Capital gains

Published : Dec 17, 2010 00:00 IST

CAPTAINS OF INDUSTRY listening to Finance Minister Pranab Mukherjee presenting the proposals of Budget 2010.-V. SUDERSHAN

CAPTAINS OF INDUSTRY listening to Finance Minister Pranab Mukherjee presenting the proposals of Budget 2010.-V. SUDERSHAN

In a liberalised regime, the private sector may find itself having to share the transfers it receives with the decision-makers involved.

IN a season for scandal, allegations of large-scale corruption have captured political India's attention. The instances to which such allegations relate are many, varying from the sale of 2G spectrum and the mobilisation and/or disposal of land and mining resources to purchases made as part of large and concentrated public expenditures (as in the case of the Commonwealth Games).

Features that these ostensible instances of corruption have in common are their large size in terms of the quantum of the money involved and the brazen violation of the law. If true, the allegations indicate not only that corruption still prevails but that it may have increased in scale, overwhelming the evidence of small-scale corruption among petty bureaucrats and local government functionaries.

Some of these allegations of corruption on a large scale are of particular significance because they point to changes in the profile and qualitative implications of corruption. Associated with such instances of the possible misuse of power by state functionaries for substantial private gain is huge profit for some of the richest individuals and for leading domestic and foreign business groups.

This leads to substantial surplus accumulation among two groups. The first is among those serving the state apparatus in high positions. The belief that this could be occurring is strengthened by the growing nexus between politics and business, with big business having strong links (direct or indirect) with politicians, and individual politicians elected to Parliament and the legislatures reporting huge increases in asset holding over time. The second set of potential beneficiaries of surpluses accumulated in this fashion consists of business groups, which derive gains from the purchase of pecuniary benefits for a small price. Thus, if we go by the Comptroller and Auditor General's (CAG) estimate, the loss of revenues to the state from the mispricing of 2G spectrum alone is Rs.1.76 lakh crore or close to 10 per cent of Gross Fixed Capital Formation in the economy in 2008-09. If a large share of that loss is being transferred to those acquiring spectrum, it points to huge benefits for business groups.

It needs to be noted that transfers of this kind to private capital are not always seen as the result of corrupt practice. There have been many instances where sections of the private sector have made huge gains through means that are unfair, even if not illegitimate, though they have not been associated with credible allegations of corruption. One such within the cellular industry, which is the focus of current attention, was the implicit bailout of investors who made erroneous and even irrational bids for spectrum during the first round of auctions.

A few players chose to make huge bids for licences to operate in multiple circles and won the right in many more than one. If they had been required to make payments for all the circles they had won, these bidders would have been in financial trouble. The government, therefore, allowed them to retain a few of these licences and give up the rest. Despite this, when these bidders turned operators, they discovered that they could not operate profitably if they were actually required to pay the amounts they had bid to obtain their licences. The government, therefore, allowed them to migrate to a revenue-sharing regime rather than a specific licence fee system, allowing them to make huge profits subsequently.

Rewarding irrational bidders

The point to note is that the irrational bids made by these operators had kept out a number of rational bidders who may have been more efficient suppliers. When it became clear that those offering the highest bids were unable to meet their commitments for one reason or the other, they should have been penalised and their more rational competitors brought in.

By allowing the irrational bidders to limit the commitments they had to honour and then dilute those commitments by permitting migration to a revenue-sharing scheme, the government rewarded them.

This was, to say the least, unfair even if not illegitimate because no clear evidence of corruption emerged. This was one more instance where unfair business practices and patronage from the state permitted sections of the private sector to garner huge profits at the expense of the exchequer. Thus, patently wrong policies that transfer surpluses to the private sector are visible not only in instances where allegations of corruption are involved.

It is to be expected that such instances would increase under liberalisation since the state increasingly dilutes or gives up its role as an agent influencing and regulating the nature and scale of private activity to take on that of being a facilitator of private investment. In fact, the very process of transition to a more liberal regime is fraught with potential instances of corruption, as the allegations of under-pricing of public assets in the process of disinvestment of public enterprises illustrates.

The process of decontrol and deregulation is also accompanied by efforts at promotion of private investment, involving help to the private sector to acquire land, to grow in new areas and to expand its activities. As a result, besides the old type of corruption where state functionaries demand a price for favouring individual firms with purchase orders or permissions and exemptions, there is a new form in which those benefiting from state support could be called upon to share the transfers they receive with the decision-makers involved.

