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Following is the Summary of ECONOMIC SURVEY 2016-17 – Chapter 2 : The Economic Vision for Precocious, Cleavaged India:
Overview
Since 1980, we have escaped from the so called “The Hindu rate of growth”, and India’s growth performance has been robust, especially for a democracy. Yet, there are serious challenges that might impede further progress which result in part from the fact that India started out as a poor democracy with deep social cracks. These long – standing challenges can be classified as ambivalence about property rights and the private sector, deficiencies in state capacity, especially in delivering essential services, and inefficient redistribution.
The Economic Survey calls India a “precocious and cleavaged” democracy.
Meeting these challenges is not just a matter of overcoming vested interests; it may also require broader societal shifts in ideas and narratives.
Introduction
Indian policy can be divided into two phases.
- Socialism’ for 50 years:- First came nearly half a century of socialism, During those years, the public sector occupied the commanding heights and the government intruded into even the most micro-decisions of private firms: their investing, producing, and trading. This framework was rejected after 1991.
- The Socialist vision replaced with something similar to “Washington Consensus”: open trade, open capital, and reliance on the private sector, adopted a development model followed by the East Asian countries. There has also been a great effort to reduce the costs of doing business and create an environment friendly to investment, both domestic and foreign.
The result of all these reforms over the past 25 years has been a remarkable transformation of India from a largely closed and listless economy to the open and thriving economy.
Measuring India’s progress
The country’s progress is not only qualitative. It is also measurable.
Consider, for example, four standard measures:
- Openness to trade;
- Openness to foreign capital;
- The extent to which public sector enterprises dominate commercial activities;
- And the share of government expenditure in overall spending.
Openness to trade (trade-to-GDP ratio)
In general, the large countries tend to trade less than small countries because the benefits of trading with the outside world would be very low relative to trading within the country.
The opposite is true for small countries: lacking an internal market, their benefits of trading with the world are relatively large and hence they tend to have higher trade-to-GDP ratios.
Following are some of the facts about India’s trade position:-
- India trades far more than what would be expected for a country of India’s size.
- India’s trade-to-GDP ratio has also been rising very sharply, it doubled to 53% from 2002-2012
- The recovery from the global financial crisis in 2008 has been fastest. So, India’s ratio is now more than China.
Openness to Foreign capital
- Despite significant capital controls, India’s net inflows are, at par with other emerging economies.
- FDI is running at an annual rate of $75 billion, which is not very less from that of what China was receiving at the height of its growth boom in the mid-2000s.
Size of the PSUs
- India’s PSUs were exceptionally large in the past, but since India has allowed private sector entry into, amongst others, civil aviation, telecommunications, and financial services reduced the share of the public sector.
- India is now squarely in the middle of the emerging market pack.
Size of the government
- India is often accused of having a bloated government. But when the size of the government expenditure is considered with respect to the per-capita GDP, India sits on the regression line, indicating that it spends as much as can be expected given its level of development
In sum, the standard measures suggest that India is now a “normal” emerging market. The pursuit of the standard development path has paid off in terms of growth.
Why is India’s growth particularly remarkable?
India’s reforms started in the mid-1980s and since then India has grown at about 4.5 percent per capita for thirty seven years, which is an impressive achievement. This achievement is particularly remarkable because it has been achieved under a fully democratic political system.
- India has remained democracy continuously ever since it got independent which is rare in the post-war economic history, and successes are rarely democracies.
- The only other countries that have grown rapidly in the period and have been democratic are Italy, Japan, Israel and Ireland.
- This achievement is even rarer, because India at independence was a very poor democracy. In fact, India was one of the poorest nations, regardless of political system.
- Also central to understanding India’s economic vision is the fact that it has followed a unique path way to economic success, what might be called “Precocious, Cleavaged India.”
- Indian society was highly divided at the time of Independence, when compared to other countries. India was divided on language, scripts, religion, region, caste, gender and class.
Thus India had both high levels of poverty, and deep social fissures and still emerged as an economically successful democracy at an early age, therefore the Precocious.
Ambivalence about Property rights and private sector in India
All over the world, the basic objective of private enterprises of “maximizing profits” doesn’t always coincide with any nation’s broader social concerns, such as the public’s sense of fairness.
But the Ambivalence in India about the private sector and property rights has been greater than elsewhere – right from the beginning.
Private Sector
- As a promising but fractured democracy that started out poor, India was certain to distrust the private sector. This was reinforced by the prevailing intellectual air of socialism.
- The founding fathers of India wanted to build the country by developing industries that would make India economically independent along with political independence. The private sector had failed to do this under colonial rule, giving rise to doubts that if it could do so.
- In contrast, there was the example of Soviet Union, which had transformed itself from an agricultural nation to an industrial powerhouse in few decades suggesting that rapid development was indeed possible, if the state would take control of the economy and direct resources into priority areas.
The distrust is surviving even today, which is evident in the difficulty of privatizing public enterprises, even for firms where the economists have made strong arguments that they belong to the private sector.
