The many fountainheads of India’s economic malaise

An opinion piece written by Dr. Manmohan Singh has justifiably attracted a lot of eyeballs and nods of approval. Written by a ‘student of economics’ as he describes himself, it is a well written essay. He has also zeroed in on some answers. Restore trust and confidence in administration, in the institutions and unleash massive fiscal stimulus.

He is right to call for an elimination of the atmosphere of fear. Some of us had written about it much earlier. See here and here. The government too has recognised the problem. That is why the Finance Minister recently announced a remote system for the issuing of notices and summons. She said that permission from a two-member collegium was necessary to prosecute tax defaults below Rupees 25.0 lakhs. To be sure, Revenue might resist and is resisting the changes. That behavioural issue transcends this government. On its part, the government has recognised the problem. The government-constituted panel has proposed decriminalizing many of the offences under the Company Law. The sooner its recommendations are implemented the better.

More importantly, the reposing of trust in industry was exemplified by the new corporate income tax regime the Finance Minister announced in September. It provided for low tax rates with fewer exemptions and announced a very low rate of 15% for new manufacturing oriented companies commencing production from 2023. Yours truly wrote that the significance of that measure was not the measure itself but the signal it sent. The government was no longer bogged down by the ‘Suit boot ki Sarcar’ jibe. Indeed, that jibe should remind Dr. Manmohan Singh as to the role of the Congress Party in creating an atmosphere of distrust between the government and the industry. That deserves some further explanation.

As a student of economics, Dr. Singh should note that economies and societies rarely settle at an equilibrium and stay there for extended periods. Humans, societies and economies, more often than not, swing between extremes. In that sense, he should reflect on the factors that created the atmosphere of distrust. What role did his government play and the industry play in engendering an atmosphere of distrust?

The Supreme Court took the extreme step of cancelling the coal mining licenses and the telecom spectrum licenses. It was probably too extreme but, perhaps, the Court thought that it was necessary because of the extreme breach of trust, good governance and probity in the award of such licenses. The economy is still hurting from both the action and the reaction.

An excellent article by Aarati Krishnan for BusinessLine documents the failure of many private sector agencies leading to retail and institutional creditors incurring losses on their loans to Dewan Housing Finance Limited (DHFL). After reading the article, I asked another journalist-friend as to whom he would consider responsible for India’s economic slowdown, he said he would place promoters of India Inc., on top of the list.

Abheek Bhattacharya has a review of ‘Bottle of lies’ and calls an Indian pharma company the ‘Theranos before Theranos’. It is useful to reflect on why it had taken 3 years for the acquisition of Essar Steel by the Mittal group. Is it the flaw of the Insolvency and Bankruptcy code or is it the disruptive behaviour code of promoters.

Internationally, in Financial Times today, there is a report on whistleblowers in the ‘Big Four’ audit companies facing a ‘disturbing pattern’ of harassment, bullying and discrimination.

The purpose of pointing out these is not to suggest that one mistake or one wrong justifies another mistake or wrong but to remind ourselves that backlashes inevitably follow egregious behaviour and the longer the original behaviour lasted, the reaction tends to last as long. Nonetheless, it is good to recall that the government is walking back on some of the measures, even if well-intended, that have proven to be inimical to legitimate economic activity.

Dr. Singh does not train his spotlight on the Reserve Bank of India, an institution that he once headed. RBI introduced inflation targeting in 2015, through an agreement with the Government of India. Let us not forget that it was a response to five years of double-digit retail price inflation under the government led by Dr. Singh. Unfortunately, for a better period of the last four+ years since the inflation targeting regime came into existence, the central bank has been more religious rather than pragmatic in its adherence to the inflation targeting regime. It has forgotten that all economics is about context.

Many theories that policymakers from developing countries at the feet of their Gurus in American Universities are abandoned by them before they start implementing them here. Inflation targeting of 2% is open to review there. It might even be replaced with nominal GDP targeting which is nothing but targeting a cumulative inflation rate rather than an annual rate of 2%. Central bank printing money to fund government deficits is now going mainstream. Since negative interest rates are not working to boost economic activity, economists call upon Western governments to splurge borrowing at low interest rates at which markets are willing to lend to fiscally insolvent governments.

