Opinion | The secret to reviving India’s stuttering economy4 min read . Updated: 13 Jun 2019, 10:52 PM IST
Governance reform is as essential to strengthening India’s growth as economic reform
The elections are over. The victor has emerged. The return to power of Prime Minister Narendra Modi has sparked a buoyant rally in India’s stock markets, with the Sensex reaching record highs. This is likely rooted in the optimistic belief that Modi will act decisively to revitalize a stuttering economy. Or in the realistic belief that he represents the best hope for fiscally sustainable growth.
Over the past week, many economists have urged the new government to implement structural reforms, such as easing land and labour laws. They have argued that economic reforms are key to growth and employment. This line of thought ignores the most important lessons from the past five years of the Modi government.
Economic reforms with patchy implementation can create a regulatory maze. The much-touted reforms such as the goods and services tax (GST) and the Insolvency and Bankruptcy Code (IBC) were expected to boost the economy but instead led to a period of economic disruption as businesses struggled to respond to the drastic changes. In the long run, their shoddy implementation seems to mask a deeper concern—that of the bureaucracy’s limitations, in its current state, to administer a modern market economy. If so, governance reform is as essential to India’s growth as economic reforms over the next five years.
The data backs up this argument. The GST was meant to cut red tape. However, the World Bank’s 2018 ease of doing business report found that glitches in GST filing raised the time taken to file taxes—from 214 hours in 2017 to 275.4 in 2018. The same report studied the IBC’s impact under the parameter “resolving insolvency", where India’s rank paradoxically fell from 103 in 2017 to 108 in 2018. Despite their positive intent, these poorly-executed reforms have not improved India’s business environment.
Apart from big-ticket reforms, badly-designed regulations have proved counterproductive in many sectors. Protectionist trade measures in the textiles sector, such as export subsidies, have contributed to India’s removal from the US’s special trade privileges list. This will hit exporters, who now face a hike of up to 10% in the US tariffs levied on their products. Similarly, the construction sector was weighed down by the introduction of the Real Estate (Regulation and Development) Act in 2016. Although it is easy to blame bureaucrats, they are in reality hamstrung by perverse incentives, a lack of specialization and political interference.
China’s rapid growth and the role played by its bureaucracy serve as a good starting point to introduce an incentives structure in India that rewards performance.
In her seminal work, How China Escaped The Poverty Trap, Yuen Yuen Ang examines the relationship between economic growth and governance in China. An initial period of strong growth occurred despite weak bureaucratic capacity. However, as the economy grew, China’s bureaucracy became more sophisticated, adopting traditional “good governance" norms. China’s Communist Party, which recognized the benefits of a modern bureaucracy, created strong performance-based incentives for officers.
The Modi administration has implemented a few positive measures, such as the lateral entry of 10 professionals into the bureaucracy. However, lateral entry alone won’t help transform the system, unless accompanied by complementary reforms. In the absence of performance-based incentives, the lateral entrants are likely to fall in line with the bureaucracy’s way of functioning. Besides hiring private sector professionals, the government should focus on integrating the private sector’s processes and incentives-based approaches within the bureaucracy. These can be tailored to the public sector by increasing the domain expertise of bureaucrats, rewarding innovation and providing incentives tied to outcomes.
Modi’s incredible political success is rooted in a robust party organization with a clear leadership structure. But retaining the same centralized decision-making model is an impediment to India’s economic prospects. A strong PMO improves coordination among ministries and the monitoring of government programmes. However, it places significant responsibility for decision-making on one single body, neglecting non-priority sectors and stifling innovation.
In her book, Ang found that rather than seeking to exercise control at the provincial level, China’s central planners focused on “directed improvisation": The top leadership set broad reform agendas and gave autonomy to provincial and local bureaucrats to implement them based on regional uniqueness. The leadership allowed the bureaucrats to experiment, confident that they would work hard to achieve the highly incentivized outcomes. This approach must be replicated at the state level in India.
According to a report by PRS Legislative Research, in 2018-19, India’s states were expected to spend 72% more than the central government. This means that the majority of public spending decisions are outside the purview of the centre. And central schemes, such as Swachh Bharat and Smart Cities missions, also rely on actual implementation by state officials. Modi may have been immensely successful politically in the role of lead soloist but as PM, he needs to play the role of an orchestra conductor to revive India’s faltering economy.
Siddharth Goel is the founder and CEO of Rethinking Public Policy, a South Asia-focused public policy consulting firm