Reform in India
- From: ano457@xxxxxxxxx
- Date: 28 Oct 2005 10:34:10 -0700
Reform in India
Democracy's drawbacks
Oct 27th 2005
DELHI AND KOLKATA
The Economist
Sustained growth in India would be all the more impressive if the
government could pass its reforms. But the road is blocked by politics
IN CITY after city, India is booming. Visit Delhi or Mumbai or
Hyderabad, and they are full of shining new office towers and
American-educated MBAs. The suburb of Palm Meadows (pictured) outside
Bangalore, the home of high-tech and outsourcing, looks like the richer
blocks of Los Angeles. The stockmarket has risen by more than 20% this
year (see chart 1), though it slipped back a bit this month. In the
second quarter, India's GDP grew by 8.1% compared with the same period
last year. After annual growth of around 7% in 2003 and 2004 (see chart
2), the country is on course, many economists think, to repeat the
trick this year and next.
India's IT companies are world-beaters. Firms such as Tata Consultancy
Services, Infosys and Wipro, which owe their success to large,
co-operative software-development projects for companies in America,
are now beginning to compete directly with the big IT multinationals
for large consultancy contracts. Out of this IT infrastructure has
grown a huge business in "outsourcing" almost any business process
that can be performed remotely, from answering a call in a help centre
to interpreting an X-ray. The largest outsourcing firm relaunched
itself in September as Genpact, partially disguising its origins as the
Indian back-office of General Electric, and expects to exceed $1
billion in annual sales by 2008.
These service businesses have thrived because they have capitalised on
India's strengths-computer skills, fluency in English-and are not
hostage to its weaknesses. Yet those weaknesses are all too obvious,
and are the reason why India on many counts still lags behind its
neighbour-rival, China. India has lousy infrastructure, bumbling and
burdensome regulation and restrictive labour laws. And economic reform
now appears to have stalled in political recriminations.
Last year's election gave no party a clear majority. A delicate
arrangement allowed Manmohan Singh, of the left-of-centre Congress
party, to take office as prime minister, while a committee was set up
to negotiate policy between Congress and its coalition partners
(together called the United Progressive Alliance or UPA) on the one
side, and the Left Front of Communists and other left-wing parties on
the other. The committee, however, has not managed to meet since June,
though on October 26th there were rumours that it was about to.
Meanwhile, the Communists-without whom the coalition has no majority
in Parliament-are getting truculent. They staged a four-month boycott
of the co-ordination committee to press their policies and then, in
concert with the trade unions, called a one-day general strike on
September 29th. It was ignored in many places, but the banks, along
with the Communist stronghold of Kolkata (Calcutta), were paralysed.
When Mr Singh was finance minister, in the 1990s, it was he who pushed
through the measures that kick-started reform in India. Without the
support of the Left Front, however, he can do nothing more. His most
significant legislative achievement to date has been a law that
guarantees 100 days' employment to every household in India's 200
poorest districts. Though the Left Front loves it, many economists
reckon that much of the money-as much as 1% of GDP, by some
estimates-will be wasted or stolen.
The list of what Mr Singh has been prevented from doing is much longer.
Completely ruled out has been any progress on liberalising India's
notoriously rigid labour laws. The key battleground is a rule
preventing any company with more than 100 employees from making
redundancies without obtaining approval from local labour boards.
According to the Left Front, this protects workers from unscrupulous
employers. In fact, it makes employers wary of taking on new staff,
opening new factories or, in the case of smaller companies, growing
beyond the threshold of 100. It protects unionised labour, in short, at
the expense of those not in work.
The Left Front, which draws most of its support from organised labour,
does not greatly care. Its eyes are on state elections due next year in
West Bengal (whose capital is Kolkata) and Kerala, the two biggest
states where the Communists are strong. Those who are losing out from
unreformed labour laws are hundreds of millions of people now
marginally employed in the countryside. These people need jobs in
manufacturing if India is to improve its record on poverty, as well as
growth. Jobs could be found in the labour-hungry textile industry,
especially now that, with the ending of the developed world's
protectionist Multi-Fibre Arrangement, India's textile exports are
booming. As it is, a jobless boom is going on in manufacturing, which
is growing at 7% annually, but without increasing employment.
Touches of xenophobia
India's antiquated laws are not only preventing it from exploiting the
textile boom as successfully as China (whose textile businesses are so
successful that they provoke retaliation). They are also pushing it far
behind China in terms of foreign direct investment. FDI has been the
most important driver of China's growth, not just because of the money
involved (more than $60 billion last year) but also because of the
technology, expertise, marketing relationships and much else that this
money represents. India's showing has been far less impressive: about
an eleventh of China's haul last year (see chart 3).
