Photo: Mint
Photo: Mint

Opinion | Restoring trust can be a highly effective economic stimulus

Societies where businesses don’t trust one another to meet obligations will perform below potential

There was an interesting headline in BloombergQuint on 1 November, “Why a jump in retail auto sales is nothing to cheer about", on retail auto sales picking up, especially during the second half of the Navaratri season. Now, one has only to think of the counterfactual to see that such a headline did not do adequate justice to this good news. Suppose sales had not picked up during that season, what would the headline have been? That is easy to imagine. Therefore, a pickup in sales, at the margin, is a good thing. It also shows the way forward for boosting aggregate demand in the Indian economy.

Demand is a function of incomes and prices. Businesses can contribute to the income growth of households through hiring and paying workers fair compensation. In fact, India’s ratio of executive compensation to median worker pay, based on available data, is the second most egregious in the world, after the US. Executives pay themselves far more than they pay their workers. In the US, it is one of the biggest explanatory factors behind lower non-residential capital formation. In India, too, while many explanations have been offered for slower or no growth in capital formation in recent years, this possibility has not been considered. The private sector’s contribution to India’s economic woes usually goes under-scrutinized. The answer, of course, does not lie in legislating a ratio for executive-to-worker pay, but in keeping up public pressure and moral suasion, as seems to be happening in another case.

So, businesses should hire more and pay better. But they will counter-argue that investment, hiring and wages depend on demand in the economy. However, they can do more with—and about—prices. The most effective way to stoke demand among households is to lower prices. That is what the pickup in retail auto sales in the second half of the Navaratri season showed. Other sectors, real estate in particular, must think about this harder. It is one thing to appeal to the government for short-term relief and for the Centre to come out with various measures to help the housing business. But in return, developers can and must do their part. That is why reciprocal obligations on relief-seekers are essential. Lowering prices can clear existing inventory, move cash around, enable payments to suppliers, and boost economic activity.

In other good news, apart from the pickup in retail auto sales, one reads in Monday’s Business Standard that some tweaks have been made to the Insolvency and Bankruptcy Code that would force businesses to pay their suppliers from the small and medium enterprises sector (SME) on time. National e-governance Services Ltd (NeSL) will now make public the names of companies that default on payments. Details will be shared with all creditors that have exposure to the company. Importantly, companies that receive a query from NeSL will have to confirm their pending bills for payment. If companies fail to acknowledge the messages within 15 days of the last reminder, the bill will be deemed to have become a verified piece of paper, which can then be traded by SMEs on exchanges set up to discount trade receivables.

This initiative could have far-reaching positive implications. On Sunday morning, 3 November, The Economic Times had posed this question: “Choked by dues: what efforts are being taken to ease the biggest problem faced by Indian MSMEs?" The problem referred to was about receiving payments on time in accordance with contractual terms. The article, citing a report by Ernst and Young, put the dues trapped in balance sheets at 1.8 trillion. This is a big sum. Both large corporations and government-owned enterprises are guilty of delayed payments, sometimes wantonly so. Big companies force their small suppliers to change the invoice date so that it is not deemed a delayed or failed payment, which could invite penalties under the Micro, Small and Medium Enterprises Development (MSME) Act.

One of the most effective economic stimulus measures is trust. Commercial and social interactions are based on mutual trust. Societies that score very low on trust—where parties do not trust one another to meet their obligations—will underperform their economic potential. Forever.

Unless there is something mala fide established beyond reasonable doubt, withholding payments is simply not done. It widens the already ample trust deficit in India and chokes economic activity. The biggest anti-economic growth practice is to betray trust, both in social and in commercial transactions.

I began this article with a piece of good news. Let me end with another one. Restrictions on the use of plastics have led to the revival of the country’s traditional jute industry (“Plastic’s loss, jute’s gain: Demand for ‘golden fibre’ boosts jute industry", Business Standard, 4 November). This story is worth reading for many reasons. It reports that jute mills receive their payments from the government within 10 days. Surely, that is something to cheer about.

These are the author’s personal views

V. Anantha Nageswaran is the dean of IFMR Graduate School of Business, Krea University