There are several examples for that.
- In civil aviation sector, there is still the commitment to make the perennially unprofitable public sector airline “world class”. Policy reform in the sector has been animated as much by an interventionist as liberalizing spirit, reflected in restrictions on pricing.
- In banking sector, discussion of disinvesting the government’s majority stake in the PSBs is often difficult in part because of the view that they are legitimate instruments for the state to allocate and redirect resources.
- In the fertilizer sector, rife with distortions, public policy finds it easier to rehabilitate public sector plants than to facilitate the exit of egregiously inefficient ones.
- The reluctance to privatize, the ambivalence towards the private sector is manifest in many other ways too in agriculture sector
- The agriculture sector is tangled in the regulations, a living legacy of the era of socialism. The producers in many states are still required by the APMC to sell only to specified middlemen in authorized mandis only. Though some states have shown progress by taking the perishables out of the list, but there is a long way to go.
- When this system still generates price increases which are considered excessive, the Essential Commodities Act is invoked to impose stock limits and controls on trade that are typically pro-cyclical, thereby exacerbating the problem.
Property Rights
The Right to property was inscribed as a fundamental right in the Constitution, but was later downgraded in the Constitution via 44th CAA in 1978, to that of a legal right. The ramifications of this decision continue to be felt even to this day in issues such as retrospective taxes.
- Even though the government has made it clear that the it would not act retroactively on tax and other issues, it seems politically difficult to uphold a widely shared and judicially endorsed- principle against expropriation and retroactively because of the fear of the fear of being seen as favoring the private sector. This is true in number of case like Vodafone, Monsanto.
Where do the weaknesses lie in India?
All the emerging market economies started off with weak state capacity at independence. But as their economies developed, the state capacity improved. But in India, by contrast, this process hasn’t occurred.
- Indian state has low capacity, high levels of corruption, clientelism (patronage based on social order), unwanted rules and red-tape.
- The competitive federalism has been a powerful change agent in attracting investment and talent, but it has been less evident in relation to essential service delivery like health and education where there no good models to follow. Except for Chhattisgarh in PDS, incentivization of agriculture in MP, kerosene free drive in Haryana, power sector reforms in Gujarat.
- Instead, we see competitive populism where few good and services are handed out for free.
- Redistribution by the government is far from efficient in targeting the poor.
- The founders of India wanted to “build the country” by developing industry that could make India economically, as well as politically, independent. The private sector had conspicuously failed to do this under colonial rule.
- A poor country with weak state capacity like India when confronted with the pressure to redistribute had necessarily to redistribute inefficiently, using blunt and leaky instruments.
The policy making in certain areas has been heavily constrained, as a way of ensuring that decisions don’t favour vested interests. The result thus obtained is two-fold.
- There is now adherence to strict rules- for example auctions of all public assets that may not necessarily be optimal public policy. In telecommunications, it may be socially optimal to sell spectrum at lower-than-auction prices because of the beneficial effects stemming from increased spread of communication services but it could be perceived as favouring particular parties and hence not feasible.
- There is abundant caution in bureaucratic decision making which favours the status-quo. In the case of twin balance sheet problem, senior managers in public sector banks are reluctant to take decisions to write down loans for fear of being seen as favouring corporate interests.
Dilemma of redistribution
- The history of the Europe and the US suggests that typically states provide essential services – like education, health, infrastructure etc., first before they take on redistribution role.
- That sequencing is no accidental. Unless the middle class in society perceives that it derives some benefits from the state, it will be unwilling to finance redistribution.
- The corollary is that, if the states’ role is predominantly redistribution, the middle class will seek to exit from the state.
- One sign of exit is fewer tax payers which is evident in case of India. India has fewer tax payers relative to the voting age population, especially when compared to other countries, and this ratio has risen over time.
- But India had to redistribute because its state capacity was particularly weak, using blunt and leaky instruments.
- Given the pressing need to redistribute, India did not invest sufficiently in human capital – ex: public spending on health was meagre 0.22% of GDP in 1950-51. This has risen to only 1% today, well below the world average of 5.99%.
Thus, currently redistribution is far from efficient in targeting the poor.
- MNREGA, SarvaShikshaAbhiyan, ICDS, etc., suffer from gross misallocation.
- Districts with most poor suffer from the greatest shortfall of funds.
Over the past two years, Indian government has made considerable progress toward reducing subsidies, especially related to the petroleum products. Subsidies have been eliminated in two out of four petroleum products; there is also a carbon tax.
Conclusion
India has come a long way in terms of economic performance and reforms. But there is still a journey ahead to achieve both dynamism and social justice.
One tentative conclusion is that completing this journey will require a further evolution in the underlying economic vision across the political spectrum as India moves along on the next stage of its economic journey.
One such is that further reforms are not just a matter of overcoming vested interests that obstruct them. Broader societal shifts in underlying ideas and vision will be critical.
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