One chief reason for the discrepancy is that India imposes caps on FDI
in a host of economically important, or politically sensitive, sectors:
insurance, aviation, coal-mining, media and much else. Chief among
these is retailing. Though franchise operations are allowed, foreign
direct ownership is banned, which explains why even Delhi's smartest
shopping areas are scruffy and chaotic places with limited stock.
Mr Singh's government would like to raise the caps, and had some
success at first. It proposed in February, for example, that the cap
for telecoms investment should be lifted from 49% to 74%, and this has
just, at last, been approved. But the Left Front is violently opposed
to any tinkering with the rules for FDI in retailing. Its leaders
appear to accept that the advent of, say, Wal-Mart would generate many
jobs, since much of what the company sold would be domestically
produced (Wal-Mart spends $15 billion a year in China). But they worry
that millions of small retailers would be put out of work. For those
who want to move out of farm work, a small shop is often their first
choice.
Mr Singh remains optimistic, but on slender grounds. With the Left
Front so adamant, nothing is likely to happen. And the same is true of
privatisation, or its younger sibling, disinvestment, the selling of
minority stakes in state-controlled companies. From the very start of
its tenure, the government was forced by the Left Front to agree not to
privatise nine so-called "crown jewels", or leading state-owned
companies. But the Left has taken advantage of its position to go
beyond what was originally agreed. When, in June, the government
announced plans to sell a 10% stake in Bharat Heavy Electricals, an
engineering firm, the Left Front vigorously objected. Although the sale
does not require legislation, and so could be enacted by the minority
government, the government shows no stomach for doing so.
Another disappointment-though the word is perhaps inappropriate,
since no one ever expected a Congress government to have the necessary
courage-is the failure even to attempt to do anything about the
mountain of subsidies that distort the Indian economy. Often badly
targeted, benefiting middle-class people more than the poorest, they
consume a shocking 14-15% of GDP.
Worst of all, Indian politics may actually be retreating to its
bureaucratic past. Take oil pricing, a complex statist rigmarole that
had been moving from the hands of government to those of a regulator.
Under Mr Singh, price decisions are again being taken by the
government.
The prime minister's instincts are sometimes depressingly bureaucratic.
Faced with obvious and longstanding problems, he commissions a study on
them. The latest strategy document appeared in September from a
specially convened National Manufacturing Competitiveness Council. It
listed the most pernicious difficulties for manufacturers: power
shortages, taxes and the "inspector raj". No one was surprised by
these, or felt much hope they would be fixed.
Removing the brake
It may seem odd, if reform is so important, that the economy is doing
so well without it. There are a number of reasons. The biggest is that
the Indian economy is so strong, structurally and cyclically, that it
can ride out a period of wobbly policy. India's young population gives
it a fast-growing workforce and a declining proportion of dependants.
Over the next few decades, that will be good for savings and
investment. Industry, meanwhile, has recovered from a splurge of
over-investment in the mid-1990s. It has improved efficiency and is now
both reaping the benefits and investing again in new capacity.
The government started to get out of business's way in the 1980s and,
especially, after a balance-of-payments crisis in 1991. At that point
Mr Singh, as finance minister, was given the freedom to bring in
reforms by an unexpectedly brave prime minister, Narasimha Rao. Since
then, government has been unable to put an absolute crimp on growth.
Many important reforms-especially trade liberalisation, but also the
dismantling of the "licence raj" of bureaucratic obstacles to
enterprise-are well in train and not in reverse.
Reuters
Too many are still losing out
Almost every budget since 1991, including this year's, has cut import
tariffs and freed more industries from "reservation" for small
firms, a big hindrance to competitiveness in businesses that might
benefit from economies of scale. This year, moreover, saw the
introduction of one long-planned reform, a standardised value-added tax
imposed at state level. Typically, politics meant that not all states
fell into line, and implementation has been patchy. Yet the tax may
eventually not only bring new fiscal stability, but also reduce the
burden of cascading excise and sales taxes that is one of the biggest
handicaps facing manufacturers. Modest, piecemeal reform, in other
words, is not quite dead.
The government's priorities-investment in infrastructure,
agriculture, basic education and primary health care-are also right,
given that the big macroeconomic stuff was mostly done in the 1990s.
