ECONOMY AT THE BEGINNING OF THE MILLENNIUM

[After a respectable run through the 1990s, economic growth showed signs of faltering in the early years of the millennium. Intriguingly, it was led by a slowdown in the growth of services, which had been the new driver in the 1990s. In this series published in Business Standard in July and August 2001, I analysed what was happening.]

The State of the Economy

I   National income and its parts

Growth has slowed down. Industry has been none too happy for the last few years, but now it is getting desperate. Its plight has stirred the finance ministry to call meetings and make soothing noises. The finance minister says things will be better by the end of the year. He has said that before; they did not get better then, but no one reminded him of his forecast. How bad are things getting? And more important, why?

There could be a worse place to start looking for an answer than national income figures. These do not attract half the attention that industrial production and wholesale prices do. For one thing, the latter are published more frequently, and hence give newspapers more chances to headline. For another, national income figures are put out in some detail by Central Statistical Organization. They take too long to read, and the image of the CSO is rather fuddy-duddy; it is regarded as a somnolent back office of the government.

Actually, it is one of the more reliable and professional offices of the government. Because it is obscure, it is not subject to the political pressures of the more high-profile branches of the government. The economic division of the finance ministry, for instance, has not put out its monthly newsletter for the last three months. That may be because it would reveal some embarrassing figures. But no one in the government takes national income seriously, so no one tries to pressure the CSO to change or delay figures. Especially in respect of industrial production, I would give more credence to CSO’s national income figures than to the Industry Ministry’s figures.

That does not mean that the CSO’s figures are perfect. In a socialist economy that has suddenly turned capitalist, people conceal much from the government; the more successful they are, the worse are official estimates. More important, I do not think the CSO is good at separating price and volume effects in services; and since services now constitute over a half of national income, mistakes in this area can lead to big biases in the estimates. Take for instance the high growth rates recorded till early 1999; in the second quarter of 1999, the GDP growth rate was 7.3 per cent. That was the Gujral effect: the government had given enormous wage rises to its servants, and the CSO regarded these as increases in the babus’ output. Actually, it was nothing of that sort: it was just a rise in the price of government services. CSO has no measure of what services the government provides, and the growth rates over 9 per cent in non-commercial services it recorded in 1998-99 and 1999-2000 were phony. That means, however, that the fall in growth since then is also exaggerated.

If we keep this in mind, the latest estimates of national income the CSO issued on 4 July are educative. Note, first, that the CSO has brought down its growth estimates for the whole of 2000. This means that the figures given in the Economic Survey as well as in even the latest RBI Bulletin are outdated. The old figures suggested that growth had been over 6 per cent and began to taper down only in the last quarter of 2000. The new ones confirm this tapering down, but also suggest that growth began to come down as early as in the second half of 1999. And if the Gujral effect were removed, it might emerge that the over-6 per cent growth in the first two post-BJP years was a bit of a fudge.

So the old official figures tell the following story. The Man Mohan Singh era ended in 1996-97 with dazzling growth of 8.2 per cent in 1996-97; after slumping to 4.8 per cent the next year, growth recovered to 6.5 per cent in the following two years. Growth did recover, but probably to somewhere below 6 per cent – it could have been as low as 5.5 per cent. A recovery from 4.8 per cent to 5.5 per cent would be much less impressive than to 6.5 per cent.

Now let me come to the more recent period, portrayed in the accompanying table. It gives the two snapshots of the same reality – growth in annual figures staggered six months at a time, and growth in quarterly figures. The latter take us closer to the present moment; but being for a shorter period they can embody more accidential fluctuations, and therefore obscure trends.

The annual figures suggest that growth has been slackening for the past two years. Agricultural growth has been negligible throughout the period, and hence made no contribution to the slow-down, which is entirely attributable to industry and services. What they say – and what public discussion has entirely ignored – is that the decline in growth is largely due to services. Industrial growth fell 0.7 per cent over 2000-01; with a weight of 24 per cent its impact on overall growth would be less than 0.2 per cent. Services growth, on the other hand, fell 1.9 per cent; with a weight of 54 per cent its impact on overall growth would be almost 1 per cent.

Take the universal belief: that agricultural growth has been poor in the past two years, that it affected those industries such as FMCG and tractors which depend on rural demand, and that the consequent slow-down in industrial growth is behind the current malaise. The table flatly contradicts it: it is the slowdown in services growth that is chiefly behind the overall decline in growth.

Which services? “Other” - which chiefly means government – showed the biggest drop; this confirms my story of the bogus rise in GDP arising from government wage increases accounting for the equally bogus fall later. Construction shows the next biggest fall, but it cannot have much effect on overall growth. Financial services come next; and the fall in their growth is credible, for the entire financial sector – stocks, company deposits, leasing – has been in doldrums, thanks to the combined labours of income tax department and Reserve Bank. And finally, commercial services – trade, hotels, transport etc.

