Does Sri Lanka face government failure?

A parasitic political system enables narrow personal aims to prevail over public interest

Voters in Sri Lanka are fed up. They voted for change but the hopes of Yahapalanaya have faded. Do politicians have any interest in working for anyone other than themselves? Probably not. So, what really drives our political machine?

THE MOTIVATION OF POLITICAL ACTORS
Conventional political science assumes that political actors are mainly concerned with public interest and the state exists to carry out the wishes of the public. Unfortunately, the state is made up of people and the dominant motive in people’s actions in the marketplace – whether they are employers, employees or consumers – is concern for themselves. When individuals become politicians, a mystical transformation is assumed: personal interests are abandoned, a broader perspective takes hold and guides them to make morally correct decisions in the ‘public interest’.

While most people will base some of their actions on charitable instincts, only in rare cases are these likely to be primary motives. Most often, politicians act to please interest groups that support them, push policies that lead to re-election and pursue other personal agendas.

THE PROBLEM WITH COLLECTIVE DECISIONS
Political decisions are collectively made by politicians on behalf of the public, not by the public themselves. All decisions involve a tradeoff in costs and benefits, but when an individual makes an economic choice, he experiences both the costs and the benefits, so will only act if it is in his interest. In collective decisions – whether to give jobs to graduates or build a road – the beneficiaries (e.g. graduates, road users) are not always the people who bear the costs (taxpayers or homeowners whose property is lost).

Furthermore, in a market transaction, both sides have to agree; if either disagrees, they can walk away. In political decisions, those who disagree cannot walk away; they are bound to accept the decision and bear whatever costs the collective choice demands.

Good politicians should weigh overall costs and benefits on our behalf, to determine if ‘social welfare’ – the well-being of the community as a whole – might be increased by the right choices. But do they have the motive, or the capacity, to do so?

Collective decisions are sometimes unavoidable, but we must recognise their limitations and resort to
them only where strictly necessary.

IS THERE A COMMON ‘PUBLIC INTEREST’?
What is ‘best’ for ‘the people’? Society is complex, made up of different groups with different interests. The young may be interested in education or jobs, and pensioners in retirement homes. Different decisions involve different stakeholders with varied interests. There is no single ‘public interest’. When collective decisions are taken, a choice will be made between many competing sets of interests – a choice where only one set of interests can win. Politicians face conflicting pressures: from lobbyists, businesses, family and friends. Those with the greatest leverage will win, which is not the same as saying polices that bring the greatest social benefit will win.

THE POWER OF INTEREST GROUPS
Small, homogeneous groups (trade unions like the GMOA or businesses) find it relatively easy to organise and have a great deal to gain (or lose) when collective decisions go for (or against) them. The opposite is true with large groups, such as consumers or taxpayers. With large groups, the impact of collective decisions on a single member is small, so they have little incentive to lobby. Being so diverse, they are also difficult to organise. The result is that concentrated interest groups have a powerful incentive to organise and campaign for policies that will specifically benefit them. By contrast, the general public, with very diffused interests, have little motivation to put much effort into the public debate.

The protective tax (roughly Rs.10) on a loaf of bread may not amount to much to a consumer, but to flour millers, this represents a gain of around Rs20 billion a year. When particular groups manipulate policy to win preferential tax or legal privileges, such benefits could add up to a substantial transfer of wealth to these privileged groups from the general public.

In Sri Lanka the practice is widespread; witness the plethora of special tax concessions (about 200 according to the Finance Minister), exclusive import licences, permits and protective tariffs.

WEAKNESSES IN SRI LANKA’S POLITICAL SYSTEM
Limits on campaign spending and the need to disclose sources were removed in the 1978 constitution. This opened the floodgates to spending and raised the cost of elections. This excludes the majority of citizens – particularly the educated – from politics. Wealthy backers, some connected to the underworld, provide labour and fund campaigns in return for political protection or rewards. MPs spend a good deal of time in office recouping campaign costs and raising funds for their next election, which creates ongoing incentives for corruption. A group selected on the basis of access to cash and manpower – not intellect or ability – is elected. Politicians are under pressure to reward their supporters with jobs. Decades of politicised recruitment have seriously weakened the skills of the public service.

