ECONOMIC REFORMS BY TOUGH LOVE
India has introduced conditional lending to incentivise states to undertake tough economic reforms. EPISODE #29
Dear Reader,
A very happy Monday to you.
Among other things, last week Prime Minister Narendra Modi published a piece in LinkedIn to claim that India is at the tipping point in garnering domestic support for economic reforms. It is not as simple as the PM made it out to be. But yes change is in the air.
So this week I explore how this consensus on long overdue economic reform is being realised. It is my argument that this buy-in is being enabled through what we call tough love—linking access to additional resources by committing to a reform agenda. Nothing wrong, especially if you believe in social choice theory wherein all decisions are viewed transactionally—something that India rarely does. Read on.
This week’s picture is from Rahul Sharma—someone with a gifted eye. Thank you Rahul for the lovely pix.
A big shoutout to Gautam, Shreekant, Vandana, Premasundaran, Yugainder, Mr Kelkar and Rahul for your informed responses, appreciation and amplification. It is key to growing this newsletter community. And, many thanks to readers who hit the like button 😊.
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THE REFORMS NUDGE
Last week Prime Minister Narendra Modi took to the professional networking channel LinkedIn to reveal how over the last one year the union government has been incentivising states to carry out long overdue reforms, especially with respect to improving delivery of key public services.
The PM’s claim was very simple: there is a consensus on economic reforms.
He said:
“In May 2020, as part of the Aatmanirbhar Bharat package, the Government of India announced that State Governments would be allowed enhanced borrowing for 2020-21. An extra 2% of GSDP (gross state domestic product) was allowed, of which 1% was made conditional on the implementation of certain economic reforms.”
And then added his punch line:
“This nudge for reform is rare in Indian public finance. This was a nudge, incentivising the states to adopt progressive policies to avail additional funds. The results of this exercise are not only encouraging but also run contrary to the notion that there are limited takers for sound economic policies.”
Modi is right.
Linking additional borrowings to a do-list of economic reforms is not a regular feature in the union government’s playbook.
Yes, beginning in the 1990s the union government had introduced the idea of grants linked to implementation of specific social good programmes like ‘Right to Education’ and the ‘National Health Mission’. But, nothing in this scale. So far Rs1.06 trillion additional borrowings has been permitted under this scheme.
In the process it has undoubtedly opened up an entirely new paradigm of governance. Previously any such experiment would have exploded in the union government’s face as the states would have opposed it. In fact, I had flagged this concern when this initiative was launched last year.
To be sure I had welcomed the initiative while warning that it may run into a political firestorm:
“The larger spin in the narrative will be about the ‘big brother’ attitude of the Union government—parallels may be drawn to the World Bank and the International Monetary Fund, who often link fiscal bailouts to unpopular conditions, binding countries to undertaking economic reforms. It will only lend more weight to the argument by critics that the Centre is pursuing ‘coercive federalism’ while espousing the cause of ‘cooperative federalism’.”
Those interested in re-reading it can click here.
The fact that my apprehension was misplaced suggests an implicit buy-in from the states.
It may well be that if indeed there is a push back from the grassroots the states can always blame the union government and limit political damage. Whatever be the rationale, change is in the air.
Conditional Reforms
For now the union government has linked additional resource allocation—through an enhanced quota of market borrowings—to the states committing to carrying out four reform initiatives:
‘One Nation One Ration Card’: A scheme that will enable those availing of the Public Distribution System to draw their entitlement from any outlet in the country; especially useful for migrants. Accordingly states were required to seed the data of the recipients with their Aadhaar card and also ensure every outlet is equipped with a Point of Sale device;
‘Ease of Doing Business’: It requires states to ensure, among other things, automatic online renewal of business-related licences;
‘Urban Local Bodies reforms’: States are to notify floor rates for property tax linked to stamp duty guidelines and also charge water and sewerage user charges which reflect current costs;
‘Electricity reforms’: This has two components. One, which requires states to float a pilot that brings free electricity supply to farmers under the ambit of the Direct Benefit Transfer (DBT). Second, it required states signing up for the reform to commit to reduce technical and commercial losses—a euphemism for increase in user tariffs to reflect costs.
A list of the 23 states who have opted for one or more of the four reform initiatives is shared below. The glaring omission in this list is Maharashtra. The abbreviations are as follows: ONOR: One Nation One Ration Card; EoDB: Ease of Doing Business; ULB: Urban Local Bodies; DBT: Direct Benefit Transfer.
For your benefit I have coloured the names of some states to create a cluster governed (including in a coalition) by the Bharatiya Janata Party (BJP), which leads the National Democratic Alliance (NDA) government at the centre.