The quarterly figures show that the slowdown began in the last quarter of 2000, and accelerated in the first quarter of the current year. The first-quarter figures are awesome: growth has not fallen to such a low level since 1997. The fall in the last quarter of 2000 is entirely due to services; so the story coming out of the annual figures continues till the end of 2000. But the first quarter of 2001 tells a very different story. The big fall in agricultural growth does not matter; it was the lean season anyway. It is the fall in industrial growth that is impressive. Add the fall in growth in construction; you cannot avoid the conclusion that a catastrophe befell industry.

What catastrophe? I shall take up that question next week.

	Y    e    a    r    -    o    n    -    y    e    a    r            c    h    a    n    g    e
	2000	Y e a r s   e n d i n g			Q   u   a   r   t   e   r   s
	weights	2000Q1	2000Q3	2000Q1	2000Q1	2000Q2	2000Q3	2000Q4	2001Q1
REAL GDP	100	6.4	6.1	5.2	6.0	6.1	6.2	5.0	3.8
Agriculture	24	0.7	-0.3	0.2	-1.3	0.6	0.5	1.0	-1.4
Industry	22	6.0	6.3	5.3	6.8	6.6	5.4	6.1	3.2
Mining	2	1.7	3.3	3.7	3.6	5.0	3.8	4.4	1.9
Manufacturing	17	6.8	6.9	5.6	7.6	7.0	6.0	6.1	3.5
Power, gas & water	2	5.2	4.6	4.7	4.2	5.7	3.0	7.8	2.5
Services	54	9.4	9.3	7.5	9.3	8.6	8.5	7.0	6.3
Commercial	22	8.0	8.3	6.9	8.3	9.7	7.3	6.6	4.5
Financial	13	10.1	9.6	9.1	8.5	9.5	9.8	8.0	9.3
Construction	5	8.1	8.7	5.5	10.3	8.4	8.4	5.2	0.7
Other	13	11.8	10.7	7.8	11.0	6.0	9.2	7.5	8.3

II   What ails industry?

In the last article I showed that while the decline in growth in the past two years was largely atrributable to services, a new downward phase started early this year, in which industry took the lead. That should be news to no one. For the universal belief is that the last was a poor year for agriculture, and that poor agricultural performance slowed the growth of demand for industrial goods consumed by villagers, such as fast moving consumer goods, bicycles, scooters and tractors. This is supposed to be the primary factor behind industry’s troubles.

This story is not quite right. But proving it wrong is takes some doing because figures of industrial production are so disorganized. It would be easy if we had up-to-date figures of the sales of those goods that have a chiefly rural market. But such statistics do not exist. Lots of figures are published – of production, imports, company sales, prices – but none that would answer the questions anyone would want to ask. Many relevant figures are published, but too late to be of any value.

In the socialist times, every licensed establishment was required to send monthly returns on production to the industry ministry. With the passing of socialism, that obligation was allowed to decay. Even now returns are sent; they are the basis of the index of industrial production, published every month. But it is not known what proportion of the productive establishments send returns, and how many send it late. The revisions in the figures are generally due to late arrival of information.

These raw data, incomplete or late as they might be, lead to three products. The first is the CSO’s national income statistics, which I used in the last article. The second is the index of industrial production, also compiled by the CSO. The third is physical output of six industries put out by the Economic Advisor to the Ministry of Industry. Why just six? It beats me. I suppose these industries still submit reasonably complete and timely returns to him.

In the accompanying table I have brought together figures from all the three sources – just enough to draw some sense out of them. I have calculated growth between two quarters separated by a year. This way I have tried to reduce the influence of accidental month-to-month variations..

Together, they suggest that industrial growth began to slow down early this year – some time around February. This is unusual, for in earlier years growth used to spurt in the last two months of the year. The reason was twofold. First, workers in government enterprises slacked all the year round, but as the financial year approached its end even they were shocked by their prospective performance, and worked like mad to improve the annual performance. Second, managers of private companies expected excise duties to rise in the budget, and tried to book as much output in the current year as possible. Both these phenomena now belong to history. Government enterprises are today more driven by competition than by the ministry’s whip; and excise duties no longer increase every year. But the slowdown cannot be explained in terms of the reversal of the two factors: public sector workers do not slack in the last two months of the year alone, and the private sector does not expect excise duties to fall. And the figures we do have for April and May show that the slowdown continued beyond the end of the financial year.

Is agricultural stagnation behind the decline in growth? The growth of output of two-wheelers, which now have a predominantly rural market, did slow down, as also of output of non-durable consumer goods in general, and textiles in particular. Thus the imprint of agriculture is undeniable.

