The dilemma of planning

Instead of making out a case for caution in stepping up the pace of liberalisation, the Tenth Plan Approach document tries to redefine the Planning Commission's role.

JULY 2001 marks the tenth anniversary of the government's programme of accelerated economic liberalisation. Coincidentally, the Planning Commission released in May the Approach document for the Tenth Five Year Plan (2002-07), which it is currently engaged in framing. Formulating a Plan after a decade of accelerated liberalisation is no easy task. A Plan, being a conspectus that delineates the intervention needed to realise a pre-specified trajectory of growth, is at its core in conflict with liberalisation measures that seek to leave the contours of that trajectory to be determined by market forces.

The resulting dilemma is visible in the Approach document that, on the one hand, argues that it would be wrong to say that the government has "no role to play or only a minimalist role, in promoting development", but, on the other, suggests that "government in the past tended to take on too many responsibilities, imposing severe strains on its limited financial and administrative capabilities and also stifling individual initiative." Being a body whose very existence is predicated on a philosophy of intervention, however limited, the Commission seeks to resolve this dilemma by redefining the role of the government, while specifying the growth and welfare objectives to be achieved within the five-year horizon.

To understand what emerges from this exercise, it is best to begin with the Commission's discussion of alternative growth scenarios. While not dismissing the Prime Minister's call to double the per capita income in the next 10 years, which requires growth to move up from its presumed 6.5 per cent level to 8.7 per cent, the Commission itself recommends an indicative target of 8 per cent. To illustrate what it takes to achieve this slightly pruned target, the Approach document delineates two alternative growth scenarios: a baseline scenario with 6.5 per cent growth and a maximal scenario with 8 per cent growth. With growth during 1999-2000 and 2000-2001 now estimated at below 6 per cent, the 6.5 per cent base trajectory is itself a step-up of significance, since it is to be accompanied by fiscal correction and much else. Not surprisingly, starting from there, and even allowing the incremental capital-output ratio (ICOR), or investment required to yield a unit of output, to fall to 4.1 per cent from the prevailing 4.3, the Commission needs an investment rate of 32.6 per cent to deliver 8 per cent growth.

This does create a problem, since a characteristic of the liberalisation years has been a decline in the investment rate. Starting at 26.3 per cent in 1990-91, the ratio of gross domestic investment to GDP fell to 22.5 and 23.1 per cent in the next two years, rose again to 26.8 per cent by 1995-96, and then fell continuously to 23 per cent by 1998-99. This occurred not merely because public investment slipped from 8.7 per cent of GDP in 1994-95 to 6.4 per cent in 1998-99, but also because simultaneously private investment fell from its peak of 18.9 per cent to 14.8 per cent. This decline in private investment during the years when the conditions for such investment were substantially liberalised and private investors were provided a range of savings and investment incentives, suggests two things.

First, that the decline in public investment could have adversely affected private investment, given the link between the two observed in India in the past and noted in other developing countries as well. Secondly, that the expected post-liberalisation buoyancy in private investment was short-lived and such investment has not only not compensated for the decline in public investment, but has itself fallen since the mid-1990s.

There are a number of ways in which the decline in public investment is related to liberalisation. To start with, the latter involves substantial reductions in customs duties as well as cuts in direct tax and excise rates aimed at providing incentives to the private sector, all of which have significantly reduced the tax-GDP ratio. Secondly, liberalisation has involved the abolition of government access to low-interest borrowing from the central bank, resulting in high-interest borrowing that increases the interest burden on the government's budget and pre-empts a growing share of the shrinking kitty. Thirdly, liberalisation emphasises a reduction in the fiscal deficit of the government, which limits the ability of the government to undertake capital expenditures based on borrowing.

The net result has been that public expenditure on capital formation and the social sectors has been substantially squeezed during the liberalisation years. However, given the fact that the Planning Commission has been mandated to 'plan' within the parameters set by the liberalisation agenda it is hard put to recommend efforts to reverse these tendencies.

Rather, it suggests that the reduction in India's import-weighted tariff rate from 90 per cent at the beginning of reform to 34 per cent in 2001-02 is inadequate, because the current level is three times that prevailing in East Asia. It recommends that any increase in the tax-GDP ratio should be ensured only through higher buoyancy and a wider tax base, rather than higher tax rates. And it makes out a case for a reduction of the combined fiscal deficit of the Centre and the States to 3.3 per cent of GDP.

How then are resources to be garnered to raise public investment and expenditure, which appears to be a prerequisite for raising private investment, so that the investment rate rises from 23.3 per cent and 24 per cent respectively during 1999-2000 and 2000-01 to the projected 32.6 per cent. According to the Approach document, this "calls for significant increase in the domestic savings to nearly 29.8 per cent and the foreign saving (current account balance of the balance of payments) to 2.8 per cent from the present level of 1.5 per cent. This is reasonable in the light of the experience of other emerging countries. The more difficult task is to increase the public sector saving from 2.4 per cent to 4.6 per cent and especially the government saving from a negative level to 1.7 per cent of GDP in the Target Growth scenario."

There are two different levels of erroneous argument that have been confounded here. First, the Commission's view appears to be that the problem lies at the savings and not the investment end. What that argument ignores is that the Indian economy is today characterised by a high degree of slack, reflected in unutilised capacity, surplus foodstocks, comfortable foreign reserves and unutilised resources, including labour. Clearly, any autonomous increase in investment would stimulate demand, improve utilisation and therefore increase employment, incomes and savings.

