Poor Politics, Poor Economics

Walk into the cool environs of the office of the Rural Development Minister, Jairam Ramesh, and one can hear soothing Carnatic instrumental music crooning softly from a fist-size speaker attached to his laptop. In the office, austerely decorated with cane furniture and stacks of music CDs and books neatly arranged on a large glass-top desk, is the minister, sitting hunched with his head buried in his palms.

Well it has been in fact a long summer of discontent for the Congress-led UPA, as it fights a losing battle on several fronts. In the nearly two decades of coalition politics in India, the last 24 months have witnessed a complete breakdown of effective political machinery, which has derailed economic reforms.

Ramesh is in-charge of one of the most important ministries of the government, Rural Development, which administers flagship schemes like NREGA, allocated Rs 76,376 crore in the budget 2012-2013.

While it has been established that these schemes are fraught with leakages and corruption, their importance in a country where more than half of the population live in rural areas cannot be undermined. "Allocations have been made on certain assurances and that cannot be taken away," says the Chairman of the Prime Minister Economic Advisory Council, Dr. C. Rangarajan.


Rural Development has one of the highest budgetary allocations. But India spends a lot more in subsidising food, fertiliser and fuels - nearly 2.5 per cent of its GDP or Rs 2.16 trillion is spent on subsidies targeted towards the economically weaker section of the population.

There has been much debate and analysis on the efficacy of subsidies and the overwhelming consensus is that the government cannot afford its subsidy bill.

Ramesh, policy watchers, economists would like to see re-jigging of expenditure, reducing India's gargantuan subsidy bill and allocating resources towards roads, ports, railways, power, and rural development.



"Expenditure re-jigging is a political exercise, that's why successive governments have not been able to do it," says Ramesh.

And this inability to drive political consensus goes beyond the subsidy debate to major reforms, such as, the Goods and Services tax (GST) and opening up FDI in retail and aviation.

Sushil Kumar Modi, head of the empowered committee of state finance ministers on GST, says the Centre has not been flexible in incorporating the issues states have with the GST bill. "There is a trust deficit regarding compensation - the central government has assured that states will be compensated for the reduction of central sales tax from 4 per cent to 2 per cent and ultimately phasing it out - but the central government has not yet fully compensated for 2010-2011. States want categorical assurance," he says.

The flux over GST is only indicative of a deeper problem of lack of credible leadership. "Their [Government's] basic problem is diarchy," says Janata Party president Subramanian Swamy.

India has had coalition politics since 1989. The reforms of 1991, which unleashed opportunities for millions of Indians, were also a product of coalition politics. But the crucial difference is that the then Prime Minister P.V. Narasimha Rao ensured that the finance minister, Manmohan Singh, had the stability and space to push through reforms. "The credit should go to Narasimha Rao," says Swamy.

If we are to make the oft-cited comparison between 1991 and 2012, India was in a far more precarious state then than today.

India suffered a balance-of-payments crisis in the early 1990s.  Between 1950 and 1990, India's growth rate averaged less than 4 per cent, when the developing world including sub-Saharan Africa grew at 5.2 per cent per annum. The international credit rating agencies had placed India on the watch-list in August 1990 making borrowing difficult.

While India is in a far better place today - with better-than-the-rest growth rate and benefits of globalization - the daunting concern is that its policies might just undo the gains of liberalization, as socialist policies and greater government control once again take centre-stage - and a fractured leadership at the centre only aggravates the situation.

In a report dated June 8, 2012, Standard & Poor's states that the Congress party's inability to convince either the BJP or other smaller opposition parties to support its reform legislation has been downplayed. "Moreover, paramount political power rests with the leader of the Congress party, Sonia Gandhi, who holds no Cabinet position, while the government is led by an unelected Prime Minister, Manmohan Singh, who lacks a political base of his own; the previous BJP-led coalition government managed to gain the consent of enough opposition parties to implement economic reforms during 1998-2004," states the report.

Mounting subsidies has been a prickly issue. Even as political leaders from within the Congress party, economists and policy watchers have reiterated the need to cut down subsidies, the government has been wary of disturbing what it considers its strong vote bank.

The apprehension towards subsidies cuts across political divisions.

"The country cannot afford the present subsidy bill, that's clear," says Ramesh.

"Action on subsides is not something that can be postponed indefinitely," laments Dr. Rangarajan.

"There is no fiscal room available at all. They have to take steps to create fiscal room, restructure expenditure and cut subsidy. And that requires bold steps," echoes DK Joshi, chief economist of Crisil.

Yet the government has not been able to effectively move forward with cutting petroleum subsidies. Subsidy on petroleum products has made the biggest dent in the government's balance sheet. In 2010-2011, the government spent Rs 38,371 crore on oil subsidy; in 2011-12, the subsidy mounted 78 per cent to Rs 68,481crore.

