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Photo: Bloomberg
Photo: Bloomberg

Opinion | Even sectoral solutions call for a broader economic outlook

The Modi government should not limit itself to sectoral policy responses each time there is trouble in one part of the economy

A classic Peter Sellers movie from the Cold War years was based on a surreal premise. The Mouse That Roared tells the hilarious story of the tiny Duchy of Grand Fenwick, which is battling an economic crisis after its wine exports are obliterated by an American company making a cheap imitation of Pinot Grand Fenwick wine. Grand Fenwick declares war on the US, a war it knows it will lose. The zany plan is that the US would then offer lavish financial aid to the defeated country to rebuild its economy, as it did to Germany and Japan in the 1950s, and then all would be well in Grand Fenwick.

Economic strategies in the real world are thankfully less whimsical. In his January 2019 lecture in memory of Sukhamoy Chakravarty, Vijay Kelkar noted that one of the main lessons he learnt from the latter was that strategies for economic growth should begin with empirically identifying what is the most dominant structural constraint faced by an economy, and then designing policies that would alleviate that constraint.

The initial wave of Indian development thinking was focused on broadly three sets of constraints—a domestic savings constraint, a foreign exchange constraint, and a food constraint. India did not have adequate domestic savings to fund the ambitious investment programmes outlined in its early plans. It did not earn enough foreign exchange to import the capital goods needed for rapid industrialization. Inadequate food supply meant that economic expansion would be inflationary.

The plans were attempts to ease these structural constraints through investment by the public sector in capital goods industries. The mistaken assumption was that food was a bargain sector that would see productivity growth with minimal investment, as long as there were institutional changes such as agricultural extension services or cooperative farming.

All three historical constraints have significantly eased in recent decades. The domestic savings rate is far higher than before, despite the recent decline. India still runs a current account deficit but ample capital inflows have ensured that foreign exchange is not a major constraint. India has not had a balance of payments crisis since 1991. The food constraint could be easing if one goes by recent research that suggests that India is now into a new era of structural food surpluses. There is still an energy constraint, especially given our dependence on imported oil, but recent developments in the global energy market could offer relief over the medium term.

Former chief economic adviser Shankar Acharya wrote last week in Business Standard that India could have entered a new period of disappointing economic growth. Other economists ask whether India is in the midst of a deeper structural slowdown. There are also wider concerns about risks to social stability, in case India fails to grow at a rate that provides opportunities to a young population.

There is now a strong case to think about the economy as a whole rather than sectoral decisions in response to the latest problems dominating the news headlines. In his forthcoming book, Subramaniam Swamy writes that the Narendra Modi government “has an unstudied familiarity with microeconomics but not macroeconomics and its intricacies of inter-sectoral economic dynamics".

We need a contemporary variant of the famous M document authored by Montek Singh Ahluwalia in 1990 as economic reformers in the government had begun convincing the political leadership that the old strategy was no longer delivering results. Mere tinkering at the edges would no longer work. It eventually took a P.V. Narasimha Rao to junk the old policies.

Ahluwalia himself has clarified that his strategy document was a blend of work done by several colleagues in government—but its great achievement was in the way it presented an internally consistent set of ideas on fiscal, industrial, trade, monetary and financial policies. The lack of an internally consistent policy framework could mean that reforms in one part of the economy create distortions in other parts.

India was staring down the economic abyss in 1990. The worst balance of payments crisis in its history was only a few months away. India is now a different country after several decades of rapid growth. It is not the India of 1990 and definitely not the Duchy of Grand Fenwick in the Peter Sellers movie.

The economic strategy for the next couple of decades needs to grapple with key analytical issues. Will the collapse of food prices help industrial sector profits by capping wage growth or reduce profits because of a collapse in rural demand? Is weak private sector investment a result of the high cost of capital or rigid factor markets? Are fiscal, monetary and trade policies internally consistent? Then there are emerging constraints such as climate change and risks to globalization.

There are no simple answers to such questions. The point is that the Modi government needs a broader economic policy framework that can power the Indian economy towards $5 trillion and beyond—and not limit itself to sectoral policy responses each time there is trouble in one part of the economy.

Niranjan Rajadhyaksha is a member of the academic board of the Meghnad Desai Academy of Economics

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