This combination has undermined the technical capacity of the state: how can proper policy be formulated if the politicians and bureaucrats are ill-qualified to perform the necessary analysis? The concept of independent policy analysis does not exist, leaving a vacuum vulnerable to capture by special interest groups.

GOVERNANCE
Political actors will pursue their own interests but functional governance systems can check the worst of these impulses. The most important is parliament, which works through questioning government ministers, debating and the investigative work of committees, principally the COPE (Committee on Public Enterprises) and COPA (Committee on Public Accounts), which scrutinise expenditure.

Unfortunately, serious deficiencies exist: engineering crossovers in return for political office reduces parliament to a rubber stamp and the committee system is weak. Until recently, they were ‘Consultative Committees’ chaired by a minister and structured to aid the executive rather than hold it to account. With the major overhaul of the system by the Yahapalanaya government – a significant if little known reform in the last three years – these are now known as ‘Oversight Committees’ and their function is now much better geared to scrutiny and accountability.

However, even a modest improvement in performance depends on the calibre of the MPs. Unfortunately, it does not seem as if we have the necessary quality of MPs in sufficient numbers to make the reformed system perform. Aside from capacity, there is little incentive for MPs to take committee work or parliament seriously; many don’t even attend.

An analysis showed that less than half the MPs attended at least 75% of the sessions. Even those who attend remain in the house only for the first hour. Attending funerals and weddings is the priority. They recently voted themselves a new monthly allowance of Rs100,000/- for gifts at functions.

Once elected, the goal is cabinet appointment, as this presents opportunities for gain or furthering political careers. Once ensconced, the incentive is to enjoy office, not to risk the privileges by questioning authority. The multiplication of the cabinet is driven more by the need to lure opposition MPs to maintain a rubber stamp majority than strictly functional requirements.

COPA/COPE are under-resourced; their reports complain of a lack of staff (particularly audit) and proper IT systems. Furthermore, the government is not required to respond to the recommendations of these committees within any stipulated period of time, leaving the accountability loop open. The hearings of COPA and COPE are not open to media or the public, preventing external scrutiny.

Intellectuals have long placed great faith in government, but given the stark reality there is a need to rethink its role in Sri Lanka. Keynes stated the function of government: it should do only what the people could not do at all, not what it could do better than the people

CONCLUSION: A DYSFUNCTIONAL STATE THAT SERVES POLITICAL INTERESTS
The political process incentivises corruption. Limited technical capacity means policy is open to “capture” by special interests. With few checks and balances, the net result is deeply dysfunctional: a parasitic system that transfers wealth to the politically connected. The damning excerpts from a single COPE report (annexed) are the tip of the iceberg.

The expansion of spending benefits the ‘connected’: between 2005-15 total spending quadrupled (from Rs584 billion to Rs2,290 billion). Patronage wins elections, which may be why we have 166,588 peons and 25,645 drivers in public service. The public sector workforce ballooned from 850,267 to 1.35 million over 2005-16.

These are not weaknesses of a particular party; they are systemic. Changing the ruling party will not help; the system must change.

The machine is broken – the less it does the better. The state is involved in all sorts of needless activity; pruning it will allow savings in tax. There is endless duplication – 52 ministries, 21 state ministries, 121 departments, 22 spending units and 341 SOEs just at the centre. Most developed countries have about 20 ministries.

A smaller state is easier to govern, so strengthened oversight mechanisms can work better.

Institutions need to be evaluated individually – What do they do? How well do they do it? Do they need to do it?

Why does education involve five ministries (and 8 departments)? Agriculture involves three ministries and 28 institutions. Four institutions are deemed necessary for gem and jewellery, two for atomic energy, two universities for Pali & Buddhist studies.

As many as possible should be merged or closed, clear objectives set and their activities made transparent. State businesses should be disposed. The Mahaweli Authority runs a venture capital company, the ETF runs Lanka Salt Ltd., the RDA runs a paint manufacturer, state banks run travel agencies. China and India have just started this very exercise – to rationalise government.

