M Govinda Rao: Bureaucratic capture of market regulation

A great thing about Indian bureaucrats is that they take any challenge as an opportunity.

An important component of economic reforms is the setting up of an effective system of market regulation. Regulating the market is necessary to activate and ensure fair competition, protect consumers from monopolistic exploitation, prevent predatory behaviour and deal with problems arising from asymmetric information. Thus, many advanced market economies have competition commissions to ensure fair competition. The stock market is regulated to ensure fair trading, take care of investor interests, and prevent insider trading. Utilities requiring lumpy investments and occupying predominant market shares and those industries in which information asymmetry threatens consumer interests need supervision and regulation.

In India too, a regulatory system has been set up to ensure fair competition, protect the consumers' interests and minimise difficulties and problems arising from asymmetric information. Thus, we have regulators in activities such as the stock market, the insurance market, telecommunications, electricity supply and water supply. In the case of the electricity industry, each state is required to have a regulatory authority besides the Central Electricity Regulatory Authority. The reforms in many of these sectors have been of relatively recent vintage and the establishment of regulatory authorities is at various stages of implementation in states. Furthermore, different industries have different degrees of complexity and regulating industries with information asymmetry are much more complex than simple utilities.

Complexity in the nature of the industry requires that the regulators have specialised knowledge and professional experience in the industry, should be independent and impartial, and should not have conflicting interests. Considering the fact that these are extremely important industries with significant externalities to other sectors, competence, experience, independence and objectivity should be the core criteria for the choice of regulators. It should not matter whether the persons come from the public or private sector.

However, the qualifications specified for regulators in India have been tailored to accommodate virtually any senior retiring bureaucrat. Thus, in the case of central electricity regulation, the chairpersons and members are required to have "adequate knowledge, experience or shown capacity in dealing with problems relating to law, economics, commerce, finance or management". Given that senior bureaucrats in their long careers acquire "adequate" knowledge of one or more of the above, they become eminently eligible. Similarly, telecom regulators should have "... special knowledge, and professional experience in telecommunication, industry, finance, accountancy, law, management or consumer affairs". The dilution is the most in the case of Sebi, which requires understanding of the complex securities and financial markets. The Act states that the board chairman and members should be persons of "ability, integrity and standing" and "... who have shown experience of law, finance, economics, accountancy, administration or in any other discipline which in the opinion of the Central government shall be useful to the Board". This virtually covers everything and the Act could have simply stated that the central government can appoint anybody it wants.

The dilution of qualification requirements for regulatory positions is not a mere oversight. It is part of the design to provide opportunities to senior bureaucrats, retired and serving. In the case of the chairperson of the Telecom Regulatory Authority, for example, after specifying the requirement of "specialised knowledge and professional experience", the Act states, "Provided that a person who is, or has been, in the service of Government shall not be appointed as a member unless such person has held the post of Secretary or Additional Secretary to the Government of India or any equivalent post in the Central Government or the State Government for a period of not less than three years". Furthermore, generally the tenure for these positions is fixed for three years (in the case of the Telecom Regulatory Authority) to five years (the electricity regulatory authority and Sebi) and until the person attains the age of 65. Indeed, the decks are clear for senior retiring bureaucrats to take up regulatory roles, irrespective of whether they are qualified for the job.

The system does not merely stop at expanding opportunities for senior retiring bureaucrats. The attempt is to erect barriers to the entry of professionals into the regulatory system by specifying the terms and conditions of service. The chairperson and members of a regulatory authority would receive remuneration aligned to the pay they got while in service, which implies that it is virtually impossible for professionals of a high standing to be involved in regulation. The condition also requires that after relinquishing the office of the regulatory authority, the chairperson and members are ineligible for further employment with the government, and, more importantly, should not accept any commercial employment, for a period of two years (one year in the case of the Telecom Authority) from the date he relinquishes office. Surely, no serving professional would choose to spend two years in oblivion.

With this, the bureaucratic capture is complete in the complex and difficult area of regulation, which requires the entry of professionals. The fact that they lack specialised knowledge of the industry to be regulated is not a disadvantage. Their "independence" is not questioned, for, they are Caesar's wives! This is not to say that retired bureaucrats do not have the capacity, capability, or competence, but simply that being generalists they have limitations in developing expertise in the complex area of regulating difficult industries involving information asymmetry such as the stock market or insurance. The important issue is that there is no need to exclude experts from the regulatory system. Most of the regulators appointed acquire their understanding of the industry on the job. More importantly, in the case of regulating public utilities, having got used to working on the side of the government, it is difficult for bureaucrats to work in an independent framework.

A great thing about the Indian bureaucracy is that bureaucrats take any challenge as an opportunity. Of course, they have vast opportunities in various commissions and committees. The decentralisation reform required the constitution of State Finance Commissions and most positions of chairpersons and members have been easily filled by them. Electricity reform required the establishment of regulatory commissions at the central and state levels and they provide ready expertise! They are equally at ease in entering the regulatory system of complex areas. Who cares if scams come up from time to time? Will the country give the opportunities to the real experts where they are required?

The author is director, National Institute of Public Finance and Policy. Comments at mgr@nipfp.org.in