This slowdown is a fallout of liberalisation

As the economic slowdown begins to really hurt, the instinctive response has been to focus on the actions of the BJP government. This is perfectly understandable, given the destructive effects of demonetisation and the implementation of the GST. Yet, the focus on the government converts the debate on the economy into a BJP-versus-Congress game show. In the process, it ignores the fundamental structural impediments that are holding back the economy.

These impediments include those that resulted from policy responses to the challenges that emerged during the process of liberalisation. And, these impediments cannot be adequately analysed unless we step back from the mindset of the last three decades, where any critique of reforms is seen as necessarily being a step backward.

If we look beyond the short-term crisis management that goes for economic policy in India and trace the course of the economy during the 28 years since liberalisation, it is not difficult to spot the measures that have created the current impediments to growth.

Boosting competitiveness

In his 1991 Budget speech, Manmohan Singh had made a persuasive case for liberalisation. The foreign exchange crisis that had forced the country to quite literally pledge its gold was the result of India not being competitive in the global market. In order to improve the competitiveness of the Indian industry, it had to learn to compete with global products. Allowing foreign capital and products into the domestic market would help the Indian industry learn to compete, in an environment they knew better than their foreign competitors.

What followed was not quite in line with the original script. While the economy did move on to a higher growth path, it was not because Indian products became more globally competitive. What did become globally attractive, helped by a weakening rupee, was the cost of inputs.

India grew by offering a variety of inputs — from natural resources to manpower — that were used in the making of global products. The supply of natural resources was done without too much public attention, other than in pockets where the local population rose in protest. The supply of labour at a globally competitive cost was more visible, whether it was low-skilled workers in the garment industry or technological manpower in the IT sector. The Indian IT sector, in fact, quickly gave up its nascent hardware industry to focus on software. The resultant dependence on imported hardware contributed to the larger growth in imports.

Attracting global capital

With the growth rate of the economy being matched — and sometimes overtaken — by the rate of growth in imports, the pressures on the balance of payments did not quite disappear through increased exports. Instead, the economy became increasingly dependent on foreign capital. As foreign direct investment in industry was not growing as rapidly as the government would have liked, the emphasis was on foreign institutional investment (FII) in stock markets. The short-term nature of FII investment made it essential to continuously create conditions that would attract fresh investment into the stock markets. This, in turn, needed both structural changes as well as the continuous management of sentiment.

The structural changes were far-reaching. To make foreign investment in stock markets easier, conditions were created where it did not have to deal with multiple stock exchanges. Regional stock exchanges were shut down in favour of the National Stock Exchange. The Bombay Stock Exchange did prove to be too big to shut down, but the overall effect was the country had only two stock exchanges, both located in a single city. The preoccupation with creating single entities that would be easier for foreign investors to deal with extended to the tax regime as well. The case for a value-added tax was, without much debate, converted into an argument for a one-nation-one-tax GST.

Market sentiment was simultaneously managed by converting the complex process of transforming a diverse economy into symbols that would appeal to foreign capital, or more specifically, to international rating agencies. Typically, an issue was presented as being a major free-market reform. Each step towards it was then cheered by the rating agencies leading to a spurt in FII investment. Multi-brand foreign retail investment was one such reform. The then government even staked its survival on it. Once the legislation was passed, the rating agencies applauded and FII investment flowed in. It did not matter that the really major foreign multi-brand retail chains chose to stay out of the country.

Tapering investment

This approach to liberalisation created severe structural bottlenecks. The collapse of regional stock markets removed a route for locally known businesses to tap the capital market in different parts of the country. In the decade before liberalisation, these exchanges had played an underrated role in helping locally known businesses to develop into national industrial houses. It was common for businesses to come up with IPOs of just around ₹5 crore. The virtual closure of this route has contributed in no small way to the slowdown in investment.

The preoccupation with presenting India to the world as a single market has also had its costs. New investment has tended to move towards the locations in the economy that are already doing well. Successive governments have helped this process by trying to provide these metros global infrastructure. The costs of this exercise have been met, to varying degrees, by increasing the price paid by those using this infrastructure.

The low-cost labour from the economically backward regions of the country cannot afford to move their families into these high-cost centres. This has led to a substantial number of low-wage workers maintaining their families in their villages, as they themselves work in the cities. This dual existence has raised the cost of labour and eroded India’s low-cost advantage.

The preoccupation with global capital has also meant that there has been little effort to develop Indian capital to manufacture global products. The constraints on Indian competitiveness remain largely where they were before liberalisation. As India lost its low-cost advantage without gaining a foothold in the competitive space of higher-end products, a slowdown was always in the offing.

The writer is a professor at the School of Social Science, National Institute of Advanced Studies, Bengaluru

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