In Search of the Holy Grail

For many years, no party has had as powerful a hold on the seat of power as the Congress does now. Its position and the current environment allow it to implement what it set out to do under Indira Gandhi nearly three decades ago.

Of course, the context has dramatically altered. For one, there is now a unique convergence of interest between the government and big business. The government’s socialist agenda has been embraced by big business and the elite; it is now fashionably called “social inclusion”. The process of opening up to private capital begun by Indira Gandhi is no more stealthy. It is an open declaration of intent. Finance minister Pranab Mukherjee made it clear in his budget speech on July 6 — the aam aadmi is now the focus of all government programmes and the private sector will take the lead in generating growth..
While there is consensus on the need for social sector spending, there are worries over where the money will come from. Says Rajya Sabha MP and former RBI governor Bimal Jalan, “That is a problem area. That is a balancing act that the government will have to do.”

In an exclusive interview to Karan Thapar in CNBC-TV18 hours after his budget speech, Mukherjee himself admitted that the strategy is not without its share of risks. “I am not gambling. I am taking a calculated risk to have demand-driven growth by injecting money in the system.” He is banking on the big ticket government spending stoking rural demand, which in turn will help push up the growth rate. Mukherjee said, “Please remember that whatever has been achieved during the last five years, the key to that is 8-9 percent average growth rate which led to the tax-GDP ratio substantially high which has provided substantial elbow room to the government to come to the aid of the needy sections.”

Politics of Poverty
Some would say Mukherjee is plain lucky. For the first three decades after Independence, the Congress steadfastly followed a Nehruvian pro-poor, socialistic economic policy — arguably with little success. During most of that period, the country remained one of the slowest growing nations in the world and the majority of its people were languishing in extreme poverty and inequality.

Towards the end of the Seventies, the environment, both external as well as internal, was changing and when Indira Gandhi came back to power in 1980 after two years of unstable Janata Party rule, she was quite convinced that the thinking had to change.

“The previous government had messed up. Externally, the Cold War dynamics were changing. China was changing. Development literature was also growing. Internally, protection was not benefitting the people. Mrs. Gandhi understood and recognised that,’’ says Bimal Jalan, the former RBI governor who was then chief economic advisor to the government. For those who think economic reforms started only in 1991, this may be surprising, but the seeds of change were planted in the early Eighties by Mrs. Gandhi.

Politically, however, change was a challenge. It was difficult to move away from its left-of-centre positioning overnight. It required someone as politically astute as Indira Gandhi to figure the way out. Change would be so slow that it would be imperceptible. Explaining the political background to her changed outlook in the essay Politics of Economic Liberalisation in India, Atul Kohli, professor of politics at Princeton University and chief editor of World Politics, says that after 1980, it was clear to Mrs. Gandhi that her socialism was not working and anti-poverty programmes were not successful. “The support she was getting from the poor, therefore, was based not so much on concrete rewards, but primarily due to her ideological and rhetorical appeal. This rhetoric she knew she could maintain, while watering down the overall socialist programme.”

Stanley Kochanek, professor emeritus, department of political science at the University of Pennsylvania and author of The Congress Party of India, says that by the late Seventies a series of reports had concluded that the Indian economy had to become more open. “The Dagli Commission noted the adverse consequences of controls. The Narasimham Commission noted the need to expose the economy to competition and reduce controls. Finally, the Abid Hussain Commission focussed on the need for expanding trade,’’ Kochanek says about the growing literature that built up the case for liberalisation.

He says that the economic re-orientation was apparent, as, by the early Eighties, Indira Gandhi had replaced her leftist advisors such as D.P. Dar and P.N. Haksar with more liberal advisors, including P.C. Alexander, L.K. Jha and Manmohan Singh. Many influential combinations were also first created during those last years of Mrs. Gandhi. Pranab Mukherjee became the finance minister for the first time in 1982, and soon Manmohan Singh was appointed governor of the Reserve Bank of India. Current Deputy Chairman of the Planning Commission, Montek Singh Ahluwalia, was then advisor to the finance minister.

