Overinvoicing, Underutilization, and Distorted Industrial Growth

Gordon C. Winston

Abstract


With an artificial exchange rate, a government establishes a
set of prices that makes certain transactions highly profitable at the
same time that it estab¬lishes laws making those transactions illegal.
We usually call it "corruption" when people follow the government's
price incentives instead of its contradictory legal incentives. In
Pakistan, the dollar sells for 4.75 rupees in the official market but
for two to three times that much in the free market. Handsome profits
are made by those who can trade in both. This paper describes
overinvoicing of capital-equipment imports in Pakistan industry. Moral
dimensions of the problem are not at issue. The central question is how
overinvoicing affects the allocation of investment and, therefore, the
structure of industry — how (and by how much) overinvoicing changes the
costs of capital to the men who make investment decisions1. The logic of
the problem can be developed with simple equations but an understanding
of overinvoicing and its consequences does not depend on algebra. The
reader who finds equations more a hindrance than a help can omit them
and still get a clear sense of the shape and magnitude of the
problem.

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DOI: https://doi.org/10.30541/v10i4pp.405-421

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