate tax rates. Only Argentina and Bolivia have worse tax regimes in South America, the Andi study shows.

The 2014 tax reform imposed by Colombia's national government only made this situation worse, according to the Andi study.

According to a survey of 253 Andi member companies, the effective corporate tax rate ("TET" in Spanish initials) in 2013 was 68%, but this rose to 72% as a result of the 2014 tax reform.

A similar study by a leading Colombian think-tank (Fedesarrollo, the Foundation for Higher Education and Development) found that the average "TET" corporate tax rates put Colombia at a disadvantage with Pacific Alliance partners Mexico (45%), Peru (44%) and Chile (33%).

However, the same 2014 tax reform also created a study commission -- tapping input from international experts -- that is due to present its tax-reform recommendations to the Colombian government soon, the Andi study notes. Entrepreneurs are hoping that the current, uncompetitive industrial tax situation can be improved following 2015 elections.

“It is difficult to consider Colombia as a country that is attractive for investment if the country continues its history of tax reforms on average every two years,” according to the Andi study.

“The country ought to have a simplified tax regime, with reduced rates” that should be generalized, transparent and relatively easy to collect, according to the Andi study.

In a “closed” economy, it may be possible to transfer most of the national tax burden to consumers. But in an economy such as Colombia’s – ever-more tied to world markets – such a tax regime becomes “impossible,” according to the study.

A more rational, simplified regime ought to impose taxes exclusively upon on income, imports and value-addition (IVA) – and cover more of the broad population, according to the study. For capital goods acquisition, IVA taxes either should be eliminated or else be deductible, according to the study.

Today, the number of income taxpayers in Colombia are few – just over 2 million out of a total population of some 47 million. What’s more, the bulk of the tax burden mainly falls upon a relatively small group. Some 3,400 Colombian companies account for 68% of the total tax collections, the study shows.

This tax burden not only ought to be spread over a larger base, but also should be tied to lower rates, according to the study.

Simultaneously, the Colombian government needs to take new actions to crack-down on tax evasion, according to the study. Current estimates put Colombia income tax evasion at 34%, IVA tax evasion at 20% and tax evasion via secret, foreign transfers and holdings at COP4 billion (US$1.3 billion).

Meanwhile, imports of contraband products are estimated to cost the Colombian treasury some US$7 billion, according to the study. Such imports also make it extremely difficult for tax-paying, local producers to compete.

Among measures that could contribute to reduction of tax evasion and contraband would be “greater clarity and transparency in [regulatory] norms” as well as “sharing of information databases that would detect evasion,” according to the study.

An improved system of communications for denouncing contraband and tax-evasion schemes also would help, according to the study. In addition, tax-evaders and contraband operators also should be subjected to public exposure and shame, according to the study.

Government Spending

While reforms and crackdowns on contraband and tax evasion are needed, government spending also needs more scrutiny, according to the study.

One measure that could trim excessive spending would be to require the Finance Minister to limit spending to actual revenues, rather than continually pushing more tax hikes, according to the study.

The national government’s heavy reliance on revenues from the state-owned Ecopetrol oil company also exposes the treasury to wild swings of income depending on global oil-price changes, the report notes. To remedy this problem, the government ought to come up with some new scheme that puts more flexibility into spending depending upon oil-revenue changes, according to the study.

Labor Costs

Colombia ranks in the middle of countries in terms of labor costs, placing 84th among 148 countries in a World Economic Forum study (2014-2015), according to Andi.

Basic salaries, productivity, the cost of layoffs/dismissals and flexibility in salary negotiations are among the factors employed in the ranking, according to the study.

Meanwhile, a recent IMD study found that Colombia’s labor efficiency ranked 27th out of 61 countries studied. That study included variables such as labor relations, worker motivation and level of worker skill.

While job “outsourcing” has generated controversy in Colombia and elsewhere, current national legislation strikes a proper balance between worker protections and company needs for flexibility, according to the study.

Read 16110 times Last modified on Monday, 21 September 2015 11:12

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U.S. native Roberto Peckham, who founded Medellin Herald in 2015, has been residing in metro Medellin since 2005 and has traveled regularly and extensively throughout Colombia since 1981.

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