HOW TO REVIVE THE ECONOMY

This survey of the Indian economy, from Business Standard of 26 September 2000, was written after I came back from Stanford; what I saw at home left much to be desired.

VICTIMS OF OUR OWN FOLLY

To pick up the thread of my last week’s argument, the major causes of anxiety are five:

Foreign investment has turned negative. Foreign institutional investors have been selling off their Indian holdings. The sensex has plummeted. Foreign direct investment has turned into a trickle.

Oil prices have tripled in the past three years. The oil import bill was $6 billion in 1997-98; at present prices it would come to almost $20 billion in a year.

Inflation has risen. This is partly due to that part of oil price rise that has been passed on. But the main cause is agricultural price support: the BJP government has forced prices up by buying up foodgrains and restricting sugar releases.

Reserves have come under pressure. Reserve Bank loves its coffers full of dollars, so it has allowed the Rupee to drift down.

Industrial growth is flagging. After a cheering upturn earlier in the year, industry has returned to the sclerosis that afflicted it in 1997-99.

The primary causes – the rise in oil prices, the American stock market slump, last year’s drought – are external and accidental. But their impact is mediated by the policy framework – agricultural price support, control on fuel prices, exchange control, the high level of import duties, etc. We suffer from our misfortunes, but the failure to carry out reforms in better times accentuates the pain.

If the government had decontrolled oil prices, they would have risen as import costs went up; consumers would have been paying the actual cost, and would have thought twice before snapping up shiny new cars. Instead, the cabinet sweats twice weekly over tiny proposed price increases. In the meanwhile, the government bears the cost, and borrows to finance it. Food subsidies have multiplied, and so has the cost of foodgrain purchases. To finance the rising government deficit, Reserve Bank floats loans almost every week, depriving industry of bank finance and raising its cost.

Reserve Bank has forced holders of EEFC (exchange earners’ foregin currency) accounts to convert half their balances into Rupees, and pressed exporters to realize export proceeds faster. The finance minister has unleashed his DRI (department of revenue intelligence) bloodhounds on those who, for good reasons and bad, have not been able to fulfil their export obligations against capital goods imports. All these are short-sighted measures. Relaxation of import and exchange controls had persuaded foreign exchange earners to bring it home; now they will begin to stash away illegal hoards abroad, as they did in the socialist past. They will sell the hoards in the havala market; the grand smugglers, the Dawoods and Rajans, will see the return of golden days.

Industry blames imports for its troubles. It has been running to the government for “anti-dumping” duties, and the government has been helping it with alacrity. But it has made no difference; even if the government banned all imports, industry would still be in trouble. For demand is not growing – except for cars. Car manufacturers are pushing sales with credit, but the boom will subside when the loans begin to turn bad and petrol prices are raised.

And the prospects of Indian industry are too lacklustre to attract foreign direct investors. This applies to NRIs as to others; even Hindu nationalist NRIs pursue their individual self-interest when it comes to investment. The break in the US stock market early in the year has made portfolio investors cautious, and they have been taking money out of risky markets such as India’s.

Ah! But IT will save us, you might say. Software exports have been booming. To watch them boom, the government has appointed one of its savviest politicians as minister of information technology; he has been rushing around the world trying to sell software with his fetching face. The government has implemented the 300-odd recommendations of the IT Task Force, such as creating software in Hindi and putting IT officers in Indian embassies. With such purposeful activity, IT is bound to do the trick. But IT exports last year were $3.9 billion. Thanks to the government’s benign neglect, they were rising 50 per cent a year. Suppose its exertions double exports this year; that will be another $4 billion. That would just about offset the fall in foreign investment. And as to the annual rise of $6 billion in the cost of oil – the minister of petroleum will not be able to cover it even if he circumvents the world six times in pursuit of Lakshmi.

What then can be done? The government cannot ban adverse events. But it can fashion an economy that would react flexibly and overcome adversities. A year ago, the exchange rate was Rs 42 to a dollar; today it is Rs 47 – a  devaluation of 12 per cent. Anyone who exports can get 12 per cent more Rupees for the same dollar price as a year ago. If, as a result of the cheaper Rupee, current account earnings had risen by 12 per cent, that would have fully covered the larger outgo on account of oil and foreign investment. That is not much of an elasticity; we should be able to manage that. We cannot, and that is why the government is in such a sweat.

Why can we not? First, because of agricultural price support. There was a time around 1993 when our agricultural prices were lower than international prices. We started exporting rice, and would have exported many other products if there had been no export controls. But one government after another rewarded farmers with higher prices, with the result that we are today saddled with uncompetitive farmers and mountains of foodgrains.

Next, because of high import duties. This country is poor in natural resources; if we want to export, it must be goods made out of imports. Import duties raise the cost of those imports. In theory, exporters can get imported inputs duty-free. But corruption in customs and import licensing authorities makes it uneconomical. If we want exports to respond quickly to devaluation of the Rupee, we must abolish import duties. Since the cost of the dollar has gone up 12 per cent in the year, the finance minister could have brought down the dollar cost of imports by 12 per cent without making them cheaper in Rupee terms. In other words, he could have abolished all duties under 12 per cent, and brought down the maximum 38.5 per cent duty to 24 per cent without hurting anyone. Would he do it? No, because he is a prisoner of the Customs, who would tell him a duty reduction would hurt revenue.

Would it? Not if imports are rising – and they have already risen, thanks to the rising cost of oil. While I was in America, the pump prices of petrol steadily rose from about $1.50 to almost $2 a gallon. At that level they were about the same as in Delhi; and the US has about the cheapest petrol amongst oil consuming countries. So then has India. Which is why we get so little revenue from it, why our people rush to buy cars and clutter up the roads – and why they do not mind such third-rate bus services.