[I sat on the Prime Minister's Economic Advisory Council for a couple of years and adivsed Atal Bihari Vajpayee; then I resigned when I went to Stanford. After coming back, I used my freedom to criticize the government's economic policy. This column was published in Business Standard of 14 November 2000.]
The Premier’s dilemma
Early this month the government transferred 14 secretaries. It was thoroughly and deservedly excoriated by the press. In the damage control exercise, a Deep Throat put out the story that the Prime Minister is concerned over the poor performance of the economy and perplexed by disagreements amongst government economists, and that he decided to replace the team in the finance ministry to get some cohesiveness in policy.
It is a pretty lame story; and for that reason it is substantially true. The Prime Minister’s Economic Council is now two years old. Every once in a while the PM calls it together, its members give him sage advice, in return for which he gives them cashew nuts and tea. Much has been said, much paper has been expended; but at the end of it, the PM remains as bemused as ever. Now he has asked the members of the Council to speak to him with one voice, and give him the consensus of their advice. The story of the meeting between finance ministry officials and the Governor of Reserve Bank in his presence has also been leaked to the press; apparently there were sharp differences between them and the Governor on policy, and the PM was even more deeply bemused.
Having been conveniently removed from the Prime Minister’s Economic Council, I have no knowledge of the precise points of difference. But the cause of the dispute between Bimal Jalan and the sacked finance ministry officials is pretty easy to imagine. It relates to four issues:
1. Balance of payments: Reserve Bank makes projections of the balance of payments; they are apparently alarming. Just why would not be clear to mere mortals, but the reserve bureaucrats know something that we do not. For one thing, they know how much military hardware from Russia and France is going to cost; apparently it runs into billions. For another, Resurgent India Bonds come up for repayment in 2003. But there is apparently something more. It probably has something to do with foreign capital inflows. The defaults of Essar and Spic have turned foreign lenders off Indian companies; and if Indians themselves are not buying into Indian companies, other than software companies, foreigners are hardly likely to do so. If they join Bajoria and Dalmia and take over cheap Indian companies, the xenophobes will raise a racket. Both the government’s swadeshi connections and the industrial slowdown are bad for foreign investment. Whatever their precise elements, the forecasts look bad.
What can be done about it? The only thing RBI and finance ministry could agree on is borrowing – in the form of India Millennium Deposits. These borrowings are a racket. They are only for NRIs, so others have to pay NRIs a commission for getting in (which is why the US has banned us from collecting the deposits there). They are at an appreciably higher interest rate than the rate at which NRIs can borrow, so NRIs can earn a nice little margin. Some of that margin can be given back to those who conceive and collect these Deposits. So they are popular amongst politicians and state bankers too. And RBI gets an accretion to its reserves. Everyone is happy. But this is not enough in RBI’s view; more needs to be done.
2. Exchange rate: What could be done? Devaluation? That would raise the price of oil. The government could not even pass on the price increase that has occurred; it made a messy compromise. A further price increase would mean a bigger deficit on Oil Price Equalization Account, more trouble with more Mamtas.
3. Interest rates: After dipping briefly in 1997 and 1998, interest rates on government borrowings are pretty close to what they were in the early 1990s. Their cost pinches more because in the meanwhile, the government has added a couple of trillion Rupees to its debt. Government’s borrowing rates push up the rates at which banks and FIs lend to industry, so industry is complaining. The finance ministry would like RBI to reduce interest rates. Now that the central government does not borrow on the SLR, the banks cannot be forced to take its loans. RBI finds it difficult to place the increasing volume of loans even at the current interest rates; how can it force the banks to take the bonds at even lower rates? The finance ministry thinks it can; the governor thinks it cannot. Besides, he is aware that although he has strangled the foreign exchange market, leads and lags in payments for exports and imports can cause a run on his exchange reserves; he needs to keep domestic interest rates high to persuade traders to keep their money in India.
4. The budget: The Governor must have told the finance ministry that the solution lay in its lap: it must borrow less. Then he could bring down interest rates. He would have pointed out that revenues had been buoyant this year despite the slowdown, but that the government had managed to blow them up by spending on arms and what else. In the circumstances, it should reduce expenditure, raise taxes or both in the next budget.
These are the controversies to settle which the Prime Minister sacked the top brass in the finance ministry. Will he have settled them thereby? Will the next lot agree with the Governor and bite the bullet? I doubt it. What I am sure of is that it will fully display its inexperience and opportunism in the next budget. It will not touch government expenditure, whence politicians derive their sustenance. It will raise import duties; from the Swadeshi xenophobes to the FICCI-CII types, every lobby loves this, whatever its effect on exports. It will raid the cash reserves of public enterprises to fill its borrowing requirements. But to cure the economic slowdown that the PM brought it in to do? It would not even know where to start.