In India, whether or not demonetisation of high-denomination notes was a sound or an unsound decision, the textbook response of a central bank to the sudden withdrawal of massive liquidity would be to lower rates. In 2017, RBI cut rates only once and that too in August. Then, in 2018, partly due to international pressure, it raised rates twice and has liberalized external commercial borrowings instead of lowering cost of capital at home.

More recently, it has not unequivocally reassured markets and Non-Banking Finance Corporations with liquidity backstops. It has allowed uncertainty to linger and the problems to fester. Its record in preventing frauds in banks has been spotty at best and sloppy, at worst. Its blanket and indiscriminate adoption of norms for recognition of non-performing loans was struck down by the Supreme Court.

I hope that when future students of economics write the history of India’s economic performance in the second decade of the millennium, they will subject the central bank to far greater scrutiny than current and former students of economics have done.

Dr. Singh has called for a fiscal boost to the economy. He is right. There again, advisors to the government – from within RBI and outside – have made fiscal prudence a cult or a religion. That is why the NDA government of 2014-19 had to undertake a pro-cyclical fiscal tightening when it came to office. It did not demand a longer time frame to set right the fiscal imbalance it inherited from Dr. Singh’s government. Now, when the same advisors turn around and demand fiscal pump-priming, politicians are confused legitimately.

Students of economics should resist and challenge economic theories from becoming creeds if they want governments not to stand in the way of economic activity.

He writes that India is at risk of stagflation. He is partially right. India is at risk of economic stagnation. That said, considering the economic growth rates in many emerging economies, it does not seem to be the only country facing that risk. That is no consolation but it helps to remind ourselves that India’s economic growth troubles are not unique to India. There could be other forces at work. As for inflation risk lurking always in the corner, he may have been prompted by the most recent consumer price inflation rate. However, the core inflation rate is plumbing new lows and monetary dynamics are so poor that the inflation genie might stay in the bottle after popping its head for a few months.

Finally, he says that India has to grasp the opportunity of lower oil prices and a higher domestic political capital. Again, he is partly right. The considerable political capital that the government has accumulated has to be deployed to set the economy on a sustainable and slightly higher growth path than what obtains now. The government is beginning to do the right things but more can be done and faster too. But, will lower oil prices really help? It is not that easy to burn fossil fuels anymore.

The European Investment Bank has announced that it would stop funding fossil fuel companies. That also means that projects that depend on fossil fuels will find it tough to be financed in the years to come. This is a new instalment of ‘kicking the ladder’ that keeps divergence in economic attainments between the developed and developing nations from closing. Be that as it may, it is a growth hurdle that needs to be recognised by policymakers and commentators in India. Climate change and extreme weather events are becoming more frequent in India. That too is not growth-friendly development.

The high growth years of 2004-08 coincided with rising oil prices and were due to global economic boom that boosted India’s export growth. Global demand has languished since then and so has India’s export performance. This is not to deny the abundant scope that exists in India for improving productivity and export competitiveness. Unsustainable capital inflows and malformation of capital were short-term contributors to economic growth in that era. They are now headwinds.

In short, India faces newer growth challenges on top of the ones that have existed. It might have missed the low-hanging growth that was available in the last century.

Finally, Dr. Singh has done a useful service to the nation in reminding us all that economic activity is founded on trust between all participants. Yours truly had written a fortnight ago that restoring trust could be an effective economic stimulus. Hence, I agree with Dr. Singh that trust and confidence are central to economic activity. Further, the weight he has thrown behind fiscal expansion is doubly welcome.

In this essay, he has focused on what the government should do. Given his vast experience, his observations should not be ignored. At the same time, as a keen and perceptive student of economics, he should know that there are other stakeholders in the economic system. If he subjects them to as much scrutiny as he has done the government, the economy would benefit. At a minimum, he should write on the many acts of omission and commission on the part of the central bank in the last five years. Then, he should exhort India’s corporate leaders to reflect on their contribution to India’s economic malaise. That would be a useful service to the country which he has served with distinction in many capacities in the years gone by.