Even a cursory review of the data is revealing. Regardless of what the representatives of various political constituents claim in public, there seems to be a broad consensus on what in the normal course will be considered politically sensitive reforms—especially with respect to raising user charges or exploring any kind of farm sector reform.
While there are no surprises that the BJP states have backed the initiative, it is indeed a pleasant surprise to see governments ruled by the Left, the Congress and other regional parties signing up for the reforms package too.
Clearly while the politicians swear by populism their actions seems to suggest otherwise.
A Tipping Point?
Could this be a turning point in public choice? I am certainly betting it is.
For long we have buried the country’s hopes in rhetorical conversations which have only ensured status quo. Exactly why it has taken seven decades to provide electricity to every village in the country; not to speak of the fact that drinking water through a tap is still a luxury for most households.
Presumably growing aspirations of an overwhelmingly youthful population is forcing a rethink. To put it bluntly we have finally reached the point where everyone can’t be fooled all the time.
Analysts have long argued that we need to bet on institutions and not on individual leaders to achieve impact investment. Unfortunately over time most institutions have been hollowed out to serve the interests of the ruling elite. However, this episode involving states and conditional lending seems to suggest that we are finally delinking rhetoric from public choice—what to build, where to build and how to fund it.
In their book (which I have just started reading), In Service of the Republic: The Art and Science of Economic Policy, Vijay Kelkar (former finance secretary and chairman of the 13th Finance Commission) and Ajay Shah argue that in India modernisation of the political system and the economy is playing out simultaneously—feeding into each other. This process in play for the last 40 years is creating an interesting dynamic, sometimes at cross purposes. They make out a strong case for unhindered public choice.
“Public choice theory encourages us to engage in ‘politics without romance’. We will not build the republic by finding benevolent people. What we need are frameworks where various kinds of self-interest are in conflict in the public arena, through well specified rules of the game. The objective of reform is not to hire saints, but to achieve a state which yields good outcomes when each actor is self-interested.”
What they are saying is that reforms work only if every stakeholder has skin in the game. To put it simply it cannot happen from the goodness of the heart. Instead it has to be couched in the architecture of a rules-based regime.
The big question is whether this initiative on conditional lending is the step in that long overdue pivot in public choice in India?
Recommended Reading/Viewing
Our present circumstances in the midst of a pandemic often leave us feeling overwhelmed. I stumbled upon a fascinating piece of work on the poet John Keats published on the site, TheConversation.com which provided some philosophical solace.
Most of us remember Keats for his poem ‘Ode to a Nightingale’. However the piece I shared points us to an equally compelling legacy of Keats in which he is credited with coining the term “negative capability”. The term was explained in a letter he wrote to his brothers George and Tom in 1817; most of his family had already succumbed to tuberculosis by then and Keats too was feeling, like most of us, overwhelmed by the uncertainties of life.
“Inspired by Shakespeare’s work, he (Keats) describes it as “being in uncertainties, mysteries, doubts, without any irritable reaching after fact and reason.”
As the writer argues, negative here is not pejorative:
“Instead, it implies the ability to resist explaining away what we do not understand.”
And then adds:
“Uncertainty can be uncomfortable. It is often quite tempting to stop pondering complex questions and jump to conclusions. But Keats counsels otherwise. By resisting the temptation to dismiss and despise others, it’s possible to open the door to discovering traits in people that are worthy of sympathy or admiration.”
To read the piece please click the link here.
Till we meet again next week. Stay safe.
A path breaking initiative by the Government. As a follow up the participating States could share their success stories, in order to replicate in other states and at the same time reveal the setbacks or obstacles faced, so that other states can learn from their experiences. Although the names of Maharashtra and West Bengal are missing from the list, what is heartening to note is that the response is not limited to BJP ruled states only. It is imperative on all participants to take a positive step forward for the sake of the state and country. We have to soar economically, all together, as a country. Very well presented Anil.
Dear Anil,
very insightful article. I Iike the phrase " centre is pursuing coercive federalism for the cause of cooperative federalism".India is facing challenging domestic circumstances and volatility abroad due to our hostile neighbors. To ensure economic development and improvement in living standards domestic economic reforms and structural changes should be our top priorities.
The 4 reform initiatives you have mentioned are steps in the right direction. on 29 June (tuesday)SUPREME court has directed all states and union territories to implement the one Nation , One Ration Card system which allows for inter and intra state portability , by July 31. your article has given indepth information about this scheme which will enable the migrant workers and their family members to buy subsidised ration from any fair price shop anywhere in the country under the National Food Security Act , 2013.