Now that Narendra Modi is back as the Prime Minister with a bigger mandate, he must decide the kind of economic policies he wants to pursue over the next five years. His first term in power was marked by some dithering over free market reforms. While the bankruptcy code, shift in the indirect tax regime and inflation-control brief to the central bank qualified as moves in that direction, other measures seemed to betray a lack of conviction. Import tariffs rose, disinvestment made questionable progress, and fiscal consolidation veered off its “glide path". Some of it may have been just a tactical retreat. The logic: So long as private investment was weak, the state would have to do the heavy-lifting to enhance economic growth. This rationale had an air of validity, and India does need the state to play a major role in infrastructure, but such a stopgap could also become self-fulfilling if the government’s use of resources leaves too little for private enterprises to flourish. “Minimum government, maximum governance", a pre-2014 Modi promise, might then look even more elusive. Lest that happens and higher growth gets even harder to achieve, the new government should resolve to enlarge the role of market forces in the economy.
The need of the hour is to focus on fundamental reforms. Factor markets are a good place to start. Unlike the policy revisions done over the past five years, easing land acquisition and labour rules could attract new business projects, revive mass recruitment and lift the economy’s growth capacity to a new level. To be fair, Modi did try to do the former and kept track of an experiment in Rajasthan on the latter. Both ran into trouble. Granted, such reforms are fraught with political risks. But given their importance, Modi must give them another shot. A reliable social security net would help whittle down resistance to relaxing rules that deter companies from multiplying their payrolls. Modi has already laid the groundwork for it through some of his schemes. With added assurances of state support, a relatively flexible labour market could be achieved. Less risky but more complex would be capital market reforms. On these, the government should start with the banking sector, which remains overly state-dominated and needs market oversight to stop good money from being thrown after bad. In general, excessive government control makes it hard to keep asset quality high. Similarly, the state needs to either withdraw from other fields of business or turn public sector enterprises uniformly profitable. India can’t afford drains on its exchequer. Also, the autonomy of institutions, such as the Reserve Bank of India and Election Commission, should be guaranteed via devices that are open to public scrutiny. Independent regulation would assure all participants fair treatment and check legislative and market forces that could imperil the economy and our democracy.
Modi’s scale of victory is the largest in three decades. If anyone is in a position to push ahead with politically difficult reforms, it is his government. There couldn’t be a better time for the Prime Minister to act in favour of a more efficient economy. He’d have time enough to make amends should some of it not work out. A state-led economic model has yielded poor results in the past. Modi 2.0 should give market reforms another chance.