Session Report
Aasthaba Jadeja
The IMPRI Impact and Policy Research Institute, New Delhi conducted an online spring school program, a one-month immersive introductory certificate training course, Fundamentals of Public Policy – Cohort 2: Awareness of Policies & Governance.
On Day 6 of the Fundamentals of Public Policy – Cohort 2: Awareness of Policies & Governance course, TK Arun ji, delivered a presentation on Political Economy and Public Policy in India.
TK Arun begins by stating that economic policy and political ideology are intricately linked. He sheds light on the rationale behind India’s adoption of a socialist model after independence, which is often misconstrued as simply copying the Soviet Union. In reality, this decision stemmed from a more practical concern – the limitations of India’s domestic capitalist class at the time. This nascent class lacked the financial muscle, experience, and technological expertise necessary to drive large-scale economic development. Building critical infrastructure like transportation networks and heavy industries was simply beyond their capacity.
Even pre-independence Indian business leaders envisioned a significant role for the state in establishing the foundation for a strong economy. However, for reasons of political expediency, the newly formed government chose to frame this pragmatic approach as an embrace of socialist ideology. While they avoided using the term “socialism” explicitly, they invoked the socialist label to legitimize concentrating significant economic control in the hands of the state.
Despite India’s independence nearly 75 years ago, the government’s ability to spend remains restricted. Taxes collected by both central and state governments amount to only around 17% of GDP, and total government spending is around 28% of GDP. TK Arun argues that this doesn’t contradict economic models. Regardless of the system (capitalist, socialist, etc.), developed economies tend to have higher government spending. This is because as societies become more complex with interdependent lives, there’s a need for collective spending on shared public goods and services. This collective expenditure naturally rises with increasing societal complexity, and it’s a trend observed globally.
India’s weak domestic capitalist class at the time of independence necessitated government intervention in development projects. The state stepped in with plans like building the Bhakra Nangal Dam, which served a dual purpose: providing water for agriculture and generating electricity through hydropower plants built across the country. This exemplifies the interconnectedness of politics and economics. National development needs compelled the state to invest on behalf of the underdeveloped capitalist sector. The government justified these investments by framing them as part of a “Social Stream of Development” for the public good.
Government-led development efforts faced a significant hurdle: limited financial resources. To address this, deficit financing was employed, a strategy that carries the inherent risk of inflation. In essence, the government was borrowing from future economic output. The success of this approach hinged on achieving rapid economic growth to service the debt accumulated through deficit spending. Without sufficient growth, the burden would ultimately fall on the public.
Beyond infrastructure development, the government also invested in public sector machine tool production, a critical component for fostering rapid industrialization. Furthermore, significant import restrictions were implemented. This policy aimed to shield domestic industries producing a limited range of consumer goods from foreign competition. The overarching objective was to cultivate the domestic market and provide a protected environment for nascent Indian industries to mature.
Mr. Arun contends that India’s initial economic development strategy wasn’t anti-capitalist or rigidly socialist. It was, in fact, designed to nurture a robust domestic capitalist base. The government provided the building blocks for a thriving private sector by investing in essential infrastructure. Additionally, they aimed to bolster purchasing power among the populace, fostering a middle class with disposable income to consume goods produced by these private industries.
Furthermore, the government established development financing institutions like IFCI, IDBI, and ICICI, along with UTI, to offer long-term loans to licensed industries. Funding for these institutions came from bonds purchased by banks. These banks were obligated to adhere to specific regulations, including a minimum investment in government bonds or similar approved bonds, to meet their “Statutory Liquidity Ratio” (SLR).
By making bonds from IFCI, IDBI, and ICICI SLR-compliant and offering slightly higher interest rates than government bonds, the government created an attractive option for banks. In essence, the supposedly “Socialist State” facilitated India’s private sector by providing essential infrastructure, investing in human capital through institutions like IITs and AIIMs, and nurturing a skilled workforce capable of driving domestic industrial growth. These skilled workers ultimately served the private sector.
