The report of the Commission on Growth and Economic Development, headed by Nobel Laureate Michael Spence, gleans lessons from 13 countries that averaged 7% economic growth for more than 25 years. India crossed 7% only recently, but most people assume it will keep growing fast for 25 years. After reading the Spence Commission report, i am not so sure.
The Commission identifies five characteristics of miracle economies. They were fully globalised, maintained macroeconomic stability, mustered high rates of savings and investment, and had committed, capable governments. The Commission emphasises there is no single formula for success. Every country should experiment with different ideas. However, countries should avoid 12 bad ideas that have failed repeatedly.
What is India’s record on these 12 deadly sins? In the socialist era, India regarded many of these sins as prime virtues, and so suffered slow growth. Two decades of reform have changed attitudes, but India still finds some sins irresistible.
Sin 1: Subsidising energy except for very limited subsidies targeted at highly vulnerable sections of the population. Indian politicians love this sin. They offer free rural power which benefits mainly big farmers. Implicit oil subsidies threaten to cross Rs 200,000 crore this year. Subsidies for kerosene and cooking gas help mainly the middle class, not the poor, and 40% of cheap kerosene is used to adulterate diesel.
Sin 2. Dealing with joblessness by relying on the civil service as an employer of last resort. This was a standard employment strategy in the socialist era. But fiscal stringency has largely ended this practice.
Sin 3. Reducing fiscal deficits because of short term macroeconomic compulsions, by cutting infrastructure investment or other public spending that yields large social returns in the long run. India has no austerity programme today. But state and central governments have historically been guilty of underspending on infrastructure. This is finally being rectified.
Sin 4. Providing open-ended protection of specific sectors, industries, firms, and jobs from competition. Examples of open-ended protection are import bans, and reservation of some production sectors for the public sector and small scale industries. These practices were once regarded as prime socialist virtues, but have largely been phased out.
Sin 5. Imposing price controls to stem inflation, which is much better handled through other macroeconomic policies. Price controls went out of fashion along with socialism, without quite being classified as sins. Price controls remain on petroleum products, fertilisers, sugar and drugs. Most of the economy remains free of price controls.
Sin 6. Banning exports for long periods of time to keep domestic prices low for consumers at the expense of producers. India has from time to time imposed export bans to lower domestic prices, especially of food items. But these bans have typically been temporary, and hence, not sinful.
Sin 7. Resisting urbanisation and as a consequence under investing in urban infrastructure. India has certainly under invested in urban infrastructure, but not to resist urbanisation. Under investment has been a consequence of faulty spending priorities, and a refusal by state governments to allow cities to have strong mayors with revenue raising powers. That’s a sin, worse than some listed by the Commission.
Sin 8. Ignoring environmental issues in the early stages of growth on the grounds that they are an unaffordable luxury. India has long neglected the environment, less because of affordability than corruption. It has reasonably good environmental rules, rendered ineffective by bribery and slack enforcement.
Sin 9. Measuring educational progress solely by the construction of school infrastructure or higher enrolments, instead of focusing on the extent of learning. This always was and still is a major sin in India. NGOs like Pratham have started measuring learning outcomes, but state governments show little enthusiasm for educational reform.
Sin 10. Underpaying civil servants (including teachers) relative to what the market would provide for comparable skills. India grossly underpays IAS officers, and grossly overpays almost all other employees. Teachers and nurses get two to three times as much as comparable private sector employees. Civil servants are virtually unsackable and hence, unaccountable. Many conspire with politicians to loot the treasury. So, even underpaid ones can end up outrageously wealthy.
Sin 11. Poor regulation of the banking system combined with excessive direct control and interference. Historically, India was neck-deep in this sin, but reformed substantially after 1991. It now has a decent financial sector and high-quality capital markets. Caveat: banks still have priority sector lending quotas, and have recently been forced to write off farm loans, encouraging wilful defaults.
Sin 12. Allowing the exchange rate to appreciate excessively before the economy is ready for the transition towards higher productivity industry. In the socialist era, an overvalued rupee was regarded as a virtue rather than a sin, with capital controls to prevent capital flight. Fortunately the exchange rate became and stayed competitive after the mid-1990s.
On balance, India remains knee-deep in sin, though not neck-deep as in the old socialist days. Most politicians still find many sins irresistible. Corollary: don’t assume that India will remain virtuous enough to maintain 7% growth for 25 years. The spirit is willing but the flesh is weak.