But that is not the whole story. There are four others. First, the output of capital goods has been falling. The capital goods industry went through a radical restructuring as a result of the reforms. It had to compete with machinery imported duty-free under EPCG scheme while its inputs bore high import duties; and it had to compete with the latest technology from abroad. But it coped well; its growth rate was high right till 1999-2000. Since then, however, it has slumped badly; it reflects the slump in industrial investment.

Second, there is the slump in construction. This industry had a spectacular run for two years, but in the current year its output has declined. Third, the output of consumer durables was growing impressively till the end of last year; since then its growth has slumped sharply. And finally, these three factors together imply slower growth in the demand for steel in particular and metals in general.

So agriculture is only a small part of the story.the big story is that there is a fall in the demand for costly things – houses, factories, cars, machines. It is not poor farmers who have caused this downturn; it is rich city types. And it things that last whose demand has fallen.

And why? This situation is familiar in the history of economies, and the reasons are easy to imagine. One is an inventory cycle: from time to time rich people buy too much of durable things, and then they buy less for some time. In the case of factories and machines for instance, industrialists invest too much, capacity outruns demand, and then for some time they invest less. Except that this time, they have not been investing all that much in the last two years. It is not like in 1996, when industrialists who had soared on a cloud of optimism came down with a thump.

The other is high cost of borrowings. Manmohan Singh had got worried in 1995 that industrialists were showing too much of animal spirits and that the economy was overheating, and had asked Reserve Bank to turn down the spigot. But this time, it is just the reverse. Banks are flush with money; not knowing what to do with it, they are parking it with the government. And interest rates have come down. On 29 June Reserve Bank raised Rs 40 billion at an interest rate of 9.2 per cent; it must be decades since it paid such a low interest rate.

So this is not a normal trade cycle in which rapid growth is followed by a correction, for there has been no rapid growth to precede it; and the downturn does not have its roots in money.

So where does it come from? One of its obvious roots is in trade and foreign investment. To these I will turn in the next article.

Growth rates (quarterly  year-on-year, in quarters ending in)(%)
			Sep-00	Dec-00	Mar-01	Apr-01	May-01
Industry (national income)			5.4	6.1	3.2
Industry (IIP)			5.3	5.9	3.2	2.8	2.4
Mining (national income)			3.8	4.4	1.9
Mining (IIP)			3.8	5.5	1.5	1.4
Coal (EAIM)					-2.5	-2.9	-0.4
Electricity (national income)			3.0	7.8	3.5
Electricity (IIP)			1.9	7.6	1.4	1.0
Thermal power (EAIM)					3.5	3.8	5.2
Manufacturing (national income)			6.0	6.1	3.5
Manufacturing (IIP)			5.9	5.7	3.5	2.8
Metals and products (IIP)			7.6	5.2	-3.0	-5.2
Steel (EAIM)					-1.4	-1.4	-1.7
Capital goods (IIP)			3.1	0.7	-2.4	-3.8	-2.5
Machinery (IIP)			7.8	7.6	4.6	3.9
Consumer durables (IIP)			16.8	14.1	5.3	4.8	2.8
Vehicles (IIP)			-1.9	0.3	-8.4	-6.2
Motor cycles and scooters (CMIE)			12.0	9.6	-0.6	-1.9
Cars (CMIE)			13.0	-0.4	-6.8	-8.8
Commercial vehicles (CMIE)			5.0	-8.3	-12.4	-10.5
Non-metallic minerals (IIP)			7.3	-8.3	-5.2	-1.8
Cement (EAIM)					5.6	0.1	-8.2
Non-durable consumer goods (IIP)			4.3	7.0	8.0	6.7	4.5
Textiles (IIP)			7.1	3.6	-2.0	-0.3
Sugar despatches			14.9	15.4	15.7
Paper (IIP)			-16.0	-10.8	1.6	3.0
Other manufacturing (IIP)			7.5	9.3	5.7	5.8

III    Rescued by the balance of payments

As the accompanying table shows, the share of current account inflows in GDP was 18.9 per cent, and of outflows, 18.4 per cent in 2000-01. Ten years ago, their share was 10-12 per cent. When the economy was closed, excess of domestic demand over supply led to inflation, and excess of supply over demand led to unemployment of workers and productive capacity. With liberalization of trade and investment, a boom at home can draw in imports and foreign investment, whilst slack demand at home can lead to greater exports and import substitution. In this way, foreign trade and investment have become more important and begun to play a stabilizing role in the economy.

