Haseeb A Drabu: A directionless exercise

BACK TO BASICS

The pre-Budget Economic Survey presented to Parliament yesterday doesn't deviate from the set format which has been devised in the late 1970s. As such it is unable to address the important emerging issues, including the ones that the new government has been raising since it had come to power.

Analytically speaking, there is nothing new in the Survey either in terms of analysis of the prevailing conditions of the economy, or any fresh policy perspective and concrete options for macro-economic management. The stark issue of high growth with worsening entitlements and distribution has neither been contextualised nor discussed.

Given the fact that the new government is looking to change the mix between growth and distribution, it was expected that the Survey would lay the ground for the policy stance of the forth-coming Budget as well as the macro-policy for addressing the issue of distributional distress. While this issue has been highlighted, there is no consistent policy direction emerging.

For the last 15 years or so, income inequality or distribution of resources in general was not high on the agenda. The policy-makers had veered round to the view that the distribution can be considered more or less independent of economic activity and efficiency.

It was being implicitly assumed, a la the second theorem of welfare theory in the Arrow-Debreu framework, that if markets function perfectly and if lump sum redistribution "" that is positive or negative transfers unrelated to economic outcomes "" among agents can be carried out, then any distribution of income can be achieved as the result of pure market mechanisms.

There is a distinct shift from this position now. It is clear that lump sum redistribution is impossible in the real world, and since any redistribution necessarily entails a modification of the price system, it entails a loss of efficiency for any competitive economy as a whole.

It follows that there has to be an inverse relation between greater equity, that is greater redistribution, and greater efficiency and growth. The question is how to strike a balance between these two alternatives. There are no answers to this in the Survey.

The Survey has not been able to make up its mind on whether maximum efficiency is to be encouraged "" maximum growth being then the objective of policy "" or whether policies should be encouraged that may lead to slower overall growth rate but distinctly are more favourable to the poor.

The trickle-down principle "" growth eventually having a positive effect on poverty "" has been dominant for the last 15-20 years. But now the view that seems to be regaining dominance is the thinking about development in the 1970s, most notably following the famous book Redistribution with Growth, written under the direction of H Chenery in 1974 (Montek Ahluwalia, the new deputy chairman of the Planning Commission was one of the co-authors).

Then it had faded in the face of the crisis that ensued and during the so-called "lost decade of development". Now it seems to be making a comeback.

Much has happened since 1974. This emphasis on poverty reduction and possible redistribution in development strategy need not be justified by a necessary trade-off between efficiency or growth and equity. This choice is not necessary, because at least the economy that we live in does not satisfy the basic conditions necessary for such a trade-off to exist.

The point is that the "real" Indian economy is "inefficient" in which case gains in both efficiency and equity may be obtained simultaneously.

Indeed, a progressive redistribution of resources may prove to be a necessary condition for improving the efficiency of the economy. It is easy to conjure up examples of situations where excessive inequality of resources engenders inefficient allocation of resources.

The most obvious is probably the case of an imperfect credit market where an agent, due to a lack of collateral, which would allow him/her to borrow what he/she requires, is prevented from undertaking an investment whose social and private profitability is nevertheless greater than that commonly observed in the economy.

This is precisely the sort of an inefficiency that lies at the heart of the economy's current problems.

It is well know that it is the inequality of assets rather than that of income that matters for efficiency and growth. But for transferring ownership of resources, the government neither has the political will nor the instrumentalities and indeed is not even a part of their economic policy agenda.

Redistributing current income which is what the government is keen on doing may have no direct effect on the distribution of resources and may not have the same effect on economic efficiency as a redistribution of resources.

It is such issues that the Survey needs to bring up. In other words, there is a need to make the

Economic Survey situation specific. It cannot be generic for all times and phases of the economic cycle and growth process.

If that is the underlying framework within which the economy situation is surveyed, the questions that are on top of the mind of the business community and the society, rather than the government alone, will get answered making the whole exercise meaningful.

This year, for instance, stretching and strengthening current evidence and extracting from it lessons for policy making, and investigating the complex dynamic disaggregated relationship between distribution and growth should have been the theme of the Survey.

haseebd@business-standard.com