Advocates of liberalisation have always argued that by reducing state intervention and increasing transparency, economic reform will reduce corruption. The allegations of and evidence on large-scale corruption show this is not true. In fact, they make it clear that liberalisation does not mean that the state withdraws from intervention but merely that there is a change in the form of its intervention, which also enables the state to deliver illegitimate gains to individuals and private players.

The flip side of this process is that there are new avenues through which the private sector can garner windfall gains that raise private profits, increase internal resources and allow for an acceleration of private capital accumulation. There is ample evidence of a substantial increase in private profitability, corporate savings and private wealth since the launch of liberalisation and especially during this decade. But this has been attributed to the entrepreneurial energy released by liberalisation, with no role given to the benefits from transfers engineered by the state.

In fact, when discussions of corruption occur, the possibility that it serves as a mechanism for private aggrandisement receives little attention. The tenor of the discourse is that the virus of corruption afflicts only government officials and politicians, who control and misuse state power. This may have been a partly reasonable position to take if corruption is merely reflective of the price to be paid to state functionaries for private individuals or entities to realise what would have been legitimately due to them. But increasingly corruption appears to reflect payments made by the private sector to realise illegitimate gains that are not merely violative of fair practices and/or the law but damaging from the development, environmental or fiscal points of view.

Given the large amounts that can be garnered in this fashion, the state seems to be turning into an important site for primitive accumulation for the private sector during the phase of liberalisation and economic reform. If true, this makes the private sector not just complicit but a participant in the acts of corruption, if any, involved.

Flight of capital

An aspect possibly associated with such corruption is the flight of capital from the country. Those making illegitimate or excessively large windfall gains may need to evade the tax and/or other laws of the country. The illicit transfer of wealth facilitates such evasion. Thus, liberalisation, by making such transfers easier, encourages capital flight. According to a recent estimate by the Global Financial Integrity programme of the Centre for International Policy, the money that had flown out of India illicitly to accounts abroad over its post-Independence history stretching from 1948 through 2008 was around $213 billion. The adjusted present value of those historical flows has been placed at $462 billion or around 36 per cent of India's GDP in 2008.

Interestingly, there are signs that the outflow has increased substantially in recent years and that more of the money is now moving to offshore financial centres. The report that includes Global Financial Integrity's estimate, titled The Drivers and Dynamics of Illicit Financial Flows from India: 1948-2008, states: 68 per cent of India's aggregate illicit capital loss occurred after India's economic reforms in 1991, indicating that deregulation and trade liberalisation actually contributed to/accelerated the transfer of illicit money abroad. It is in this background that the source of transfers needs to be discussed. Their timing, size and direction in recent years suggest that corporate players are likely to be involved.

Seeking quick gains

Thus, a feature of the new liberalised economic environment seems to be that private players begin to look for ways in which state influence can be exploited for quick and substantial economic gain, sometimes at the expense of the state exchequer. A concomitant is an increase in the instances of alleged corruption. While sectors such as real estate and mining are obvious examples of how this can occur, the number of such instances is larger and more varied. But this feature of the new environment tends to be missed. A sudden increase in the wealth of an individual can be as much an indicator of business acumen as of the misuse of power or the violation of law for profit. But in a world where profit-making and the accumulation of wealth are celebrated and rewarded, where it is the bottom line that finally matters, unless circumstances lead to the detection of fraud or a violation of the law, there is no needle of suspicion when wealth is accumulated rapidly and in large measure. An increase in the wealth of a private sector player is normally seen as a virtue and a reflection of entrepreneurship and innovation.

This does limit the degree to which the problem of corruption can be addressed. If corruption tended to be embedded in the process of accumulation it is expected that it would be far more present than would otherwise be the case. Whenever allegations of corruption emerge because of leaks triggered possibly by corporate or political rivalry, controversy ensues and investigations begin, but little of significance results.

The nature and functioning of the law is such that the investigations drag on for such a long time that public attention wanes and is in any case diverted to new instances of corruption. This makes the demand for better ways of investigating and awarding punishment in proven cases of corruption eminently sensible. But this alone will not do.

What is required is a change in the policy regime that legitimises the conversion of the state into a site for the primitive accumulation of capital. Also required is caution when celebrating evidence of quick and substantial enrichment of sections of the private sector.

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