The second argument is that with available revenues, government expenditures cannot be translated into capital expenditures because of the revenue deficit on the Budget, which implies that borrowing is being used to finance current expenditures. Here again, what is missed is the possibility that, given the unutilised capacity, even deficit-financed capital expenditures would result in improved utilisation and therefore higher incomes, profits and revenues for the government, so that it need not worsen the savings performance of the government. This is not to say that the problem of the revenue deficit should not be addressed through higher taxation and proper implementation of tax norms. It is merely to challenge the view that the revenue deficit is a major factor restraining investment rates in the Indian economy.

Having made savings the prime problem from the point of view of raising growth, the Approach document, while paying lip-service to the need to raise the tax-GDP ratio (the gross tax to GDP ratio rises from 9.16 per cent in 2001-02 to 11.7 per cent in 2006-07, as a result of buoyancy of 1.44 per cent), recommends reliance on the two prime means of resource mobilisation under liberalisation. First, it recommends that the disinvestment process should be accelerated to yield Rs.16,000 crores to Rs.17,000 crores per year on an average over the first three years of the Tenth Plan. Secondly, it elaborates on the tiresome discussion of how government expenditure at the Centre needs to be and can be reduced. Downsizing and subsidy reduction are the principal policies recommended for the purpose, as has been the case in all documents elaborating the theology of liberalisation. There is little recognition of the fact that a close examination of the figures shows that little is to be garnered from the proposed 3 per cent reduction in government employment. And, to deal with the embarrassment that the effort at reducing food subsidies by raising the issue prices of food has proved counterproductive, resulting in an increase rather than a decrease in the subsidy bill, it falls back on the new pet scheme of the Centre, which has been rejected by the States, that is, decentralisation of procurement and distribution.

This leaves the question of how India is going to scale the wall from a 24 per cent to a 32.6 per cent investment rate unanswered. The document sidesteps that slush and focusses attention on the importance of improving efficiency to bring the ICOR down from 4.28 to 4.08 per cent. This emphasis on a minor aspect of the problem is, however, not without purpose. The resulting transition from the problem of raising investment to that of increasing the "efficiency" of investment clears the path for a whole range of recommendations. To improve efficiency, it is argued, the Plan must be a "reform plan" and not just a "resource plan". This, says the Commission, requires a redefinition of the role of government, including a reduction in its pervasive presence. This may have been necessary, it is argued, when "private sector capabilities were undeveloped", but not now, when India has "a strong and vibrant private sector". That this strong and vibrant sector has failed to deliver the goods is obviously another matter. Yet, its growth is to be facilitated with a range of incentives and by changing legislation relating to retrenchment, closure and the terms of employment of labour.

Redefining the role of the government also requires privatisation and a focus on social sectors and marginally on infrastructure. Marginally, because the government should confine itself to areas "where gaps are large and private sector cannot be expected to step in significantly." In areas where private investment is unlikely, as in rural infrastructure, government presence must increase. In others, such as telecommunications and ports, where private investment is forthcoming, the role of the government should be to facilitate such investment and in putting in place an appropriate regulatory framework, which ensures "a fair deal for consumers, transparency and accountability, and a level playing field."

All of this does not complete the new agenda, which, if it is to be realised, must incorporate the States as well. The States, burdened with shrinking revenues and rising expenditures, especially in the wake of the Pay Commission's recommendations, are being forced to borrow to finance revenue expenditures. While recognising that "the deterioration in the State finances in recent years is largely an outcome of the fact that in the face of a limited resource-base the States had to cope with a significant growth in their committed expenditure," the Commi-ssion makes a strong case for reining in these expenditures, targeting the remaining and raising non-tax revenues through higher user charges.

To ensure this, the Commission calls for linking development assistance to "performance", defined in its own terms. To quote the Approach document: "In view of the importance of fiscal reforms at the State levels, consideration should be given to setting up an annual fund at the Planning Commission to augment plan resources of those States that agree to wipe off the revenue deficit in a period of five years and improve governance. Although the initial allocation would be formula-based, the ultimate releases of funds to individual States would be done on the basis of their performance. The withdrawal from this fund by the individual State would begin only when it signs a memorandum of understanding (MoU) with the Planning Commission about the proposed reforms the State would undertake and the time period of completing various bench marks to be identified jointly by the Planning Commission and the State." The old mechanism of using non-statutory transfers to advance the objectives of the Centre is to be institutionalised.

This time around, however, it is to be used to impose increasingly controversial "reform" measures on States that are willing to fall in line, creating a ground for disruption of India's tenuously constructed federal structure.

Needless to say, all of this is peppered with some well-meaning recommendations relating to the provision of social services and the decentralisation of economic and financial powers. But the essential feature of the Approach document is a failure to exploit an opportunity provided by the experience with 10 years of liberalisation.

Whatever else may be claimed for the strategy of liberalisation, evidence suggests that it has failed to deliver on its promises on a number of fronts: growth in the commodity-producing sectors has been slack, investment has been sagging, the prime objective of rendering India's exports buoyant remains completely unrealised, and progress on the poverty reduction front and in improving the provision of basic services has been retarded. Clearly, the process of dismantling controls, reducing regulation and diluting state intervention has neither unleashed entrepreneurial energies adequate to substitute for the reduced contribution of the state nor ensured growth benefits that would trickle down to the poor.

The Commission could have used the opportunity resulting from the consequent disenchantment with liberalisation to make a case for caution when betting India's future on the operation of relatively free markets. It does not do this. Rather it has chosen the occasion to redefine its own role. To that end, it unilaterally takes upon itself the responsibility to serve as an agency that defines the changing role of government, that justifies liberalisation, that supports more "targeted" and priced social service provisions, and above all, that disciplines States into correcting fiscal imbalance and joining the liberalisation "mainstream". Since all of this is now being done by other arms of the state, the Commission has in the process only acknowledged its own growing insignificance.