Improving oversight meets resistance from within. It is not in their interest but needs to be pushed. The National Audit Bill to strengthen the Auditor General’s role to increase accountability has been held up since 2003. Requests to open the COPE/COPA hearings to the public by the committees’ themselves have gone unheeded. Campaign finance reform is a priority.

The state continues to interfere in a range of private activities, from regulation of social media to migrant workers. The key questions with regulations are: Is it needed? Will it help? Does it have the capacity to regulate?

Intellectuals have long placed great faith in government, but given the stark reality there is a need to rethink its role in Sri Lanka. Keynes stated the function of government: it should do only what the people could not do at all, not what it could do better than the people. Our objective should be a state that performs a limited and well defined number of tasks for which it is suited and has the requisite capacity.

—————————————————————————————————-

THE COPE REPORT – A SUMMARY

The Committee on Public Enterprises (COPE) – a key oversight committee – is by their own admission under-resourced. They lack staff, particularly for audit and legal support. They also lack IT systems and apparently, even a proper office. Despite these limitations and the fact that their reports are not comprehensive, they have examined a limited number of issues in a few institutions. What they reveal is a devastating critique on the state of governance. Some highlights are presented below:

The Committee on Public Enterprises First Report (For the period January 26th – April 8th 2016)

State Pharmaceuticals Corporation Purchase and issue of substandard drugs
1. Imported pharmaceuticals not properly tested due to lack of laboratory facilities. Drugs later found to be substandard are issued to patients, owing to delays in testing samples prior to distribution.
2. Drugs worth Rs250 million had been identified for destruction in 2014 & 2015, but only those worth Rs214.6 million were actually destroyed. Substandard drugs worth Rs199 million purchased between 1996 and 2014 for sale through Osu Sala outlets.

Substandard drugs worth Rs1 billion purchased between 2011 and 2014, the majority (Rs867 million) for free distribution through the public health system.

Lack of accountability – 20 subsidiaries incorporated under the Companies Act The CEB holds a 63% stake in Lanka Transformers Ltd. (LTL), which in turn has stakes ranging from 50% to 100% in 15 other companies. The CEB also has stakes of 50-100% in 5 other companies.
1. LTL and its subsidiaries refused to submit details of operation to the COPE, despite the fact that the CEB effectively owns more than 50% of the shares. They claim to be private companies and need not report to parliament. The accounts of 14 were later submitted.
2. The subsidiary companies have paid dividends worth Rs14 billion to LTL. The CEB should have received Rs7.1 billion as its share but only Rs6.9 billion was received.

Author’s Note: LTL supplies services and products to the CEB. Values and terms of contracts are not known.

Payment of salaries and allowances outside standard procedures
1. A sum of Rs849 million had been spent to pay 39 allowances of various types to employees without the approval of the Cabinet of Ministers or the Treasury.
2. Establishing a new salary scale known as “E – scale” for engineers with effect from 1st January 2015 and making payments in accordance with that without the recommendations of the Salaries and Cadre Commission.

Janatha Estate Development Board (JEDB)
1. Land leased at low rates
Land belonging to the JEDB in Vauxhall Street had been undervalued and given on long leases of 25, 30 or 50 years upon a Cabinet decision.
2. Unpaid EPF and ETF dues for the period 2011-2015 amounting to Rs323 million (including surcharges).
3. Operations Loss of the JEDB
2011              2012            2013            2014
Rs258 mn   Rs199 mn   Rs501 mn   Rs169 mn

Land Reclamation Commission
1. Information with pertinence to lands belonging to the Commission not been updated. Action has not been taken to formulate a register of lands and to maintain it.
2. Special projects for which lease agreements have not been signed

i. 280 acres of Monarakelewatta had been leased out to a private company under a 30-year lease in February 2011 without any approval from the subject minister. Rs1 million has been paid as advances, but lease rent has not been recovered for the period from 2011-2016.
ii. Out of 12 acres of the Kumbalgoda estate, 6 acres have been leased out to a private export crop project in an illegitimate manner.
iii. Leasing out a plot of land with an extent of approximately 2 hectares of Arkediyawatta in the Badulla District. The amount in arrears to be recovered is around Rs1 million and without the approval of the Council a loan of Rs17.5 million has been obtained, keeping this land as security. No action has been taken by the Council with pertinence to this matter.
iv. 6 acres of Industrial Zone, Leylandwatta, Homagama, has been given to Rosell Bathware Ltd., under a 50-year lease and the lease rent has not been properly recovered.