The payments deficit was about the same – $ 4-5 billion – between 1997-98 and 1999-2000; in 2000-01 it declined sharply to $ 2.3 billion. As a proportion of GDP, it fell from 1.7 per cent to 0.5 per cent. Thus over the past four years, external flows have boosted demand in a slowing economy. This anti-deflationary effect has been particularly pronounced in the past year. As a proportion of GDP, the current account deficit was 1.9 per cent in April-June 2000; by the first quarter of 2001 it had turned into a surplus of 0.7 per cent. The improvement was entirely on merchandise account; the visible deficit fell from 4.4 to 2 per cent of GDP. Thus merchandise trade has been strongly boosting a slowing economy.

This macroeconomic story has its parallel in individual industries. The growth of various industries closely matches their export success or lack of it. Food industries’ output grew 8.7 per cent in the year running from May 2000-01 over the previous year; they have also had a satisfactory export year. The comparable growth rate of leather was 10.6 per cent, of jute 15.5 per cent, of chemicals 6.2 per cent, and of petrochemicals 9.5 per cent; these are all industries whose exports have been satisfactory to brilliant.

And the metal-based equipment and consumer durable industries, which lead the slowdown, have all trade deficits, or are protected by tariff walls, or both. The trade barriers vary greatly across products, and some of them were removed only this April. But by and large, metal-based industries are internationally uncompetitive, whilst chemical, food and fibre-based industries are competitive. There are exceptions; for instance, machinery has been imported virtually duty-free under EPCG for many years, whilst its inputs have borne high tariffs. So it has been largely exterminated; but what of it survives is quite competitive. But the slump in metal-based industries is related to the fact that they are internationally uncompetitive. And their uncompetitiveness is due to the high domestic costs of primary metals. Again there are exceptions; TISCO, for instance, is strongly competitive. But, by and large, primary metal industries have been dominated by inefficient government enterprises, which have been heavily protected; all downstream industries have paid the cost.

But they are not the only protected industries; the BJP government has turned protection into big business. Anti-dumping duty was imposed on eight products in the last quarter; the Designated Authority is reviewing another 20. An industrialist has only to go and complain to it, and it will impose an anti-dumping duty for him. Thus acrylic fibre and synthetic rubber have continuously borne anti-dumping duties since the middle of 1999. Such duties are supposed to be imposed for a year, but as soon as the year gets over the government renews the duty. Find out who makes them in India, and you have the names of those who have an influence in this government. In almost every case, the beneficiary has a dominant position in the Indian market. In February, for instance, commerce ministry imposed a minimum import price on sport shoes - $6.77 for common shoes, and $18.44 for Nike shoes!

Then last year, cheap consumer goods – such as festival lights and toys – made their appearance in the Indian markets. They were manufactures of unknown “Chinese” manufacturers, and often came through third countries such as Nepal. Here the government decreed that the imports of those products could take place only through designated import points. Branded imports now have to bear a maximum retail price in Rupees; so their importer has either to persuade the foreign supplier to stick special price labels, or to scramble in the port sticking little labels to thousands of tins while customs collect demurrage. This government has been most ingenious in the destruction of legitimate trade – and hence in the promotion of smuggling.

But the protection given to industry pales in comparison to that given to agriculture. Thus oilseeds bear a duty of 35 per cent, wheat and other cereals 50 per cent, coffee and tea 70 per cent, unrefined edible oil 75 per cent, and rice 80 per cent. These duties were imposed early this year, and behind each of them is a lobby of BJP members and supporters.

This is a government of business, and it has made a business of protection. But every industry it has protected is in doldrums. There is a connection between protection and industrial failure, which runs both ways. Failed industrialists run to the government for protection; equally, politically influential industries obtain protection, but thereby they get boxed into the domestic market, which suffers from poor growth and excess supply, and they join the sick industries. Rising protection is raising the cost of living in India; that will erode the competitiveness of even those industries that are otherwise efficient. Exports rescued a faltering economy in the past two years; but the way our costs are going out of alignment with international prices, they may not succour the economy next time.

Foreign capital inflows have varied between $8 billion and $11 billion in the past four years. Of $8.2 billion last year, $5.8 billion came in the form of commercial loans and NRI deposits. These are highly sensitive to interest rates. Capital inflows are far in excess of the current account deficit, and reserves have gone up every year in these four years. So the prospects of the Rupee depreciating have dwindled, and private lending to India is becoming increasingly secure and profitable. It will increase further, the exchange rate will stabilize, and the real exchange rate will appreciate as inflation in India exceeds inflation abroad. This will make India uncompetitive even faster.