Diesel price, a politically inflammable issue, was revised a year ago by Rs 2/litre. Recently the government went ahead and increased petrol prices, hinting that it might just take the "bold step" of revising diesel prices, which form a major chunk of the subsidy bill.

"Diesel subsidy is leading to a perverse use of SUVs," says Ramesh.

The recent petrol price revision by Rs 6.58/litre predictably excited the opposition and perhaps prodded the government to defer the diesel price hike, once again. However, during NDA's tenure (1998-2004), the Bhartiya Janata Party went head with 30 diesel-price revisions.

A former planning commission advisor on condition of anonymity talks about the freeze-mode government departments are functioning in even when it comes to taking the most obvious decisions. In coal mining, for instance, he says: "Everybody knows what the right thing to do is, yet no one will move forward."

It is a travesty that the Prime Minister, credited with overhauling the Indian economy, has not been able to influence his colleagues and proceed with liberalising the coal sector despite having publicly advocated it for many years.

"The system has to insulate the bureaucrat from his decisions. What has happened now is the insulation has completely collapsed. And that has made things much worse under UPA 2-particularly in the last couple of months. If the system collapses, whatever you do at the level of fiscal deficit is not going to help," says Bibek Debroy, an economist.

At Crossroads
"It's a question of which direction you are headed. There is a right path or a wrong path. So far the government hasn't decided, but at some point it will have to take a decision," says Saumitra Chaudhuri, a member of Planning Commission and Economic Advisory Council.

"These are not interest rate issues," he adds.

The broad consensus is clear that the oft-cited list of reforms, including FDI in retail and aviation, pension reforms, interest rate revisions are band-aid fixes; the government needs to appear serious about meeting targets announced on road construction, railways, and coal production.

"Apart from fiscal stimulus, government really needs to meet its targets that will induce confidence," says Ajit Ranade, chief economist of Aditya Birla Group.

There are two kinds of decisions in a democracy: decisions that are executive in character and decisions that require legislative support. Opening up FDI in retail and pension reforms would be legislative decisions, requiring parliamentary support. However, government has greater freedom in executive decisions.

To keep political vote banks intact, leaders from within the Congress party have been wary of reducing powers of public officials in over-regulated sectors of the economy. There has also been a sense of complacency that has set in about India's economic growth. India's over 8 per cent growth rate since 2004 despite lack of big ticket reforms has been a comforting factor. Apart from the complacency, there has been little or no effort to think innovatively to address leakages and corruption that have long plagued programmes, such as, NREGA and Public Distribution System.

"We need to think of innovative ways to solve the problem. Certain proposals have been made in the case of LPG subsidy to shield the lower income groups," says Rangarajan.

The current softening of oil prices could have a four-way impact - the current account deficit (at 4 per cent) could be reduced; fiscal deficit (at 5.75 per cent) would be smaller; impact on inflation would be moderated and that would have a softening impact on interest rates.

"If WTI (West Texas Intermediate - a grade of crude oil used as a benchmark in oil pricing) touches $80 a bbl, why is it not possible to lock in this price? It would have a huge impact on the current account deficit," says Ranade.

Adding up
After a deluge of bad news - with growth slipping to a nine-year low to 6.5 per cent,  industrial activity rising just 0.1 per cent in April and inflation remaining stubbornly high at 7.55 per cent in May - there is an indication that the economy might be close to bottoming out. According to the PMEAC, inflation will go down to 6.5-7 per cent this fiscal.  The average for last year (2011-2012) was 8 per cent. Current account deficit could come down from 3.9 per cent to between 3 per cent and 3.4 per cent, gold imports may decline and if domestic production increases, coal imports may also decline.

The PMEAC has pegged growth for the current fiscal between 6.5 per cent and 7 per cent.

"At the moment what is required is political consensus - in which all parties must recognise there is need for congruence of views," says Rangarajan.

Let It Be..
Rangarajan, who was deputy governor of the Reserve Bank of India in 1991, had devised a strategy to devalue the rupee to counter the balance-of-payment crisis. The two-step downward adjustment led to the devaluation of 18-19 per cent against international currencies. The devaluation came with its controversies, and eyebrows were raised - but Rangarajan pushed and went ahead.

When asked if he had decided to become inaccessible to stave off pressure, he said, "If there was a problem in New Delhi, I was not informed about it."

Rangarjan's devaluation strategy increased the foreign currency assets of the RBI by $3.4 billion by March, 1993.

Perhaps a lesson there for our policymakers - practise good politics and let the economists do what they know best.

*An earlier version of this story mistakenly said India has had coalition politics since 1986.  The correct date is 1989.