Shankar Acharya: Economic Policy: Mid-Term Report

A PIECE OF MY MIND

In a few weeks the UPA government will reach the mid-point of its five-year term. It's an opportune moment to assess the government's economic policy record (my focus is on policy rather than outcomes, since the latter typically come with a lag and are also influenced by other factors such as global economic conditions). I have chosen ten key policy dimensions and ascribed (subjectively) marks out of a maximum of 10 for each, with the proviso of giving a minimum of 2 marks as sort of "grace" marks or to cover some good policies I may have overlooked. Broadly speaking, the first five policy dimensions are "macro" and the latter five "sectoral". The marks are in the table but let me comment briefly on each assessment.

Fiscal Policy. There are really three key aspects here: the overall fiscal balance/deficit, taxation and expenditure policies. The Centre's gross fiscal deficit has indeed improved from 4.5 per cent of GDP in 2003/4 (pre-UPA) to 4.1 per cent in 2005/6. But the primary (non-interest) deficit has actually widened over this period from marginally negative to plus 0.5 per cent of GDP, which is quite worrying now that we are clearly on the upswing of the interest rate cycle. Furthermore, FRBM targets have already been twice "paused" or postponed formally by the UPA government. Even the fiscal deficit improvement is illusory on correct accounting, after factoring in the "oil bonds" issued by the government. Tax policies have been a mixed bag, with some good measures (such as peak customs tariff reductions and integration of service taxes in the Modvat framework) and some bad (such as the FBT, the cash withdrawal tax and the generous exemptions for SEZs). Expenditure initiatives have mainly accommodated the government's populist proclivities; there has been no serious restructuring to support stronger economic development in future. Hence, '4' would seem to be appropriate.

Money/Banking. In contrast, monetary policy has adroitly balanced the triple objectives of moderating inflation, nurturing growth and encouraging orderly foreign exchange markets. The RBI has done well despite the occasional, ill-timed diktat from the finance ministry (such as the recent one to public sector banks on interest rates). Banking is another story, with no progress in dilution of government ownership or in effective enhancement of bank autonomy. Treasury profits (from the interest rate downswing) and buoyant economic conditions have masked underlying weaknesses (in technology, personnel, "commercial culture" and managerial autonomy) of many public sector banks. It's going to be tougher in future, especially with the government's policy relapse into directed lending and interest rate controls. Overall policy coordination between North Block (which has primary responsibility) and the RBI has been manifestly weak at times. Taken as a package, '5' would seem reasonable.

Exchange Rate/External Payments. Against a background of continuing strong capital inflows (which have augmented forex reserves by about $50 billion since the UPA took charge) and rising oil prices, the RBI (presumably with government support) has prevented undue real appreciation of the rupee, nurtured two-way variation in the exchange rate, and moderated excess volatility. This has been no mean feat, especially in view of the concomitant challenge to "sterilise" the monetary consequences of reserve accretion. The approach to payments liberalisation has been cautiously positive, rightly so despite what some "market fundamentalist" academics may advocate. The successful management of the exchange rate has been a key determinant of dynamic exports (goods and services) and steadily rising inward remittances. Hence my award of '8' marks here.

Employment Policies. With India's burgeoning labour force (over 400 million already and expected to rise above 650 million by 2020) the importance of jobful growth is obvious...and critical. Unfortunately, our present labour laws discourage employment expansion and encourage casualisation, while "protecting" the 7 per cent of workers in the organised sector (including government). The UPA government, in thrall to this minority of privileged workers, has undertaken no reform of labour laws. The new rural employment guarantee programme is only a "make work" scheme (not real job creation), which suffers from serious design flaws. It's better suited for conferring political patronage (and corruption) than job creation. Hence, the grace mark of '2' in this crucial area.

Public Sector Reform. Well, there hasn't been any to speak of, even though it has become much more urgent with the stuttering halt of the disinvestment/privatisation programme. Despite lots of promises and committees on administrative reform, actual progress is absent. Another '2' I fear.

Trade and Industry. There has been modest (but welcome) progress on the well-established paths of reducing peak customs duties and pruning the list of items reserved for small scale industry. The fondness for regional trade pacts is a global disease (the UPA has also succumbed), which cannot really substitute for multilateral trade liberalisation. The UPA's showpiece industrial initiative is the SEZ scheme. Will it really boost additional investment (as opposed to diversion) and at what cost in tax revenues and land scams? The scope for the latter two seems ominously large. A '5' would be generous.

Agriculture. This crucially important sector has grown at less than a measly 2 per cent since 1996/7. The UPA has not produced any significant policy solutions for the sector's well-known problems. Its draft 11th Plan Approach Paper describes the "collapse" and disarray in agricultural extension, cooperative credit and water management systems. The sclerotic preoccupation with wheat and rice continues to hurt the development of coarse grains, pulses and non-food agriculture. A hugely disappointing '2'.

Human Resource Development. The most prominent UPA policy initiative, reservation for OBCs in higher education, is also the worst. Based on lots of political opportunism and little serious analysis, it could seriously damage the already strained higher education system without improving social equity. Meanwhile, throwing more money at a crumbling and unresponsive public school system is solving few problems. Another very disappointing '2'.

Energy Policy. If pampered Delhi's summer outages and the stubbornly high SEB deficits are yardsticks, the UPA has done little to solve the country's endemic power shortages. The government's response to higher oil prices has been equally weak and subsidy-prone. Coal remains nationalised and subject to depredations of political mafias. The genuinely bold nuclear deal offers a silver lining, but for the long-run. A '3' at best.

Other Infrastructure. The breakthrough on private airport development is truly commendable. Progress on national highway development and better railway performance are also welcome. But state roads and urban infrastructure (especially water and sanitation) remain deplorable, despite some initiatives. A '5' perhaps.

Totting up, that yields a 'barely passing' 21 (out of 50) for "macro" policies, a shameful 17 (out of 50) for "sectoral" policies and a flunking 38 per cent overall.

If policy is this bad, how come the economy is growing at 8 per cent? For clues to this puzzle see my columns (BS, 23 May 2006 and forthcoming).

The author is Honorary Professor at ICRIER and former Chief Economic Adviser to the Government of India. The views here are personal