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Tainted Milk: Regulatory Do's and Don'ts

10-06 14:59 Caijing
The milk crisis taught China that government oversight, but not meddling, is crucial for a safe food industry.

By Hu Shuli


While basking in the euphoria of a successful Beijing Olympics, the Chinese people were stunned to learn that the Sanlu dairy company had sold tainted milk powder. The government reacted quickly to manage the sudden crisis. Officials offered free medical treatment to babies and children who fell victim, released comprehensive results of dairy product tests, scrapped a national food inspection exemption system that had been in place for eight years, and took into custody company employees while disposed local government officials connected to the contamination. Each of these steps was executed with firm resolve and transparency.


Having watched the events unfold, we can now focus on institution building to prevent such tragedies from reoccurring. Admittedly, the ramifications of this incident involving Sanlu and other dairy companies are broad and the consequences serious. The direct cause is connected to product safety as well as a lack of social responsibility. But ultimately, the crisis reveals that the government has failed to act in its role as a night watchman.


China’s dairy industry, liberalized with fairness early in China’s economic reform era, is now open and competitive. But because dairy foods can have such a strong impact on public health, they require supervision during the production process. This is a basic responsibility of the government.


As it turns out, the tainted milk incident was triggered by lax supervision. The government reacted to the crisis with a blitz mobilization. Now it’s time to promote institutional reform, separating what the government should do from what it should not do in the market economy. Only with the right system in place can industry develop properly to produce safe milk for children and adults. Let this tragedy, in which tens of thousands of babies paid a high price with their health -- and some even with their lives – mark a new start to rebuild the reputation of the Made in China brand for the food industry.


What should the government do, and what should it not do?


According to public consensus, the government should limit its function to supervision, since any failure in dairy product safety oversight leads to serious consequences. China has abandoned the planned economy and moved toward a market economy. In the market system, building an effective regulatory regime calls for a finely tuned set of institutional arrangements. Specifically, the system should address the role of regulators watching over the production process; it should inhibit “regulatory capture” and abuse of power by regulators; and it should avoid over-regulation.  To be sure, the government’s function should go beyond narrow regulatory control. Keeping the market in order and ensuring independent law enforcement should be part of the mandate.


From this incident, we see a government vacuum in the regulatory regime. The government’s General Administration of Quality Supervision, Inspection and Quarantine (AQSIQ) took steps to mitigate the danger of melamine in pet food exports as far back as May 2007. But it failed to impose the same testing requirements on domestic food processors. Moreover, a national system for inspection exemptions has applied to baby food processors for years without review. This is serious dereliction of duty that results from lopsided authority and responsibilities within the institutional arrangement.


AQSIQ issued a food recall regulation August 24 known as Document 98 that ordered timely recalls of all “unsafe products that cause serious threats to human health or death, or those with extensive distribution and impact on society.” But no recall was made after Gansu provincial health officials discovered problems with Sanlu’s milk powder in mid-July and early August. Failing to follow the regulation, Sanlu did not release information to the public. Allowing this regulation to be ignored was a serious and regretful oversight.


Suspicions of corruption at AQSIQ have spread among the public following the mysterious death of one of its key officials. The Sanlu incident again focused a spotlight on the question, “Who regulates the regulator?” Finding a way to fix the system is an urgent task.


In the Sanlu crisis, attention on a government vacuum forced many to overlook the harm caused by a “meddling” government, even though these two conditions have existed side by side. In fact, in overstepping its boundaries by sponsoring a contest for “China’s Famous Brand” food products – and thus exempting some products from inspections -- the government did more harm than good. This unholy arrangement is an example of the government not doing its job while, at the same time, going beyond its responsibilities. Running a contest for famous brands that lets the state help with marketing is putting government credibility on the line. And as we’ve seen with the milk incident, a scandal that seriously undermines the government’s credibility leads to a crisis in trust.


As the Sanlu incident revealed, another level of meddling has taken place in price interference. Annual revenues for China’s dairy industry have grown to more than 100 billion yuan, but most of the suppliers are small dairy farmers who bear the brunt of any change in prices. Early this year, the government imposed price controls on consumer goods including dairy products. In the wake of the Sanlu incident, the government demanded that industry keep prices stable, which undoubtedly sent disturbing messages affecting links all along the dairy supply chain.


In a market economy, prices are set ultimately by supply and demand. When demand exceeds a supply of raw materials and rising costs of production, higher prices come as a natural consequence. Keeping prices artificially low is an example of government meddling that quickly drives producers either to skimp on quality or reduce production. In the absence of regulatory oversight and industry self discipline, the first outcome is more likely. Either development, however, is detrimental to the industry and consumers.


We can learn many other lessons. The role of government in a market economy is to uphold the law without interfering in the judicial system, and encourage transparency without limiting media access. From this perspective, the real casualty of the milk crisis is still open to question. As a result of the Sanlu incident, we have seen progress on many fronts, and we have reason to expect more fundamental changes and more effective steps to right the wrongs. After three decades of reform, we have come a long way. Now, how to set proper limits on the functions and responsibilities of government is a hot topic as reform moves into deeper waters.

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