Board of the Sri Jayawardenepura Hospital
Payment of consultants fees
Note: Although this is a state hospital, it also runs a paying ward. These payments of fees appear to be over and above the normal remuneration to staff.

1. 50% of the total income charged from patients of the paying wards has been paid as professional fees to the doctors and staff of the hospital. PAYE tax has not been deducted on the payment. Unpaid PAYE tax for 2014 and 2015 amounted to Rs74.7 million.

Purchase of anaesthetic equipment
1. Four anaesthetic machines had been purchased at a cost of Rs29.9 million without following a proper procurement process. The purchase of the equipment had apparently gone ahead despite an offer from the Australian government to provide these free of charge.
2. The purchase of the equipment had been justified on the basis of three existing machines being defective. No technical evaluation is available to support this and no proper procedure was followed for disposal. The Committee was later informed that the disposed of equipment had been given to the Negombo, Kalutara and Monaragala hospitals.

Expired stock
Drugs and other items worth Rs5.1 million had been purchased for the Neurosurgical Unit in February 2012. Around 80% of the stock, valued at Rs4.1 million had not been used and expired.

National Secretariat for Elders
Deducting Rs100 without the concurrence of the Ministry of Finance from the elders’ allowance of Rs2,000 paid to elders as per a budget proposal.

The budget for 2015 proposed a monthly payment of Rs2,000 for elders over the age of 70. The Ministry of Social Empowerment and Welfare, the relevant line ministry, by way of circular No. 1/2016 has ordered that Rs100 be deducted from each payment and the money be retained at the secretariat to set up a welfare fund.

The money is being deducted in spite of the opposition of the management of the secretariat and without the approval of the Ministry of Finance

Note: The secretariat has issued ID cards for 10,978 elders, although the plan had been to issue 40,000 cards. Assuming the monthly allowance of Rs2,000 was paid only to those registered, the monthly payment would amount to Rs21 million and the amount retained for the ‘welfare fund’ would be Rs1 million per month.

Bank of Ceylon
Continuous losses recorded at the overseas branch in London. The operations of the branch in the Seychelles are at risk as 62% of the total deposits are owned by just 3 customers.

—————————————————————————————————-

The Special Audit Report on the rice import process of Lanka Sathosa during the years 2014 and 2015 presented by the Auditor General at the request of the COPE

Background
1. Lanka Sathosa Ltd., was incorporated under the Companies Act, not by an act of Parliament, which is more usual for state enterprises.
2. As a company, the audit of Lanka Sathosa did not fall under the purview of the Auditor General until the passing of the 19th Amendment.

Summary
A net loss of Rs15 billion incurred by Lanka Sathosa/Government on the importation of rice Around 257,559 metric tons (mt) was imported at a cost of Rs27 billion over 2014-16. 233,807 mt was sold realizing Rs11.8 billion, resulting in a net loss of Rs15 billion.

Key weaknesses in the internal controls and the accounting system highlighted by the AG
1. The failure to maintain proper stock records of rice stores. Lack of a documented/computerised system for obtaining information on stocks at each store and at the institution. This is the most fundamental requirement in retail trade – which is essentially about holding and distributing stock. As per the AG’s report, 7,947mt appears to be lost or unaccounted for. This is roughly equivalent to losing about 361 containers (20ft).
2. The existence of “large scale weaknesses in the systems and methodologies for the maintenance of accounts and information of the institution”.
3. The majority of outlets are not linked to a central computer system. The chairman had stated that they are unable to provide the AG with information on monthly sales of rice as the majority of shops were not linked to a system. Lanka Sathosa had 321 sales outlets, but 220 were not linked.
4. No approved internal procedure for procurement. In the absence of which, failure to follow the Government Procurement Guidelines. In the absence of a purchase procedure, unable to verify if purchases were made properly. For example, rice has been purchased at different prices ranging from $440 to $535 per mt (ponni samba) and $385 to $460 (nadu) in 21 instances of import between 10 April 2014 and 29 December 2014.