(These are my personal views)

I don’t understand

Been more than two weeks since I wrote a blog post. By my standards, it has been crazy travel. The book that Gulzar Natarajan and I wrote, ‘The Rise of Finance: Causes, Consequences and Cures’ was launched by the Honourable Finance Minister of the Government of India, Ms. Nirmala Seetharaman on Nov. 10 in Delhi. After that, my travels took me to Madurai, Mumbai and Ahmedabad with a day in between at Sri City!

I do not understand many things, in any case, let alone I can blog about them. I do not understand what is happening in Hong Kong.

I do not know why the Indian Sensex Index is trading at 40K points.

I do not know why the S&P 500 is at 3000 points+. But, John Authers thinks he has found the answer.

I do not know why Chile has erupted.

Sandipan Deb does not know why Aatish Taseer’s OCI card was revoked and having done that, why it cannot be explained cogently, either.

Gulzar Natarajan and I thought that India was not financialised (negative connotation) so much as the West had. But, Ashoka Mody knows better. A ‘must-read’ article.

Nor do people seem to know why they are empathetic. Or, if they are empathetic at all.

Fama does not know why he wants behavioural economists should produce an alternative model of the financial market. If it is possible to show that financial markets are not sane, that should suffice because it is impossible to model insanity. There is no cap on insanity.

So, I am not sure if I would have been able to blog even if I had time on my hands. I do not seem to be able to make sense of many things.

RCT related links

The first op.-ed., I wrote, after being appointed as a part-time member to the Economic Advisory Council to the Prime Minister (of India) on October 16 is this one.

Randomised Control Trials are not the panacea for development questions. But, they may be useful if they pose the right questions. The conclusions may still have to be tempered and tailored to suit different contexts.

Two well-written critiques of the RCT methodology to answer development questions are to be found here and here. (ht: Vijaya, my colleague at IFMR-GSB)

RCTs cannot reveal very much about causal processes since at their core they are designed to determine whether something has an effect, not how. The randomistas have attempted to deal with this charge by designing studies to interpret whether variations in the treatment have different effects, but this requires a prior conception of what the causal mechanisms are. The lack of understanding of causation can limit the value of any insights derived from RCTs in understanding economic life or in designing further policies and interventions. Ultimately, the randomistas tested what they thought was worth testing, and this revealed their own preoccupations and suppositions, contrary to the notion that they spent countless hours listening to and in close contact with the poor. It is not surprising that economists doing RCTs have therefore been centrally concerned with the effects of incentives on individual behavior—for instance, examining the idea that contract teachers who fear losing their jobs will be more effective than those with a guarantee of employment. [Link]

The long piece in has a wealth of links. These paragraphs are very good:

… the narrowness of the randomized trials is impractical for most forms of policies. While RCTs tend to test at most a couple of variations of a policy, in the real world of development, interventions are overlapping and synergistic. This reality recently led 15 leading economists to call to “evaluate whole public policies” rather than assess “short-term impacts of micro-projects,” given that what is needed is systems-level thinking to tackle the scale of overlapping crises. Furthermore, the value of experimentation in policy-making, rather than promoting pre-prescribed policies, should not be neglected.

The concept of “evidence-based policy” associated with the randomistas needs some unpacking. It is important to note that policies are informed by reflections on values and objectives, which economists are not necessarily well-suited to intervene in. Of course, evidence should be a part of a policy-making process, but the pursuit of ineffective policies is often driven by political priorities rather than lack of evidence…..

… While the Nobel Prize does leave those of us concerned with broader political economy challenges in the world anxious, not everything is doom and gloom. Firstly, the Nobel directs attention to the persistence of poverty in the world and the need to do something about it. What we as critical development economists now need to do is to challenge the fact that the Prize also legitimizes a prescriptive view of how to find solutions to global problems.

Secondly, the fact that a woman and a person of color were awarded a prize that is usually reserved for white men is a step forward for a more open and inclusive field. [Link]

Interesting that one of the links that Ingrid Harvold Kvangraven provides is an opinion-piece ‘written’ by fifteen economists last year. In that, they ‘anticipate’ the Swedish Riksbank Prize for RCT and ‘caution’ against it. Obviously, not directly.

