Indian Political Economy – a crazy balancing act

When Pranab Mukherjee was selected as the presidential candidate by Congress, the first thought that crossed my mind was that Manmohan Singh can now do something right about the economy.  But given elections are just 2 years away – I seriously worry if populist measures will overtake good economic decisions.

India is a diverse country, and is not known to elect a politician based on economic brilliance. There is a good reason for that – the wealth accumulation is only with a small percentage of the population. Not enough votes will come in any constituency from those rich people. Added trouble is that several of the “haves” choose not to go to voting booth on election day. Lot of other things win elections – religion/caste , free benefits from government , subsidies and so on are the messages that win elections. The one other thing that wins elections is fierce loyalty to some political families.

The loyalty factor is kind of silly when taken to extremes. The most obvious case is the “Gandhi” family. Jawaharlal Nehru was India’s first prime minister. There were many other capable and eminent people who could have been the prime minister – but Gandhi liked Nehru the best. Nehru ruled several years, his daughter Indira Gandhi ruled several years and her son Rajiv Gandhi ruled after that. The current chief of Congress is Rajiv Gandhi’s wife, who is an Italian by birth – Sonia Gandhi. Her son Rahul Gandhi is an MP, and at some point after Manmohan Singh’s tenure – he will surely rule the country.  Every opportunity they get, the congress leaders will make a shout out for Rahul Gandhi to be the next Prime Minister.  What might not be well known to people outside India is the fact that Indira Gandhi had no blood relation to the father of the nation M.K.Gandhi. She took the last name of her husband Feroze Gandhi . You might wonder if a country with a billion people can only be led by one family. Well – that is how India works for the most part.

Economics in India from the time of Nehru was based on socialist principles. It led to what was called License Raj. Government decided which companies can get a license for what business, regulated prices, prevented lay offs etc. Nehru and his finance ministers wanted a “planned economy”.  C Rajagopalachari was an opponent to this idea – and the term license Raj was his creation, with a reference to the British Raj that India suffered through many decades. I think Nehru probably did not want a pure USSR type model, given that private business houses did flourish in India. But this policy led to India never exploiting its potential for 4 decades. I can be wrong – this was all before I was born, and my knowledge is all through reading and college classes and so on.

Wealthy families with ties to politicians got many such licenses.  And just like politics – business also had a few “first families” who grew by leaps and bounds when the rest of the country suffered.  Preamble to Indian Constitution states that it is a socialist republic. And a challenge in supreme court to change that was turned down. Not sure how many people remember this – but it was Feroze Gandhi who first unveiled a lot scandals involving business houses and politicians – including the LIC scandal that gave the Nehru Government its first black eye.

So throughout the first 40+ years of independence, India had a very closed economy.  The current Prime Minister Manmohan Singh was a Reserve Bank Governer and then the Dy Chairman of planning commission in the 80’s. So he has seen first hand the mess associated with the closed economy and failed policies. When he was brought into the parliament on a congress ticket, he was whom Narasimha Rao chose as finance minister.  He was the FM till 1996 – I remember that clearly since that is when I finished my college. It was fascinating to see several economics lessons from childhood being banished by a visionary Finance Minister and Prime Minister and the economy being opened up.

Looking back, I can imagine why Nehru and his colleagues believed India needed to depend on internal markets for its development. Their generation had to fight all their life to end the British rule in India. And British, and many others came to India on the pretext of trade. So international trade probably was not the most palatable thought for those leaders.  But since rupee was not convertible – there wasn’t a lot that private citizens could do in case they differed with the government’s idea of how an economy should work.

Although I did not realize at the time – I now believe Rao’s and Singh’s hands were forced.  And to give credit where it is due – the idea of reforms started with Rajiv Gandhi, although  the execution of the reforms only started with Rao in power.  There was practically no forex reserve in the country at a time in 1991 that India pledged Gold and got a bailout by IMF. Smartly, the government moved swiftly in deregulating most industries. They did stop short  of making this 100% liberalized – defence, alcohol etc continue to be regulated.

When Manmohan Singh was RBI Governor, Pranab Mukherjee was the FM. All I remember about that time is that they managed to not draw the last installment of the IMF loan that was available to them – which is admirable.  So, essentially Pranab was Manmohan’s boss. Fast forward to the time Pranab was the FM in Manmohan’s cabinet – and Manmohan was his boss, at least in theory. I don’t think he really deferred to the PMO on anything related to Finance.

Manmohan Singh never contested a Loksabha election. He was always nominated to Parliament through Rajyasabha. I think it was a wise move on his Party leadership’s part. He is not a politician – he is an economist and an administrator. There is no guarantee that he would have won an election had he contested. Pranab on the other hand is a career politician.  His genius in politics is at the same level as Manmohan’s is in economics.

His tenure as FM was not the best this time around – especially the retroactive taxation that he pushed through that was horrible , and drove a lot of investment away. Proof of the pudding is in the eating – and that pudding is not sweet any more. The economy is not growing all that much – and a lot of blame rests on the FM. And this is what Manmohan Singh needs to clean up, and in quick time.  When Pranab quit as FM to contest presidential elections, Congress seems to have decided to keep the FM role with Manmohan Singh as an additional responsibility. India needs an economist in that driver’s seat now. This is a great decision.

There are many areas where some action needs to be done quickly. With a coalition ministry, I wonder if there is a lot he can get away with, but here are 4 things that come to top of my mind .

1. Government Spending – this is not a new problem by any stretch. But it is out of hand , and it needs to be trimmed.

2. Tax reform – even if nothing else gets done on this front, the retroactive taxation policy should be killed pronto. Without that, there is no way more capital will flow into India

3. Cutting subsidies – probably going to be the hardest to do in India, especially with elections due in 2 years. There is very little chance that Manmohan Singh will be PM next time due to his age, so now might be a good time to bite the bullet and get it done.

4. Controlling inflation – when some things are regulated and subsidized, and some are not, it is hard to both grow and minimize inflation.  For example – If the LPG and Diesel fuel subsidy goes away, prices of everything will increase overnight. It will take some time for the market to find its equilibrium. On the other hand, if it is not done – growth will be affected.  Hard to balance when election is just 2 years away.

The next 2 years will be interesting to say the least !