Does Modi have an Economic Road Map?

Pragmatism and flexibility is a virtue. An untethered and short-term approach to policymaking is a flaw, argues Mihir S Sharma.

Nobody can accuse the National Democratic Alliance government of having a coherent economic ideology.

It is true that, prior to the 2014 election, hopes were raised that a Narendra Modi premiership would be economically reformist. And there certainly have been some major reforms in the past seven years, including in bankruptcy and indirect taxes.

But there has also been some major backsliding, such as on trade and in statist industrial policy.

Recent statements that suggest the government is willing to restart stalled trade negotiations — driven both by post-pandemic requirements and geopolitical pressures — are representative of this incoherence.

Policy has taken multiple, and sometimes contradictory, directions. The government on the one hand has restored the primacy of the public sector, and made it clear it wishes to continue to occupy the commanding heights of the economy.

On the other hand, revenue considerations have forced it to consider monetising the public sector’s assets.

It has sought to avoid new trade agreements and shut down legacy investment agreements, while also claiming that it wishes to expand Indian export markets through subsidies and incentives.

It has introduced methods to make paying taxes easier and ‘faceless’, while also expanding the scope for official capriciousness against taxpayers, supposedly to combat evasion.

It has backed big business against farmers on land acquisition; small shopkeepers against big business on e-retail policy; and consumers against small shopkeepers on ‘hoarding’ of essential commodities.

It has sought corporate foreign investment into the Indian economy, while also backing domestic companies against foreign-owned ones such as Amazon or Mastercard.

As a solution to mass youth underemployment, it has at various points promoted the ‘personal sector’ or micro-entrepreneurship, ‘Make in India’ or mass manufacturing employment, and public sector jobs.

It has provided the Reserve Bank of India with a legal framework for monetary policy targeting and independence, and then has sought to undermine the framework it itself provided through personnel selections and forcing the central bank into indirectly support of deficit financing.

It has tried to cut down and rationalise centrally sponsored schemes to give states more room to set policy, and then it has tried to cramp states’ policy making through restrictive terms of reference to the Finance Commission.

Objectively, these add up to a government without the road map that an economic ideology provides nevertheless searching for practical ways out of specific problems. It does not suffer from inflexibility, but it also has no staying power — and thus ends up appearing erratic and impulsive.

Just as targets are no substitute for vision, this precarious pragmatism is no replacement for consistency and predictability.

Pragmatism is a useful, even vital, quality for policy makers — especially in uncertain environments. But that very uncertainty also requires the sort of policy stability that comes from a coherent view of India’s economic trajectory and of how immediate problems fit into that trajectory.

One might argue that India’s two most problematic growth bottlenecks are productivity and investment. Yet, without a properly grounded and integrated view of the world, the problems of manufacturing, of exports, of employment, of trade deficits, of stagnant wages, of fiscal space, of inflation, of aggregate demand and so on might all seem to be different and isolated, and requiring separate prescriptions.

This is how the government has been treating them, and this is why there is incoherence to its policy solutions.

Trade deficits are being addressed by keeping us out of trade agreements and export promotion, with a cost to inflation and productivity; inflation is controlled by monetary policy targeting, with an effect on rates, investment, and manufacturing; manufacturing is being addressed through incentive schemes, with a cost to the fisc; fiscal space is being eased through tax enforcement and fuel taxes, with an effect on aggregate demand; aggregate demand is being addressed through deficits, with a consequent increase in inflationary pressure; and so on.

If, instead, it is productivity and investment that are the immediate bottlenecks, then government effort should be focused on improving those two factors.

Productivity can be addressed first by increasing the human capital available in the economy, and by ensuring that employers can tap it more easily.

This requires more focused support for skilling; and support to migrant workers in order to allow individuals to move to high-productivity parts of the country.

Search costs for employers and employees have to be reduced, and individuals seeking to up-skill or move need a social welfare net to allow them to do so. Welfare schemes therefore have to be redesigned to aid in increasing India’s human capital.

The second requirement for productivity gains is the right incentives and opportunities for companies. They cannot hide behind government protection from competition, or expect subsidies for unproductive activity.

Equally, they need to be free and able to make the hard choices in terms of financing, ownership, employment and location needed to become globally competitive.

They need access to better sources of finance than public sector banks; freedom to hire and fire; visibility in the future availability and pricing of inputs like electricity; and an open and deregulated land market.

Investment — which, remember, has recently hit lows not seen for decades — can be increased only through a coherent vision of where future demand will come from. Given current capacity, demand and growth prospects in the domestic economy, it is meaningless to expect investment to bump up only to serve Indian consumers.

Any transitory increase in investment thanks to production-linked incentive schemes will only result in the creation of unproductive and ultimately costly capacity.

Nor is it likely that, in an economy suffering from overcapacity and in which potential growth has sunk to 4-5 per cent a year, investment is likely to reach the levels seen in the 2000s.

Thus augmenting domestic with global demand is necessary if investment is to go back up — which might in turn require a very different approach to trade agreements than hitherto.

In addition, a sustained increase in private investment will require stability in tax policy, in regulatory policy, and greater speed and transparency in dispute regulation — whether by independent regulators or by courts.

It requires the government to not be a party to disputes — since investors know they cannot win against the Indian government — and thus a smaller public sector and fewer tax demands.

The government might claim that this is not what the Indian industrialists it meets are asking for; they are asking for direct fiscal incentives or tariff walls. But it might also consider the effects of sample selection: The industrialists who survive and think they can grow in this environment, and are on talking terms with the government, are precisely those who will be asking for direct fiscal incentives.

Pragmatism and flexibility is a virtue. An untethered and short-term approach to policymaking is a flaw.

The government must try harder to find the former without losing its way towards the latter.

Mihir S Sharma is head of the Economy and Growth Programme at the Observer Research Foundation, New Delhi.

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