Bare Talk has been teaching second-year students of the post-graduate programme at the Indian Institute of Management in Bangalore for the last four days. Since Nobel laureate Joseph Stiglitz was in India in the first fortnight of January, the class discussed the famous exchange of letters between him and Ken Rogoff in 2002. Ken Rogoff, then at the International Monetary Fund (IMF), wrote to him that the laws of economics might be different in Stiglitz’s gamma quadrant but they were different in the real world and that his economic policy prescriptions were the equivalent of snake oil remedies. At the World Bank, Stiglitz had the opportunity to gauge the real-world impact of IMF “one-size fits all” policy prescriptions to Asian countries. He felt that IMF loan conditions not only were designed to benefit American financial institutions but also aggravated the economic contraction in Asian nations brought down by private sector balance sheet excesses and the resultant collapse of the currencies.
While the pain inflicted on the poor in Asian crisis-affected countries was real, it is altogether a different and harder proposition to prove that Stiglitz’s remedies would have been better. There is no way of knowing how the counterfactual would have worked out because other things cannot be held constant. For instance, IMF prescribed higher interest rates. Stiglitz argued that it further aggravated the balance sheet illness of Asian corporations and borrowers. However, had interest rates not been raised, currencies could have plummeted even further, making balance sheets with foreign currency loans equally worse off, if not more.
Fast forward 15 years later—it is both heartening and disappointing at once to see that Stiglitz has since morphed into a strong campaigner for left-of-centre social intervention policies. At one level, his views have remained constant. Intellectual consistency is both a virtue and a burden. In economics and in real life, one has to change views when facts and context changes. Consistency is to be applauded only when principles are compromised for personalities. Rogoff too has stuck to his view that countries with dire fiscal positions are generally better off following the path of fiscal prudence and has warned against ignoring the long-term consequences on economic growth of fiscal stimulus from a weak fiscal starting point.
IMF, on its part, too was consistent. Egged on by Germany, it preached fiscal austerity to southern European nations. However, towards the end of 2012, confronted by hard evidence that crisis-ridden European countries had not benefited from fiscal austerity, it wriggled itself out of the intellectual corner it had boxed itself into by conceding that it had overestimated the beneficial impact of fiscal austerity on the economies via lower interest rates. Now, IMF preaches prudent and pragmatic fiscal intervention as it does on capital controls. Doubtless, there are political economy considerations in the IMF prescriptions and change of mind. Shareholder activism may be absent in American corporate boardrooms but it is active in multi-lateral institutions.
That is also why Y.V. Reddy, in his keynote address at the Indian policy forum of the National Council of Applied Economic Research (NCAER) in July 2012, proposed that India aim for a zero current account deficit, on average, over the economic cycle. After all, as the governance structure in institutions like the Asian Development Bank, the World Bank and IMF changes with China gaining a stronger voice, India might find it harder to get funding assistance. The answer is not to seek refuge in more volatile and fickle short-term external commercial borrowings and portfolio flows into India’s stock and bond markets but to improve the environment for domestic investors investing into the creation of physical assets. Foreigners will come in due course. Here too, the answer is not to rely on interest rates alone for they are only a small part of the story of India’s slowing investment growth.
It is in this backdrop that the headlines made by Stiglitz on his recent visit to India make for disappointing reading. One wished that he had emulated Reddy. The latter noted at NCAER that the direction of financial market regulation in the post-crisis world will be towards re-regulation in the developed world and de-regulation in the developing world, given the long and enduring history of financial repression. That is a sign of intellectual openness and letting context dictate policy direction. Stiglitz’s remarks on the usefulness of the badly designed “Right to Food” legislation, on the role of foreign direct investment and on the importance of internal markets for India ignore its economic reality, poor governance and cynical political calculations behind populist welfare schemes. He might have qualified his praise with caveats but headline writers are neither patient nor knowledgeable enough to pick up the nuances. The damage is done.
Despite the caution that this column has urged on generalizations in economics, it dares to end it with one: Economists who offer sweepingly general prescriptions cause more harm than good to their reputations, to their profession and to the people they claim to serve with their knowledge.
V. Anantha Nageswaran is the co-founder of Aavishkaar Venture Fund and Takshashila Institution. Comments are welcome at firstname.lastname@example.org. To read V. Anantha Nageswaran’s previous columns, go to www.livemint.com/baretalk-