Recall that this is precisely how the economy used to behave when foreign trade and investment were controlled. As far as external relations are concerned, the NDA is a direct intellectual descendant of the xenophobic Congress. The differences are in detail. Whereas the Congress relied on import licensing, the BJP relies on import duties; whereas the Congress banned foreign investment, the BJP tailors it with detailed restrictions on ownership patterns. So BJP’s policies will lead to the same ailments as those of the Congress did – to poor growth and periodic crises. The first has arrived. The reforms made the second more difficult to engineer; but leave it to this government, it will find a way.

Balance of payments as a proportion of GDP (per cent)
		1999-2000	2000-01	99Q2	99Q3	99Q4	00Q1	00Q2	00Q3	00Q4	01Q1
Receipts		16.4	18.4	15.3	18.5	15.1	16.8	16.8	20.6	17.9	18.6
Goods		9.1	10.4	8.6	10.7	8.3	9.0	9.9	11.9	9.7	10.3
Services		3.8	4.5	3.3	3.8	3.6	4.5	3.1	4.5	4.9	5.1
Transfers		3.0	3.0	2.9	3.4	2.8	2.9	3.3	3.5	2.8	2.7
Income		0.5	0.5	0.5	0.5	0.4	0.5	0.5	0.7	0.5	0.5
Payments		17.6	18.9	17.0	19.6	16.1	18.0	18.7	21.5	18.1	17.9
Goods		13.4	13.7	12.8	14.5	12.5	14.1	14.3	15.9	12.8	12.3
Services		2.8	3.8	2.9	3.5	2.5	2.6	2.8	4.0	4.0	4.4
Income		1.3	1.4	1.3	1.7	1.1	1.3	1.6	1.6	1.3	1.3
Balance		-1.2	-0.5	-1.6	-1.1	-1.1	-1.2	-1.9	-0.9	-0.1	0.7
Goods		-4.3	-3.3	-4.1	-3.8	-4.2	-5.1	-4.4	-4.0	-3.1	-2.0
Services		1.0	0.7	0.4	0.4	1.0	1.9	0.4	0.5	0.9	0.7
Transfers		3.0	3.0	2.9	3.4	2.7	2.9	3.3	3.5	2.8	2.7
Income		-0.9	-0.9	-0.8	-1.1	-0.7	-0.8	-1.1	-0.9	-0.8	-0.8
Capital inflows		2.7	1.9	3.2	0.5	2.7	3.9	0.9	0.5	3.8	2.0
Change in reserves		1.5	1.4	1.5	-0.6	1.7	2.8	-1.0	-0.4	3.6	2.7

IV   Dancing in the rain

Ashok V Desai

In childhood we used to rush out and drench ourselves when the first shower fell in June. The joy of our experts is something similar; there are good rains this year, and they rush out shouting, “Six per cent! Nine per cent!” The reasoning is that the trend rate of growth of agricultural output is 3 per cent. There has been no growth for two years; so in the third year output will leap forward 9 per cent to catch up with the trend.

Let us look at the figures. Foodgrain output rose 6 per cent in 1998-99, and 2½ per cent in 1999-2000; it was only last year that it fell. So as far as foodgrains are concerned, we have had only one bad crop year. Even last year, most of the fall was in rabi output. That is strange, for rabi foodgrains are mainly wheat, which is heavily irrigated; it is supposed to be virtually drought-proof. And whilst wheat output declined, sugarcane output did not.

The output of oilseeds, it is true, fell two years running; and the decline was in both kharif and rabi oilseeds. But cotton, which is generally grown in the same areas as oilseeds, hardly suffered a decline.

So whilst drought undoubtedly reduced output, especially in 2000-01, other factors were working. Given the vagaries of MSPs and SAPs, farmers probably found sugarcane more paying than wheat. And the general retreat of oilseeds, we know, has much to do with the influx of much cheaper edible oils, and especially of the wonder grease, palmolein, which looks, smells and tastes like ghee and costs a third as much.

Another wonder. Between April 1996 and the end of 1998, the terms of trade of primary articles against manufacturing industry improved by 20 per cent. Then followed two years of decline of agricultural output, while all other sectors went on growing. And the terms of trade of agriculture against industry worsened! And this in spite of the inexorable rise in minimum support prices, state-advised prices and so on.

Why is this? First, because domestic agricultural output even in a bad year exceeds domestic demand. Second, domestic prices are so high that the surplus cannot be exported. And finally, it follows from these two propositions that domestic agricultural prices cannot be sustained, relatively to other prices, unless supply is reduced.

Whether the government understands this logic or not, it is certainly drawing the conclusions. It has raised agricultural import duties to unprecedented levels to cut off imports. And it has ordered all the agencies at its command to buy agricultural surpluses. And still some state governments are not satisfied; they are doing their own buying. The FCI has bought 20 million tons of wheat out of this year’s -when the offtake from its stocks of all grains in the entire year is running at 13 million tons. The stocks of all state agencies together are enough to supply the public distribution system for four years.

