<b>T C A Srinivasa-Raghavan:</b> A tutorial for Jayant Sinha

Jayant Sinha has been given a great opportunity to implement the newly-announced aviation policies

Everyone, including perhaps Jayant Sinha himself, thinks he has been demoted. But the truth is that he has been given a great opportunity to implement the newly announced policies for aviation. So here’s a tutorial for him.

In the latter half of the 1980s, thanks to the pressure from the Uruguay Round of trade talks to liberalise global trade, one of the hottest research topics in economics was trade policy and within that, trade in services. One of the services which India examined was aviation.

Until 1993, aviation was a government monopoly. When it was broken, aviation in India took off. In 2003 the Naresh Chandra Committee recommended another round of liberalisation. There was once again a massive addition to capacity of both planes and airports.

Now some more steps are being taken to further liberalise the sector. Mr Sinha has to oversee that.

He may well find that the right questions have not been asked because economists have not been involved in the decision-making process. In fact, the Naresh Chandra Committee Report on the of civil aviation ministry’s website doesn’t even have a list of members, let alone mention an economist or even a reference to a study by one. I am not sure what the role of the (erstwhile) Planning Commission’s transport advisor has been.

One reason, of course, could be that there are hardly any professional transport economists in India. Within that extremely tiny set, of less than half a dozen, I can’t think of a single aviation economist.

As a result, there is very little professional economic research into an industry that has one of the biggest investment and employment multipliers. (The same, by the way, is true of the textile industry as well to which Smriti Irani has been sent. She too has a great opportunity and should not see her transfer as a demotion).

Fractured policy in aviation has meant that the vested interests look out for themselves by getting the “setting” right with the ministry; and the government relies on populism like fare capping etc.

Overall, confusion prevails. The latest example of this can be seen in the hugely contradictory guidelines on FDI.

Fly in some economists

The absence of economists from the debate has meant that the key feature of the aviation industry — its sheer capital and technological intensity — has been overlooked. Had the government thought of consulting them, it might have had a more rational approach to the imperatives of a highly capital-intensive business.

The first question an economist would ask is about the degree of competition that is sustainable in such a highly capital-intensive industry, namely, what is the optimal level of competition on a route? Two, three, four, five, six or more airlines?

The second would have been the nature of cross-subsidisation. Should it be intra-firm or across firms or depend on outright subsidies from the government, as the government is planning for the lesser destinations, say, via the profitable airports’ profits? The Category A, B and C method, by the way, involves an implicit subsidy from Air India to private airlines which gets subsidised by the taxpayer. Talk about nonsensical policies.

The third question an economist would ask would have linked both these to the rate of return that is needed to keep the aviation business healthy. What should that rate be?

This question, in fact, more or less determines the answer to the first two because globally, in any ten-year period the industry as a whole earns just about one per cent. As businesses go, therefore, it is a very stupid one.

The key economics issue in aviation is whether to have large, medium or small oligopolies. If resolved sensibly it yields a solution to the problem of cross-subsidisation: the larger the number of firms, the greater will be the need for intra-firm cross-subsidisation as firms focus on a variant of the Ramsey Rule which says that network firms must maximise revenue instead of profits.

But how is this best achieved? The answer is very surprising — via a public monopoly (like the railways) for which the Ramsey rule is intended.

The fact is that far from reducing output, raising prices and making excessive profits as monopolies are expected to, the Indian railways have increased output, lowered prices and made huge losses which, as it happens, is what airlines also do.

Of course, their service quality sucks. But are the airlines any different?

I am not suggesting that we should revert to a government monopoly. But Mr Sinha should regulate competition on sound economic principles, some of which are explained above.

For the rest, if he can find one, he should hire a good economist.