It was clear that socialism was gradually becoming a mere veneer. In 1984, finance minister Pranab Mukherjee announced that India would not use a $1 billion IMF loan, which was the last tranche of a five-year, $5 billion package negotiated after the oil shock of 1979. One of the reasons to terminate the agreement was to preempt IMF conditionalities. The changes the IMF would have asked for, however, became part of policy. “These changes were incorporated into the Sixth Plan and called for greater deregulation and a more pro-business policy,’’ says Kochanek. Mukherjee declared it the “year of productivity”, raised production caps in several sectors, and allowed NRIs to invest in Indian firms. That year, he was voted as one of the best five finance ministers in the world by Euromoney magazine.

This was perhaps also the time when businessmen managed to get a foot in the door of policymaking and wield greater influence. “Traditionally the business community in India has had a limited but disproportionate say in the making of economic policy,’’ says Kochanek in an essay on business-government relations.

That the business community’s influence was growing was evident when the administration clamped import restrictions in the 1983-84 budget, most of which had just been lifted two years before. “If one ever needed evidence to support the claim that the primary commitment of the Indian state at this time was to established Indian businesses rather than to any general principle of creating free markets and a global opening, here it was,’’ says Kohli.

A Burst of Liberalisation
The sudden end to the Indira Gandhi era offered a unique opportunity to her son and successor Rajiv Gandhi, who took the prime ministerial chair with the most comprehensive people’s mandate India had ever seen. The Congress had a brute majority: 403 in a Lok Sabha of 542 members. Being relatively new to politics, he came with little baggage and an entirely new team of advisors, many of whom, like Arun Nehru, Arun Singh and Sam Pitroda, were from the corporate world.

The team set about in right earnest shifting to a liberal form of development, removing restrictions to industry and freeing technology import. However, it did not last. The government got mired in the Bofors gun scandal and Rajiv Gandhi’s political capital eroded.

Economic liberalisation during the Rajiv Gandhi years was piecemeal and halting for various reasons, though the shift away from socialism to liberalism was decisive. Gandhi and his advisors had also underestimated the opposition it would have from their own partymen; a large section of the Congress itself was against the policies pursued by Rajiv Gandhi.

Pranab Mukherjee, Indira’s trusted lieutenant and a congressman to the core, had fallen out with Rajiv Gandhi and left the Congress to form his own party. In fact, in Off the Track, a collection of essays published in 1987, Mukherjee took apart the economic policies of the government.

“The change is not merely visible but quite prominent in its sharpness and character. The question is whether this change is in the best interests of the country,’’ he wrote.

Pointing a finger at the regime, Mukherjee said, “The present rulers in Delhi do not believe in the core of their heart the very basic economic philosophy of the Congress Party… Socialism, secularism, democracy, sovereignty and unity of this great country are cherished objectives of every Congressman and woman. But under the present Prime Minister’s leadership, the Congress is deviating from its chosen path very fast.’’

In his criticism of the government, Mukherjee stresses on the pace and sharpness of reforms. A person who knows Mukherjee closely says that he believes in gradual change.

“Pranab does not believe in revolution, he believes in repeated evolution,’’ he says. However, Rajiv Gandhi completely missed the point that his mother had understood instinctively.

The Congress’ defeat in the next general elections proved that the Rajiv Gandhi government failed to understand and mitigate the political impact of radical change. In spite of various reforms such as the introduction of the modified value added tax, the government failed to retain the massive political capital it had inherited in 1984. “Rajiv’s period has to be seen as a transitional period... The real reformer was Narasimha Rao,” says BJP leader Arun Shourie.

It took another two years and the mess created by two motley coalition governments to return the Congress to power and provide Narasimha Rao with the most important excuse of the century to begin what can only be described by the cliché paradigm shift.

New Wine in Old Bottle
Narasimha Rao became prime minister in 1991 almost by accident. Using the balance of payments crisis of 1991 (India’s foreign exchange reserves had fallen so low that it could barely pay for two weeks imports), Rao pushed his finance minister Manmohan Singh to break out of socialist shackles and open up the economy. While Singh is regarded as the architect of India’s economic liberalisation, many credit the political will of Rao as the moving force behind it.

“Rao was not bold enough to initiate reforms suo motu. He used the breakdown in the external account to change (the economy),’’ says Arun Shourie.