Slogans like “Garibi Hatao!” (Eradicate Poverty) addressed a crucial issue for political success – poverty reduction. A strong middle class is essential for any political agenda to gain traction. Mr. Arun criticizes demonetization, a policy intended to curb black money, as a complete failure. The stated goal wasn’t achieved, as evident from the Enforcement Directorate’s ongoing efforts to combat black money. The true purpose behind demonetization remains unclear.
Official reports suggest demonetization shrunk India’s GDP by 0.5% to 1.5%. Many small businesses were devastated, and livelihoods were destroyed. Public support stemmed from the policy’s portrayal as an attack on black money. This strategy helped politicians position themselves as champions of the common people.
Interestingly, Mr. Arun argues that the BJP government, unlike others perhaps, exploited class divisions to garner support. They tapped into the animosity between the poor and the rich, and this tactic proved successful. Effective political strategies influence economic policies, and economic policies in turn shape the political landscape.
In the immediate aftermath of independence, India adopted a protectionist trade policy characterized by significant import duties across various goods. This strategic decision, driven by political considerations rather than purely economic ones, aimed to foster the development of a domestic industrial base by shielding it from established foreign competitors. However, this import substitution strategy necessitated a concomitant reliance on internal savings for capital mobilization and investment.
One method employed to achieve this objective was the manipulation of the terms of trade. In essence, this involved artificially inflating the prices of industrial goods relative to agricultural products. While this approach served to bolster nascent industries, it came at a cost: it effectively transferred wealth from the agricultural sector to industrialists, thereby exacerbating the existing impoverishment of farmers. This policy-induced hardship predictably fueled social unrest and agrarian discontent, manifesting in the form of protests and uprisings.
Leftist parties often criticize neoliberal policies for harming the economy, democracy, and political freedoms. However, TK Arun argues that this critique doesn’t hold true in India’s case. Here, the government continues to play a significant role in shaping economic policy and providing essential welfare programs. This approach helps maintain social stability and prevents unrest.
While slogans like “Gareebi Hatao” were used in the past, the government has gradually implemented various schemes aimed at rural development and poverty alleviation. These include infrastructure projects, employment initiatives, housing programs, and other social welfare programs. A key example is the Mahatma Gandhi National Rural Employment Guarantee Scheme, which guarantees 100 days of work for people in rural areas. This program offers financial assistance to those who truly need it, while also promoting manual labour skills development.
Farmer’s Protests
India grapples with frequent farmer agitations. Understandably, there’s public sympathy for these farmers, the “annadatas” or food providers of the nation. They yearn for less government control over their activities. The government’s response came in the form of new farm laws intended to offer farmers more freedom. However, simply changing laws is not enough to dismantle a policy framework built over decades.
A more comprehensive solution requires creating a new incentive structure. This would empower farmers to choose their crops based on market demands. Instead of focusing on surplus grains, they could be incentivized to grow oilseeds (currently imported), pulses, and other proteins. Additionally, diversification into high-value commercial crops like vegetables, coffee, grapes, and flowers could be a game-changer.
The government’s misstep lies in solely revising laws without offering alternative support systems. This flawed approach, combining bad politics and bad economics, fueled farmer agitations and ultimately led to the abandonment of potentially beneficial reforms.
Fiscal Deficit and Economic Growth
In India, both federal and state governments are subject to legal mandates for fiscal responsibility. These mandates typically target a fiscal deficit of 3% of GDP. While this specific target may seem arbitrary from an economic standpoint, it originated from the European Union’s founding treaty and has become a widely adopted benchmark.
However, a solely number-based approach to fiscal responsibility has limitations. A more critical factor for sustainable government borrowing is the relationship between economic growth and interest rates. Ideally, an economy should experience growth that outpaces rising interest rates. This scenario allows for easier debt servicing through the generated economic output. The primary concern with a high fiscal deficit arises when interest rates become so high that servicing the debt becomes a significant burden on the government’s budget.
