FREE market capitalism involves a process known as creative destruction, attributed to the economist Joseph Schumpeter. It refers to the fact that as new competitors and innovations arrive, some businesses fail. The net result is positive, but there can be temporary economic distress such as unemployed workers with obsolete skills and loss of investment by investors and financiers.
Examples include when cars replaced horses, refrigerators replaced ice boxes and Samsung replaced Nokia. Thousands of farriers, ice makers and phone technicians, amongst others, lost their jobs.
Crony capitalism is where success in business depends on close relationships between business people and government officials. Requirements to obtain licences and permits to operate are rife with cronyism, as shown by what is now known about NSW politicians Eddie Obeid and Ian McDonald. Although they are not the same things, crony capitalism is often associated with corruption.
Crony capitalism is never creative. Favoured businesses grow fat and lazy while innovation is stifled. But when the political protection is withdrawn, there can be quite far-reaching destruction.
GrainCorp is a product of crony capitalism. Although its origins were socialist, being originally the government owned Grain Elevators Board, it was privatised in 1998. For the next decade it enjoyed substantial backing from the government and farmer organisations as a monopoly handler of grain on the east coast of Australia. When the single export desk was abolished in 2008, there was still not a single competing export port in NSW or Queensland.
The situation has changed now. Instead of benefiting from government support, it is the government that is holding GrainCorp back. Indeed, it would be much better off in an environment of free market capitalism.
The latest evidence for this came with the recent announcement of the company’s half yearly results, showing profits were substantially down. The company is failing to generate returns above its cost of capital and is likely to close up to 100 of its 280 grain silos in coming months. As I have previously discussed, the funds to repair and retain them are just not available.
While some of the profit decline is attributable to a smaller wheat crop, GrainCorp is also facing increased competition along its logistics network, including its export ports. A new Newcastle terminal, jointly owned by CBH, Olam and Glencore, is now competing alongside GrainCorp’s terminal. Also at Newcastle, a storage facility operated by Louis Dreyfus, with elevation provided by Qube, has been established.
Further competition is set to emerge at Port Kembla, where Qube, Noble Group and Emerald Grain plan to build a 1.3 million tonne capacity grain terminal to rival GrainCorp's facility. Cargill is also apparently involved.
In a free market, some of these players would continue to use GrainCorp’s facilities. The reason CBH, Emerald, Cargill and Louis Dreyfus are looking to take their business elsewhere is because of government intervention, courtesy of the ACCC. GrainCorp is unable to offer them the service they require. It is obliged to offer equal terms to all customers, is prevented from offering special deals like premium shipping slots, its elevation capacity allocation is regulated and it is required to publish reference rates and operating data. Because these restrictions are reviewed annually, it is also unable to enter into long term agreements.
The result is death by a thousand cuts. GrainCorp is prevented from gaining access to ADM’s capital, leaving it financially hamstrung, and unable to be creative because of the regulatory environment. The outlook is not encouraging either. According to one estimate, once the new Port Kembla facility is operational in 2016 there will be 20-25 million tonnes of export capacity on the east coast, to handle an average crop size of 18 million tonnes. It seems likely GrainCorp will be obliged to apply its experience at closing silos to export terminals.
The one ray of light is that the ACCC has just issued a draft ruling that would relieve GrainCorp of these obligations at Newcastle (but not elsewhere). Submissions are invited on this ruling, with CBH lodging a submission in support. Several other market participants have made public comments advocating a free market.
But the legacy of cronyism won’t go away. NSW Farmers, which has substantial clout when it comes to political decisions and was extremely vocal in opposing ADM’s takeover of GrainCorp last year, does not want GrainCorp to be freed of its restraints. It prefers the company’s activities to remain controlled.
The former MP Bert Kelly, who for many years wrote a newspaper column as the Modest Member, said business should never accept help from the government. GrainCorp’s situation proves his point; cronies can be your friend one day and your biggest problem the next.