Lastly, from Andrew Batson’s blog post on who should be awarded the Nobel Prize (Swedish Riksbank Prize) for Economic Development in China:

The contribution of randomized controlled trials to China’s poverty reduction has been, to a first approximation, zero. Yao Yang, the dean of the National School of Development at Peking University, wrote in an English-language op-ed that “Experiments might help policymakers improve existing welfare programs or lay the foundation for new ones, but they cannot tell a poor country how to achieve sustained growth.” In a similar vein, Harvard professor Dani Rodrik tweeted: “Remarkable how little today’s development economics has to say about the most impressive poverty reduction in history ever.” [Link]

My appointment to EAC-PM also reminded me of this column I wrote way back in May 2009: that op.-eds., did not bring change.

I was also reminded of this famous advice by Larry Summers to Yanis Varoufakis and quoted in his book, ‘Adults in the Room’:

‘There are two kinds of politicians,’ he said: ‘insiders and outsiders. The outsiders prioritize their freedom to speak their version of the truth. The price of their freedom is that they are ignored by the insiders, who make the important decisions. The insiders, for their part, follow a sacrosanct rule: never turn against other insiders and never talk to outsiders about what insiders say or do. Their reward? Access to inside information and a chance, though no guarantee, of influencing powerful people and outcomes.’ [Link]

Law of unintended consequences

A long New York Times article on the ‘chaos’ created by ordering from home which is about avoiding the chaos of shopping in real brick-and-mortar shops. Quite apart from the emptying out of High Streets in many cities, this has other costs too, as the article says. So, in the end, who bears the costs? Consumers actually pay less for their product. But, who pays for the associated costs. They are externalised. Neither party to the transaction bears it but the society. What is the answer? Collect more taxes from both?

Africa has lots of land and let us plant trees there. It will absorb global CO2. That is the thought process. Is that really correct? Another instance of unintended consequences or the road to hell being paved with good intentions. Article here (ht: my former student Arjun Aathish)

Market efficiency, anyone?

Having watched the stock of his company appreciate nearly 14-fold during the dotcom bubble, and then collapse 95% during the bust, Sun MicroSystems Founder Scott McNealy was bemused that investors ever considered paying what now looks like a rather diminutive 10 times sales for the computer hardware company’s stock at its peak in 2000.

Why? This is what he told Businessweek in 2002:

At 10 times revenues, to give you a 10-year payback, I have to pay you 100% of revenues for 10 straight years in dividends. That assumes I can get that by my shareholders. That assumes I have zero cost of goods sold, which is very hard for a computer company. That assumes zero expenses, which is really hard with 39,000 employees. That assumes I pay no taxes, which is very hard. And that assumes you pay no taxes on your dividends, which is kind of illegal. And that assumes with zero R&D for the next 10 years, I can maintain the current revenue run rate. Now, having done that, would any of you like to buy my stock at $64? Do you realise how ridiculous those basic assumptions are? You don’t need any transparency. You don’t need any footnotes. What were you thinking? [Link]

The above is worth recalling as stocks scale new highs in the United States. Are private markets faring any better? No. They are delivering superior returns through financial engineering, says this article in FT (ht: Gulzar).

Who is responsible for this? Central banks with their zero interest rates and QE policies. What are they doing now? They are doubling down on both.

Do not know when but it is not going to end well.

What does the record high for S&P 500 stock index mean?

The day after the S&P 500 scaled new heights (it did so on Oct. 28), it is a coincidence that I stumbled up on a review of three new books on Capitalism and Inequality by Edward Luce for FT.

The review was written on 9th October 2019. So, it has not become irrelevant.

The following observations from ‘Bloomberg Opinion Today’ dated October 24, 2019 is particularly relevant in the current context:

WeWork: What Have We Learned?

There is really no more 2019 story than the story of WeWork.

