Bharti Airtel chairman Sunil Mittal recently emphasised the need to raise tariffs saying that the major cause behind this crisis is low tariffs. He said,
To say that the telecom industry is in a bit of trouble is actually an understatement. It is in a tremendous amount of stress …
Mittal emphasised the need to raise tariffs saying that the major cause behind this crisis is low tariffs.
Is Sunil Mittal right? To answer this question we need to understand how companies make profit in the market.
Profit is a price differential between the prices of producer and consumer goods. Producer goods are those goods that satisfy our needs in an indirect way by helping us in producing consumer goods, which satisfy our needs directly. Example of producer goods are land, labor, capital, time, raw materials etc. Consumer goods are final products that an entrepreneur produces by using the producer goods. Let us take a simplified example of producing an apple to bring home this point.
To produce an apple I require one acre of farm, one laborer and one plough. The price of farm, i.e., rent, is let’s say Rs.100; the price of labor, i.e., wage, is Rs. 50 and time price of borrowing money for the plough is Rs. 50. So total producer prices are Rs. 200 for producing an apple. This apple is selling at Rs. 250 per piece in the market in future. That means, I am making Rs. 50 profit in this production process.
Now what is important for us to understand here is that profit can either go up if the producer goods prices have gone down as compared to consumer prices or when the consumer goods prices have gone up as compare to producer goods prices. Profit is just a price differential between these two prices. It does not exclusively depend on prices of either producer goods or, more importantly, consumer goods.
In the light of the above discussion now we can see why Mr Sunil Mittal is wrong in proposing higher tariff for making the telecom sector profitable again. In case of Indian telecom sector, profits have not gone down because of exclusive reduction in the prices of consumer goods i.e., telecom service tariffs. In fact what has happened is the prices of producer goods have gone up more than the price of consumer goods because of the heavily inflationary Indian economy as well as government’s heavy taxation. We have to remember that inflation increases prices of both producer and consumer goods; first prices of producer goods as freshly printed money supply enters the capital goods industry first via reduced interest rates of loans, and later prices of consumer goods. Not only inflation but government’s taxation policy has also increased the expenses of telecom sector as we can see in Mr Mittal’s following statement,
Bharti Airtel chairman Sunil Mittal minced no words in saying that the government levies are far too high in India when it comes to the telecom sector. Mittal, while addressing an investor call, said that out of Rs 100 earned, Rs 35 goes to the government.
This double whammy of inflation and higher government taxes have resulted into higher production cost of the telecom sector and because of that their profits have declined, and not because of lower tariffs.
Looking at these circumstances the proposal of raising tariffs at this moment is illogical. There is also another factor that Mr Mittal is forgetting to take into his consideration before proposing higher tariffs. Let us see that factor now.
That factor is the law of demand which informs us that whenever the price of a product goes up the quantity demanded of that product at that price goes down. If the quantity demanded reduces by more than the risen price then making profit will become difficult because revenue will actually decline compare to cost. And all these in turn depend on the elasticity of demand for the goods in question. Mr Sunil Mittal will have to keep this in his mind when he is proposing higher tariffs for telecom services. It is quite possible that the sector might lose both customers and profit in the aftermath of higher tariffs.
Looking at all these circumstances the reasoning and the proposal of Mr Sunil Mittal both are incorrect. Telecom sector is not losing money because of lower tariffs but because of higher cost of production due to higher inflation and higher taxation policy of the government. For higher inflation the Indian central bank RBI is responsible, and for higher taxation Narendra Modi and all other past governments. Blaming consumers for the wrongdoings of the RBI and the government is not going to help the telecom sector. If Mr Sunil wants the telecom sector to make money again then he will have to take his complaints at the doors of the central bank and its owner the central government. Raising tariff will make matters worse. Mr Mittal should demand that RBI stop inflating the currency and government abolish its taxation. Only by reducing inflation, which is a form of indirect taxation, and taxation telecom sector’s problems can be solved.