In this bumper agricultural year, the huge rise in agricultural output will mainly add to stocks. The CSO will reckon these additions as investment in inventories. But all that wheat, rice, rubber, tobacco, sugar, may never be consumed; ultimately it may rot away. Will the CSO then reduce the gross domestic product? No, because GDP is gross; no depreciation or wastage is deducted from it. But the fact is, that all that agricultural production is of no use to us; the growth in it is as good as the growth in civil servants’ salaries. Much of that 6 or 9 per cent rise in agricultural output will be so much rise in our illusions.

The BJP does not understand economics, but it understands politics all right. The minister of agriculture goes about telling supporters that the Congress went and signed the Uruguay round agreement on agriculture and thereby tied his hands on agricultural protection; that industrial countries gave their agriculture mountains of subsidies, in comparison to which our subsidies on food, fertilizers, power, etc were a molehill. So they are; according to his figures, subsidies bring the American farmer a quarter of his income, the European farmer half of his, the Japanese farmer two-thirds of his, and the Indian farmer 6.5 per cent of his. But farmers’ income is 4-5 per cent of GDP in those countries, and 25 per cent in India; and total state revenue is a sixth of GDP in India and close to a half in industrial countries. We have too many farmers, and our government is too poor to reward them as handsomely and unproductively as industrial countries.

And despite those subsidies, the farmer is not prospering. Why? Because there are 100 million farmers, of whom two-thirds have farms under a hectare each. For every farmer there are two rural workers. Of the 200 million rural workers in 1991, only 70 million declared themselves agricultural workers. Agriculture cannot employ the rest. Only those with access to non-agricultural income do well in villages; farming in itself does not pay. The reason why farmers are so fond of subsidies, why they resist any reduction, is that they cannot afford to pay higher prices for power and fertilizers or take lower prices for wheat and rice. A rise of 5 or 10 per cent in their output will do little to improve their lot; it will only add to the government’s stocks, and they will have to give even bigger bribes to make its agents to buy the crops. But if 5 or 10 per cent could find work outside agriculture, farmers would be much better off, for non-agricultural work pays far better.

But this could change overnight if agriculture were internationally competitive – if our prices were even slightly lower than international prices. So they were till 1996-7; in that year we exported 3 million tons of rice, and we could have exported much else if we had looked for the markets. But today, the prices have moved above prices abroad, and the entire agricultural sector is boxed into the stagnant domestic market.

That is where it will stay as long as the government tries to protect agriculture; conversely, it can make agriculture internationally competitive by removing those duties and devaluing instead. Meanwhile, we do not need more agricultural produce. We need more non-agricultural jobs for rural people – and hence, faster growth of industry and services. Supply of food and agricultural products does not limit their growth; international uncompetitiveness and insufficient domestic competition do.

Meanwhile, the centre and the states could replace the various agricultural subsidies by a single negative land revenue of Rs 7500 a hectare. It would cost them the same as the present subsidies, and would give farmers the same benefit, but it would not mess up the markets for agricultural products, for power, and for fertilizer.

Output of some crops (million tons, July-June)
		1997-98	1998-99	1999-00	2000-01
Grains		192	204	209	196
Rice		83	86	89	86
Wheat		66	71	76	69
Maize		11	11	11	12
Jowar		8	8	9	7
Bajra		8	7	6	6
Pulses		13	15	13	12
Kharif		102	103	105	102
Rabi		91	101	104	94
Oilseeds		213	248	209	187
Kharif		141	158	123	118
Rabi		72	90	86	70
Cotton		1.8	2.1	2.0	2.0
Jute		2.0	1.8	1.9	1.8
Sugarcane		2795	2887	2992	3014
Source: Ministry of Agriculture.

V   Incinerators for public money

The Prime Minister offers to resign (to the BJP Parliamentary Party, which is a pretty safe thing to do). Why? Because on 31 January he inaugurated a software technology park in Lucknow, his constituency. What is wrong with that? This STP is a joint venture between UP government and Johri brothers. So what? Johri Brothers employed Pradeep Narayan Mathur, a local VHP leader; they also floated Cyberspace Infosys, a company that collected Rs 1.5 billion from investors and went bust. So what? UTI had invested Rs 300 million in this company; this was one of the crimes for which P S Subramaniam was arrested. Shouldn’t he be? He thinks not, because he says the finance minister asked him to. Did he? No; he only asked UTI to invest in UP and Bihar.

So Atal Behari Vajpayee, Yashwant Sinha, Raj Nath Singh, Pradeep Narayan Mathur, they are all innocent; they were only promoting UP’s intellectual development. But Subrahmanyam is guilty, because he actually did something to develop UP.