At an awards function in Mumbai a few years ago, P. Chidambaram, the current home minister, recounted how Narasimha Rao bought acceptance for the policy within the party. Manmohan Singh presented the draft of the liberalisation road map to the prime minister. Narasimha Rao read the whole draft and told him to add a paragraph on the contribution of Jawaharlal Nehru, Indira and Rajiv Gandhi to India’s industrial development.

The tenth paragraph in Manmohan Singh’s Budget of 1991-92 reads: “Thanks to the efforts of Pandit Jawaharlal Nehru, Indira Gandhi and Rajiv Gandhi, we have developed a well-diversified industrial structure. This constitutes a great asset as we begin to implement various structural reforms…’’ The pain of change was thus eased.

Arun Shourie says, on his own, Manmohan Singh would not have taken those measures to liberalise the economy. “After 1993, Rao was embroiled in the JMM bribery scam. Manmohan Singh continued to be finance minister but the reforms stalled,’’ he points out.

The Business Interest
Liberalisation met with little resistance in the beginning but gradually the din of protest, especially from big business, rose. “Initially, the reforms survived because of the widespread belief that there was no other alternative. Once the economic crisis had passed, however, the business community began to raise numerous objections. For a variety of reasons, many sectors of Indian business and its associations were severely ill-equipped to deal with the competitive, market-oriented changes in economic policy,’’ says Kochanek.

Atul Kohli points out that if India’s economic growth was really a result of pro-market policies, there ought to be very few costs, only widespread benefits. India’s growth acceleration has, instead been accompanied by growing inequalities, concentration of ownership of private industry and nearly stagnant growth in employment in manufacturing industries.

“This evidence is more consistent with the view that the development model pursued in India since about 1980 is a pro-business model that rests on a fairly narrow ruling alliance of the political and the economic elite.’’

Industrialists themselves admit the state-business nexus. Rahul Bajaj, chairman of two-wheeler maker
Bajaj Auto, says, “Funding requirement of political parties does not allow them to be inherently anti-business. Earlier, politicians used to stay away from businessmen and accepted money on
the quiet. Now, businessmen are no longer considered persona non grata.”

He adds, “Some businessmen find it easier to make money in collusion with the state than in the free market. Where entry and prices are regulated by the government, money can be made with greater certainty. Hence, nexus between politicians and businessmen.”

In spite of the country having come a long way on the road to a liberal economy, the influence of businesses is apparent. For example, in the telecom industry, hectic lobbying by individual business interests has ensured that a clear spectrum policy remains distant.

“Corporate influence on economic policymaking is a central problem for the day after tomorrow,’’ says BJP leader Arun Shourie. “The reason it is a problem is that the corporate sector does not focus so much on policy reform. Each entrepreneur promotes his own interest.’’

No Reverse Gear
In its five years in power, the Narasimha Rao government threw open the doors of the Indian economy to international capital and removed the chains of Indian industry. It is anybody’s guess what would have happened to these economic policies if the government had fallen prematurely. That did not happen and the five years made sure that the process was almost irreversible. It gave the country a taste of fast industrial and economic growth and made sure that subsequent non-Congress governments tried to go one-up instead of going back.

While the first Manmohan Singh government of 2004-2009 was somewhat weighed down by the capricious support of the Left parties, it still managed to hang on to many of its open-door policies. His tenure also saw the revival of the socialist rhetoric, albeit with newborn acceptance among the business class, which saw the immense potential as ideas like management guru C.K. Prahlad’s bottom of the pyramid. If people earned more, they would buy more. Boom in sectors like business process outsourcing added thousands of aspiring youngsters to the consuming class, boosting sales of homes, automobiles and consumer durables.

While the Congress party could lay claim to have begun the economic reforms in the country, it had to now find a way to consolidate its position and bring back the voters who had deserted it over the years. So, during the past five years, it went back to its roots to revive its tried and trusted socialist policies. Unlike the Seventies, however, the government was rich enough to support high-cost employment generation and other social welfare schemes, thanks to the over 8 percent average growth in recent years.

The relatively successful social welfare programmes reinforced the power of the socialist model to attract votes.

