The 10 biggest policy mistakes of the past

India still has a long way to go as far as economic recovery is concerned and constraints go back several decades, notes Shankar Acharya

As monsoon showers blanket the country, the prevailing economic mood is still one of waiting for the economic recovery.

Few pay heed to the controversial, new series gross domestic product growth data which indicate that the recovery began (improbably) in 2013-4 and is now in full swing.

All the other indicators (index of industrial production, purchasing managers’ indices for manufacturing and services, bank credit growth, corporate earnings and tax revenue growth) still suggest a sluggish economy, marking time and struggling to rebound.

There are conflicting signs on the investment cycle, certainly nothing to suggest a full-blooded recovery.

If one steps back from the present, and looks at the various legacy constraints and impediments to a vigorous revival, the current situation is hardly surprising.

Some of these legacy constraints go back several decades; others are due to fresh policy mistakes of the last ten years.

Here I list my 'top ten', six from the earlier past and four from the latest decade of United Progressive Alliance governance.

Enduring hold of old legacies

(1) Subsidies for electricity, irrigation water and fertilisers to agriculture: Half a century ago, when agriculture (mostly small farmer) accounted for over half of GDP and three-quarters of total employment, it may have been sensible to subsidise these inputs to catalyse the spread of modern agricultural practices.

By the late 1980s professional opinion had shifted in favour of replacing these burgeoning subsidies with investment in modern transport networks, medium and minor irrigation and other rural infrastructure.

Unfortunately, the path dependence of politics ensured that the subsidies stayed, though state electricity boards went bankrupt (today they owe suppliers and banks around Rs 300,000 crores or Rs 3,000 billion), water tables plummeted, costly irrigation command areas remained woefully under-utilised and over-use of urea damaged soil fertility.

(2) Nationalised banks: Forty-five years ago Indira Gandhi nationalised the major private banks as part of the 'garibi hatao' campaign, which assured her victory over the Congress old guard. Bank nationalisation did little to alleviate poverty, though it did accelerate the pace of branch expansion.

It also spawned bureaucratic cultures, widespread behest lending, pervasive inefficiency and frequent need for budgetary recapitalisation.

Despite 25 years of financial sector reform, government-owned banks still dominate Indian banking and are still plagued by weak governance, low capitalisation, serious operational inefficiencies and, in recent years, worryingly vulnerable balance sheets.

(3) Labour laws: Indira Gandhi’s severe tightening of labour laws in the emergency year 1976, notably through the insertion of the highly restrictive chapter V(B) in the Industrial Disputes Act (further tightened in 1982), has hugely discouraged fresh employment in the organised sector, constraining its share in total employment to around 10-15 per cent, far below levels in comparable economies like China and Indonesia.

These exceptionally restrictive laws have also stunted the development of medium and large-scale, labour-intensive manufacturing, thus undermining the most potent transmission belt between growth and employment generation.

Fortunately, the new Narendra Modi government has begun a decades-overdue process of reforming these laws.

(4) Neglect of urban governance: The Constitution of India, framed 65 years ago, did not find a place for “third tier”, local government  institutions in either urban or local areas.

As a result, the planning, execution and governance of urban land use and key services such as transport, water supply, sanitation and waste disposal remained woefully inadequate, despite the gathering pace of urbanisation.

Some improvement occurred in 1992 through the 73rd and 74th amendments to the Constitution, mandating some powers for local rural and urban bodies, respectively.

But it was far from enough.

Little wonder that most Indian cities and towns are today such messy, under-serviced semi-slums, constraining the rapid development of non-agricultural activities. The visions of smart cities, bullet trains and civic cleanliness are fine, but their actuation will require serious and rapid empowerment of urban local bodies.

(5) Unreformed administrative structures: Independent India inherited a colonial civil service system focused on collecting revenue and maintaining law and order among the 'natives'.

In the nearly 70 years that have elapsed since then, there have been several  administrative reforms commissions offering tomes of recommendations for necessary change, including, most recently, during the decade-long tenure of the Gandhi-Singh led United Progressive Alliance government.

But change has been slow in coming, far slower than in the 'parent' civil service in Britain which long ago reformed its structure to better incorporate the specialist needs of effective modern governance.

Caste-based reservations have compounded the problems. 

Little wonder that Indian bureaucracy has gained notoriety in blocking development and change and has had limited success in deploying sector-specific expertise effectively.

However, nearly seven decades of experience offer little hope for serious reform.

(6) Neglect of public health: It is well-known that people of India suffer from terrible health: around 40 per cent of all children under three are stunted, over half of all married women (aged 15-49) are anaemic, communicable diseases are rampant and all this extracts an enormous economic toll from both individuals (especially the poor) and the nation’s economy.

Much of this huge loss is avoidable through much greater focus on preventive public health services (including better water and sanitation), an area which has received scant attention (outside Tamil Nadu and perhaps Kerala), as compared to vaccination programmes and curative medical services.

Hopefully, the Modi government’s emphasis on the 'Swach Bharat' programme will help reverse this age-old, costly neglect.

New Legacies:

The recent decade of UPA governance has added to the list of challenging legacies.

(7) Land Acquisition Act (2013): This UPA legacy is a hot political issue.

By most sober accounts, the new law is largely unworkable, even for land acquisition by public agencies for bona fide development needs.

And for private firms it will raise land costs several-fold, making many job-creating activities uneconomic.

But, like so much of our populist legislation, now that it is on the books, it is proving enormously difficult to amend in sensible ways.

The Modi government is trying hard to make sensible, limited amendments. 

Failure will cost dearly in terms of the nation’s economic expansion and job growth.

(8) Entitlement laws: During its tenure the Gandhi-Singh  government enacted three important entitlement-expanding laws relating to rural employment, food security and education.

The goals are laudable.

The problems lie with poor design and the basic issue of committing prematurely to open-ended fiscal obligations, without undertaking the concomitant task of widening the tax base.

At present, the full impact (both good and bad) of these laws is moderated by non-fulfillment of certain necessary conditions at the state level.

Once these are satisfied, the full costs of premature fiscal populism will emerge and are likely to be untenable.

(9) Backwash of major scams: The massive scams during the UPA decade in telecom spectrum allocation, coal block allotment, illegal iron ore mining and so on are well-known, as are the corrective actions through Supreme Court decisions and follow-up actions by the successor government.

For the concerned sectors, the transitional economic costs have been huge and will take time to be absorbed.

Additionally, the general principle of auctioning public economic resources has become widely accepted.

While this will reduce large scale corruption, it may also blunt the competitive edge arising from access to cheap inputs.

(10) Crony capitalism: Crony capitalism is not new. What has been novel is the vigour with which it flourished during the past decade of high corporate growth, combined with exceptionally weak national governance.

The new government has  taken determined steps to rein in this unsavoury phenomenon. But the nexuses run deep and wide and the battle could be long and uncertain.

Image: A boy attends Independence Day celebrations at a school in a slum area in Siliguri. Photograph: Rupak De Chowdhuri/Reuters

Shankar Acharya is honourary professor at ICRIER and former chief economic adviser to the Government of India. Views are personal.