LIC disinvestment: Right and wrong

The central government is disinvesting 5 per cent of the shares of the Life Insurance Corporation of India (LIC)

The Government of India (GoI) is disinvesting 5 per cent of the shares of the Life Insurance Corporation of India (LIC). The GoI will retain control of the company. It is likely that the government will sell more shares over time. It appears that the sale proceeds will be used for projects like highways. Even so, is all this sound economics?

Institutions like the LIC are possibly dear to many people. However, the economic case is weak. It is often said that it is not the business of the government to be in business. This implies that the GoI should privatise LIC — after a suitable amendment to the relevant law(s). It should give up the control and sell a controlling stake to a good buyer in the private sector at the right price even as the rest of the shares are sold to investors in a phased manner.

It is true that LIC has grown substantially over time, which is how it is such a huge company now. However, most of the so-called success is attributable to its monopoly power for about half a century. But that story is over. The change will very likely keep showing up gradually at first and then quite rapidly at some stage. So, we should privatise now.

Let us consider the previous related experience. There was disinvestment in public sector banks but not privatisation. The outcome has not been good for the taxpayer or for the economy more generally. On the other hand, where we did privatise properly, the experience has been on the whole better. It is time to privatise LIC. But this is not the complete story.

The government had given LIC monopoly power over the whole of India. Consider a counterfactual wherein each state government had its own LIC with monopoly in the respective states. In such a case, the profits made and the market capitalisation built would have been shared across states. It is time to rectify that and share the proceeds from the privatisation proposed here with the state governments. But there is an additional reason.

Though it is not the business of the government to be in business, it is very much the business of the government, and the government alone, to provide some public goods and services, which the private sector can fail to provide — a true market failure. Now there are several public goods and services that need to be expanded and improved. It is not just the GoI but the state governments too that are involved. Both need money. Here I will focus on three basic public services —the  police, judiciary, and tax administration.
 

The policing system is rather small, considering the population of the country. There is an obvious need to expand and improve. I need not labour the point that we need to spend more on the infrastructure and the human capital in the judiciary; we are familiar with “tareekh pe tareekh”. Next, consider tax administration.

The tax-gross domestic ratio (GDP) ratio is low in India. An important reason is that the public authorities have not over time invested adequately in research, planning, and the administrative machinery for the purpose of collecting more taxes — without high tax rates and without harassment. A higher tax-GDP ratio can, inter alia, pave the way for larger public spending on, say, education and health. These are merit goods, and the spending can be egalitarian and productive.

More and better public services enable more people to carry out economic activity, and do so safely and smoothly, which then leads to an increase in GDP. So, we have a social return on the suggested spending.

Consider an analogy even though it applies in part only. In the private sector, over a long period of time, investors who put money in Tata Steel made lower returns than those who invested in TCS even though the former had much more of the so-called tangible assets than the latter. Similarly, the GoI and the public at large can — at the margin — benefit a lot from spending on public services rather than spending on, say, highways.

Actually highways are not always public goods in the sense in which the term is used in the economics literature. At the cost of oversimplifying, a toll can be charged, under regulations, by a private player to cover the costs and even make some profit. There is, in principle, often no market failure here. This is unlike the case of the public services considered above.

To conclude, instead of mere disinvestment, it is important to privatise LIC, and use the sale proceeds for expanding and improving basic public services that are effectively productive and that only the government can provide and that can benefit the common person much more than those who are well-placed.

The writer is visiting faculty at the Indian Statistical Institute, Delhi Centre