Ah! But he lost investors’ money; he made a wrong investment against the advice of his due diligence. But would any sensible duly diligent analyst ever propose IT investment in Lucknow? If he did, would the BJP heavyweights need to put in a word for the Johris? Politicians are needed only if something improper needs to be done. They are the ones who appoint the chairmen of financial institutions, banks, and public enterprises; normally they would appoint someone who would need only a wink and a nod to do the needful.

But what if the penalty for doing the needful is accommodation in a smelly prison? Then a rational chairman would weigh the reward against the risk. He would not take the risk for a salary of Rs 50,000 or whatever public sector chairmen get these days. He would play for bigger stakes. He would seek rewards he is not entitled to. And if he was sensible, he would share out the rewards with protectors.

But protectors are few, those who wish to share are many, and the calculus of collection and sharing gets quite complicated. Many chairmen are not up to so much calculation. So what do they do? The table shows what they do. They invest in government securities. Then the governments spend that money to help those that they – meaning Jayalalitha, Raj Nath Singh, Rabri Devi – consider deserving. They cannot be blamed for helping their favourites, and bankers cannot be blamed for lending depositors’ money to governments. Governments are the ultimate laundry.

Thus in the last quarter, total credit given out by banks was Rs 602 billion – slightly less than in the same quarter of 2000. But of that money, they gave Rs 550 billion to governments, against Rs 339 billion in April-June 2000, whereas their loans to business came down from Rs 268 billion to Rs 52 billion, and the share of those loans in total credit fell from 44 per cent to 9 per cent. In other words, almost the entire business of banks in April-June 2001 was to lend to governments.

But why did the governments need all that money? The table tells why the centre needed money: its tax revenue in April-June was 13 per cent lower than last year. People like you and me paid almost the same income tax. Excise duty collections were also almost the same. But customs collections were 17 per cent lower – no wonder, since imports themselves fell, though not so much. And corporation tax collections fell 63 per cent. That too is not surprising. Tax officials are set collection targets: every year they must collect 20-25 per cent more than last year. So they force companies to overpay in the last quarter of the financial year, and return the excess payments as refunds in the following quarter. This year the exactions were heavy, and so were the refunds. Because of this tomfoolery, collections in April-June are low anyway; last year they were 19 per cent of the year’s total. But this year they are just 14 per cent. Revenue is doing poorly, and the poor who deserve the bounty of Raj and Rabri are not doing so poorly, so the governments are borrowing a lot of money this year.

This is how the financial system is adjusting itself seamlessly to the slowdown in the economy. The major financial institutions and banks are owned by the government, and are under pressure to give it money. And as business prospects worsen, they find safety in lending to the governments. This is how productive business expenditure is starved of money, and unproductive government expenditure gains favour.

This is not the only bias in the financial system. SEBI has done a great job in cleaning up the capital market. Badla is gone forever; instead we have wonderful options. Weekly settlement is gone; instead we have rolling settlement. Our capital market is now so clean that the whole world envies it. The only problem is that in 1995-96 companies raised Rs 118 billion in the dirty, scandalous capital market; in 2000-2001 they raised Rs 66 billion. Equity raised fell even more drastically, from Rs 89 billion to Rs 25 billion. This snow-white capital market of ours is of little use to any industrialist.

And who has gained? The institutions that use the vast infrastructure of small agents to raise money from personal investors. Money borrowed in this way increased from Rs 100 billion in 1995-96 to Rs 625 billion last year. And the borrowers were government financial institutions like IDBI, IFCI and Power Finance Corporation, and similar front organizations for state governments. They do not have to get the permission of any SEBI to raise money; so no one asks how solvent they are, whom they are raising money for, how respectable their clients are, whether they will earn any return or get their money back.

Whereas the reforms opened up industries to competition, and put pressure on at least some public enterprises to improve their performance, the financial system has remained more or less what it was ten years ago: the major banks remain in the government’s hands, and central government’s financial institutions – UTI, IDBI, IFCI – dominate the market for long-term funds. Their financial accounts are opaque, and as we now know in UTI’s case, in unsatisfactory condition, and yet they can raise vast amounts of money. We now have a new and hungry political alliance in power, which uses them to funnel money to the undeserving. And state governments have learnt their lessons and set up similar institutions to borrow money and burn it. That is how the financial system faithfully serves the purpose of promoting industrial decline.

Clueless in Hindia

In the past four weeks I have tried to convey how dangerously economic growth has slowed down. I questioned received wisdom that the slowdown is due to two years of drought. Only the last year was really poor, and even in that year, ill orchestrated pricing and trade policies strongly influenced the output of various crops. The slowdown is led by investment and consumer durable industries. There is no lack of funds to buy these things; the rich people who would buy them are simply not borrowing or raising the money. Far from being the culprit that this government has made it out to be, foreign trade has actually stimulated demand and stabilized the economy.