This one has everything: A corporate leader in the mold of L. Ron Hubbard vaporizes piles of a billionaire’s dollars and still walks away a billionaire himself, while thousands of his former employees angrily wait to be fired, just as soon as the company can scrape the cash together to give them severance — though it did manage to prepare severance packages for the CEOs. And people wonder why socialism is in these days.

WeWork, now formally The We Co., yesterday took a bailout offer from its top investor SoftBank, the vehicle of that first billionaire, Masayoshi Son. Softbank has kept throwing money at We even as the commercial real estate startup’s imaginary valuation shrank from $47 billion to $8 billion. Now it owns the bonfire. But through the magic of accounting, SoftBank gets to control WeWork without technically “controlling” it, meaning it keeps the bonfire from lighting up the rest of its balance sheet, write Tim Culpan and Shuli Ren. 

Son will probably be fine. And aside from the WeWork employees about to lose their jobs, it’s easy to laugh at this wild story because it won’t have much impact on the rest of us. We could even, as Matt Levine does, call We founder Adam Neumann basically a financial hero for spotting a market imbalance, located somewhere in the nexus between Masayoshi Son’s brain and wallet, and profiting from it.

But there’s a broader and somewhat scarier lesson to take from this too, writes Mohamed El-Erian, one about how a decade of easy money and a desperate need for yield keeps pushing investors to take ever-bigger risks. The longer this goes on, the more inclined we become to ignore stuff like a company founder locking up control for 300 years. We have met the enemy, and We is us. [Link]

Edward Luce in his review (attached) wrote: “No system, whether liberal or illiberal, can tolerate plutocracy indefinitely.” [Link]

But, plutocracy is now planning space trips for the summer!. Check out the article in FT on Virgin Galactic’s USD2.3bn valuation at public launch. Do not fail to read the comments under the article.

Tax cut, the stimulus effect and other links

The Financial Times had the following header, “Sugar rush from India’s tax cut starts to wear off” in an article yesterday. The contents were less negative. Stock market euphoria might or might not fade. But, the medium-term positive impact on corporate cashflows and hence on investments will be there. It might take some time.

Abhijit Banerjee, one of the winners of the Swedish Riksbank Prize for Economics, had wanted India to roll back the corporate tax cut. He has argued that the sure way to boost economic growth is to put money in the hands of the people and that the resulting higher demand would boost investments. Fair enough.

But, whether tax cuts for big businesses are an unfair advantage conferred on big businesses are entirely a matter of context. In the Indian context, the tax cut offered seems par for the course. The best response to the point put forward by Abhijit Banerjee came from R. Jagannathan, Editor of Swarajya, through his regular column (‘Arthanomics’) for Mint. He had explained beautifully as to why, in the Indian context, the corporate tax cut was not wrong and that higher taxes would not be welfare-enhancing. It is an important read.

Now, back to the context of this blog. I came across this review of the recent book by Piketty (ht: Ramagopal). The review was somewhat short and ended abruptly but it had an important statistic:

Per capita income growth was 2.2% a year in the U.S. between 1950 and 1990. But when the number of billionaires exploded in the 1990s and 2000s — growing from about 100 in 1990 to around 600 today — per capita income growth fell to 1.1%. [Link]

Piketty has a point about extreme inequality. But, I am not sure if forced redistribution would work simply because political economy forces would not allow the redistribution to happen. There is a moral hazard. Nations can cheat and allow tax arbitrage even if they agree on harmonisation of tax policies and rates.

OECD’s proposal for taxing the income of multinationals would be an important step forward, if it came about. In fact, this could be one of the most far-reaching tax reform to be proposed in recent years. Without that, redistribution of surplus between labour and capital would be a non-starter. However, it is chastening to note that OECD has been at it at least for six years if one went just by the first page hits when one searched for ‘OECD TAX PROPOSAL’

This F&D article (somewhat long) has a very useful overview and a wealth of links to pursue. It links tax-havens and tax-evasion to ‘Too much finance’. In other words, the jurisdictions that are willing to act as tax havens end up suffering from the ‘Finance’ curse.

One wonders if the post-Brexit Britain wants to or can double down on its role as a financial/tax haven?