Beyond the debt burden, a large fiscal deficit can create macroeconomic imbalances. When aggregate demand in the economy surpasses available production, it can trigger inflationary pressures or a large current account deficit, where imports exceed exports.
When private sector investment remains subdued, overall economic growth can falter. In such circumstances, the government may need to take on debt to finance essential investments that can stimulate economic activity. This approach, however, should be undertaken with caution and due consideration of the long-term implications of increased government borrowing.
Inadequate public spending during economic downturns, when private investment remains sluggish, can impede overall growth. Conversely, excessive government spending during economic booms, characterized by robust private investment, can lead to a detrimental competition for resources between the public and private sectors. Both scenarios represent an imprudent approach from both political and economic standpoints.
The domain of political economy extends beyond purely domestic considerations. Mr. Arun emphasizes on the influence of powerful interest groups on policy formulation. For instance, agrarian lobbies may leverage their political clout to secure policies that distort the agricultural sector. This can manifest in the cultivation of water-intensive crops in unsuitable regions, often supported by substantial subsidies for production and procurement. Such practices prioritize short-term political expediency over long-term investments in sustainable agricultural practices and productivity enhancements.
Global Forces and Economic Growth
TK Arun talks about the intricate relationship between global forces and economic growth, with a particular focus on developing economies like India. A noteworthy phenomenon has emerged in developed nations: a surplus of retirement savings managed by large pension funds. These funds have a pressing need to generate returns on their investments, often leading them to seek out productive assets in high-growth economies – a characteristic frequently associated with developing countries like India.
This dynamic presents a compelling opportunity for collaboration and mutual benefit. Developing economies like India yearn for economic growth, which necessitates significant capital inflows. Conversely, developed economies with aging populations possess an abundance of savings seeking profitable investment opportunities. To attract these crucial investment flows, India must present a strong case. It needs to establish a demonstrably effective track record of utilizing capital to achieve genuine and sustainable economic growth.
Beyond this core requirement, India must also prioritize the establishment of robust corporate governance structures. This ensures that the fruits of economic growth are fairly distributed, with investors receiving a just return on their capital through corporate profits. Finally, the implementation of credible and transparent financial reporting standards is paramount.
Geopolitics and AI in India
The world operates on an uneven playing field. The UN may function on a one-country-one-vote basis, but real power lies with a select few. The US reigns supreme, backed by allies in Europe and Asia. India falls somewhere in between, cooperating with the US to contain China’s growing influence.
This US-China rivalry forms the core of global politics and economic interactions. Events like the Ukraine war are secondary to this fundamental tension. India, wary of past experiences with technology sanctions after nuclear tests, needs to tread carefully. Strategic positioning and technological self-sufficiency are crucial to avoid future sanctions.
The future holds promise with advancements like Artificial Intelligence (AI). However, as Mr. Arun argues, the impact of AI hinges on a nation’s political economy. A society with empowered workers and a strong sense of community can leverage AI for progress. Conversely, those lacking these qualities risk being left behind by technological change. The way a nation structures its political economy will ultimately determine how well it adapts to these evolving realities.
Climate Change
The speaker highlighted the looming threat of climate change and its far-reaching consequences. Climate change poses a danger to everyone and will have a varied impact across different sectors. For instance, cities built along rivers risk flooding due to heavy upstream rains that overwhelm channels and cause banks to overflow. Additionally, climate change can trigger forest fires and heatwaves.
Mr. Arun further argues that political considerations can hinder effective responses to climate change. The Bhopal Gas tragedy serves as a cautionary tale. Here, Muslim communities were disproportionately affected and received inadequate compensation packages through a politically motivated Supreme Court settlement. The long-term health impacts, including potential cancer cases, were not adequately considered during the hurried compromise.
TK Arun is a Senior Journalist and Columnist based in Delhi.
Read more at IMPRI:
India’s Foreign Policy and Macroeconomic Frameworks
Women Empowerment: A Holistic Perspective
Acknowledgment: Aasthaba Jadeja is a Visiting Researcher at IMPRI.