Does the government have a solution? The finance minister does not venture beyond banal generalities. The last relevant document from his ministry is the Economic Survey, which does not address the issue at all. He has got rid of all his economists bar Rakesh Mohan. The last good macroeconomist, Montek Singh Ahluwalia, finally despaired of realizing his dream and flew off to cooler climes in July. The Prime Minister’s Economic Council issued a good report in February, but it was about reforms; it did not address growth and cyclical issues. It meets only occasionally, and mainly gives verbal advice to a prime minister with an attention deficit. The government’s economic policy muscle is remarkably puny today.

Consider also the considerable price paid by BJP to stay in power. It has bought the support of so many parties by offering ministries; each of them has its parochial agenda, which reduces the coherence of overall policies. Each slows down the process of drafting legislation acceptable to all, and dilutes its content.

All these factors suggest that this government is incapable of implementing comprehensive, coherent reforms. Besides, such reforms are irrelevant to the problem at hand – the problem of a macroeconomic slowdown. It must choose a small number of things to do, and do them soon so that they pay off well before the next election in 2004. In other words, this government needs a few tricks that would work within the next two years. They must unleash the entrepreneurial spirit and create a new race for expansion such as we saw in 1992-96. Only then will the NDA be borne to a victory in 2004 on economic good news; only then will industrialists generously finance it in the elections. I see scope for such action in five areas.

1. Small industry: The SSI lobby is a paper tiger; abolition of SSI privileges is the biggest step this government could take to stimulate domestic competition. This should be done over three years. The government should straightaway remove the present investment limit of Rs 10 million and allow all present small-scale industrialists to expand without limit as well as to sell equity up to 100 per cent to anybody, but it should not allow any new competitors for a year. In the next year, the government should abolish reservations except in industries where most of the supply comes from SSI firms. In the third year the government should remove small industry from priority credit and price preferences. At the end of the third year, the remaining product reservations should go. Thus small industry will have a chance to modernize, expand or sell out before it has to adapt itself to the world.

2. Trade policy: So many industrial and agricultural products are in trouble because high domestic prices have boxed them into the domestic market. Their producers cannot expand without running into a demand bottleneck; even if the domestic market expands, the fear of imports and of duty reductions will deter them from investing. The BJP government has created this problem by giving protection to all who asked and many who did not. My solution is simultaneous devaluation and abolition of most import duties. Even if the government does not like it, it really ought to confront the problem it has created.

3. Agricultural policy: Free trade at a carefully fixed exchange rate would open up the world market for Indian agriculture. But it will not be able to take advantage of that market unless agricultural prices are freed and support to agriculture is disconnected from products. The government should announce its intention of discontinuing price support, subsidies to PDS, and fertilizer subsidies from next year, but should promise to give the same amount as this year to state governments which set up agricultural subsidies that are not conveyed through input or output prices. Central purchase and stocking operations should be replaced by low-interest loans to those who want to keep inventories of agricultural products. Restrictions on interstate movement of agricultural products should be made illegal.

4. Foreign investment: Let us take it for granted that this is the government of Swadeshi and will discriminate in favour of Indian and against foreign entrepreneurs. Even then, it needs to and can greatly simplify its policies towards foreign investment. It should replace the numerous sectoral caps, abolish the distinction between direct and portfolio investment, and make an unequivocal distinction between the foreign share of equity over and under 50 per cent; only the former should need approval, from a single, fast-acting agency. The veto it has given Indian industrialists on investment by their former or estranged foreign partners should at least have a sunset clause, if it is not abolished.

5. Privatization: This government has a capable minister of privatization, but his achievements fall far short of his labours. His problem is that there are no buyers for the public enterprises. The government can widen the field by turning a blind eye on front men for foreign companies or by allowing bidders who have been in trouble with the government or regulators. But the point is that Indian industrialists simply do not have the money to buy refineries, airlines and steelworks; and this government could never contemplate selling the family tinsel to foreigners. Instead of trying to sell each enterprise in isolation, the ruling party should make a deal with the major industrialists of the country. Each should be given an enterprise to take under his wings and manage it for five years. Each should have to promise in advance to improve the performance of the enterprise; the allocation of enterprises to industrialists should be based on their improvement plans. Meanwhile, the government’s shares should be transferred to a disinvestment commission, which would oversee the performance of the managing agents. It should have the authority to sell off the shares whenever it sees an opportunity.

The economy will decide whether the NDA can get another five years or not. If it succeeds in the five areas above, it may have a chance of making it. If it messes them up, even the most spectacular victories in debates with Musharraf will not help the Prime Minister.