But they all need money, and that requires fixing the budget. India's
fiscal deficit is now 8% or so of GDP if both state and central
governments are counted-an improvement after six years of
double-digit deficits, but still too high. Public finances have been in
a mess for so long that it seems almost impolite in government circles
to mention them.
The deficit, which goes largely on interest payments (40% of recurrent
spending), defence, subsidies and civil-service wages and pensions,
leaves little room for big capital investments. Some new airports,
ports and roads are being built, and the "Golden Quadrilateral"
highway, linking India's four biggest cities, is being expanded to six
lanes. But Mr Singh wants a good deal more. Improving India's
infrastructure, he says, is his top priority. Hence his government's
zeal for "public-private partnerships" to finance and construct it.
A standard concession agreement is to be produced soon, modelled on
successes with toll roads, where concessionaires have put in
competitive bids for government grants. For some projects, the
government does not need parliamentary approval and can proceed anyway.
Other projects, however, such as airports, will run into objections
from the left. It is therefore hard to see these partnerships making
much of a dent in what Montek Singh Ahluwalia, the prime minister's
chief planner, calls India's "infrastructure deficit".
Might the left-wing parties ever become less obstreperous, and realise
that reforms like these are of benefit to all Indians? It is possible.
Jairam Ramesh, a Congress member of parliament who played a big role in
writing the "common minimum programme" that defines relations
between the UPA and the Left Front, floats the interesting theory that,
now that Congress has enacted the Employment Guarantee Act that the
Left was so keen on, the Left may prove a little keener on asset sales.
They would, after all, be a way of paying for all those jobs.
>>From the Left Front come faint signs of accommodation. Prakash Karat,
the general secretary of the CPI (M), the most important party within
the group, is, like Mr Ramesh, adamant that full-scale privatisation of
profitable public enterprises is not on the agenda. But he says the
party is "ready for a discussion" on how to raise resources for
spending on the poor.
Among the most eloquent advocates of a re-think is, in fact, a senior
Communist, Buddhadeb Bhattacharjee, chief minister of West Bengal, a
state of 82m people run for 28 years by the Communists and their
allies. On September 30th, the day after Communist-affiliated trade
unions had brought his capital, Kolkata to a halt, he could scarcely
conceal his exasperation. He told The Economist that the trade
unions-and many of his party comrades-had become
"one-dimensional", representing only the interests of the 30m or so
workers in India's "organised" sector.
Mr Bhattarcharjee concedes that some of his colleagues in Delhi do not
seem to grasp that economic reform could benefit a much bigger number
of workers than those who belong to unions. If they do, they perhaps
see political benefits in ignoring it. But "Here, we are running a
government. We have to fulfil the aspirations of the people." To that
end, he is trying to turn Kolkata into a hub for the
information-technology industry by declaring it a "public utility"
where strikes are banned, and has started going abroad to bang the drum
for inward investment.
Jobs for the poor
Such enthusiasm may start to shift the political balance back towards
reform, but it looks unlikely. For the foreseeable future, both
left-wing intransigence and lack of decent infrastructure-in
particular, a chronic shortage of electricity-will constrain India's
growth. An average annual rate of 6-7%, as in the past decade, does not
seem a tall order. But a gear-shift to a durable growth rate of 8-10%
still seems out of reach.
Without it, that burgeoning workforce may seem less of an advantage.
Shankar Acharya, a former government economist now at a Delhi
think-tank, worries that between now and 2051 nearly 60% of India's
population increase will come from four "populous, poor, slow-growing
northern states with weak infrastructure, education systems and
governance".
China has sucked surplus agricultural labour into factories by the tens
of millions. India's manufacturing industries, by contrast, have
progressed by becoming more productive. They are still not a big source
of rural employment. As a good liberal economist, Mr Singh says he does
not believe in having an "industrial policy" or picking favourites.
Create decent infrastructure, and industry will come-and he sees huge
potential, as do many others, in food-processing. His finance minister
has spoken of 12m new jobs in the textile sector alone in the next five
years.
They are sorely needed. India's information-technology firms are
world-beaters, but the entire IT and office-service industry employs
only about 1m people. None of the Asian tigers, not even Singapore,
managed its rapid climb into the ranks of middle-income and rich
countries without a boom in export-oriented manufacturing. India is
unlikely to be different.
When he speaks of following the "Chinese model", Mr Singh seems to
admit this. But it remains sadly true that the free market that has
helped the tigers so much often works better in Communist China than in
India-not least thanks to India's own democratically elected
Communist politicians.
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