After the electoral victory of 2009, the Congress Party is back in its skin. “There is a mix of socialism and capitalism. Socialism is now a goal. The major part of the work in the economy must be done by the private sector — both national and international — and the government should focus on ensuring that the benefits of the rapid growth reach the needy,” says D.N. Dwivedi, a former general secretary and current chairman of the Thought Division of the All India Congress Committee.

Back to the Future
The party’s new name for socialism is “inclusive growth”. It helps that the term has better worldwide acceptance. Even credit rating agencies whose narrow vision often catches only the state of public finances and fiscal deficit, acknowledge it.

James McCormack, Asia-Pacific head of sovereign ratings at Fitch, says that it does not matter if governments run high fiscal deficits while chasing development goals. “The tolerance level for fiscal deficits would be high if government spending is well-targetted and implemented. We consider long-term intangible benefits of policies while rating a country.”

The balancing act, however, will be tricky. As Edward Luce, Financial Times Washington bureau chief and author of a book on India, In spite of the Gods, says, the government knows that it has to push ahead with reform for economic growth. It also knows that chances of liberalisation bypassing a large section of voters are high. “It’s a dance between those two realities,’’ Luce says about balancing fiscal prudence with social investments.

So far, the Congress Party has played its political cards very carefully. The appointment of ministers — P. Chidambaram for home, Kamal Nath for transport, Anand Sharma for commerce and Kapil Sibal in human resources — shows a determination to get work done. However, the most important choice was of the finance minister. Even though the prime minister is believed to have favoured Montek Singh Ahluwalia, the party chose Pranab Mukherjee.

This choice not only shows the faith of the Gandhi family in Mukherjee, but also points to what the party wants to achieve. Mukherjee is known as a consensus builder and is friendly with leaders cutting across party lines, making it a bit easier to get bills cleared in Parliament. “Pranab is an ajatashatru [the one without enemies],’’ says Arun Shourie. “If he approaches anybody [with a proposal], the likelihood of it going through is very high.’’

International Experience
The balancing act that India needs to do to keep public finances healthy while embarking on massive state spending on social sectors, raises tough questions on the sustainability of the Congress’ prescription for economic growth. Europe’s “social market” model, whose cornerstone is high taxes and government-given welfare, is very difficult to introduce in India because it would be a huge political risk to raise taxes.

The other often cited growth model is that of China. However, the sustainability of the government practically running businesses as well as welfare is also being questioned.

“The Chinese model was sustainable in the 1980s but not the one driven by investments and public intervention now,’’ says MIT professor Yasheng Huang. “It is too dependent on the US and is worsening the imbalances in China.’’

Huang argues that contrary to popular belief, even infrastructure building does not necessarily have to precede economic growth. “In China, infrastructure was a result of economic growth and not the other way round,’’ he says.

He points out that in per capita income, India and China were at par in 1980. But in 1965, the average life expectancy of the Chinese was 12-14 years more than that of Indians. Similarly, China’s per capita income in 1985 was 1.5 to 2 times that of India’s. Its heavy investments — for political reasons not economic — in the social sector in the 1960s and 1970s laid the foundation for future economic growth.
Huang says when a country has to choose between social investments and fiscal prudence, it had better pick the former. “Social investments have the potential to increase supply down the road, which actually is deflationary in the long term.’’

Balancing Act
India’s finance minister too appears to have bet on it as he sharply raised state funding for food security, job generation and infrastructure building even while maintaining a benign operating atmosphere for business.

Of course, all this spending increases the risk to public finances. The finance minister has pegged the fiscal deficit at 6.8 percent. The combined fiscal deficit of the centre and states is estimated at over 11 percent. Even though deficit financing has more acceptance today, there could
be problems.

As Arvind Panagariya, economics professor at Columbia University, says, “If you have a very large public debt, continued high fiscal deficits are risky. India has a large debt. If spending is not cut, you can only pay it back by taxing the public more heavily or creating inflation and reducing the real value of the debt. If none of these options is exercised in time, the government will become insolvent, leading to a macroeconomic crisis of some sort.’’

Pranab Mukherjee has promised to get back to the targets set by the Fiscal Responsibility and Budget Management Act as soon as possible, but has left the timeframe vague. The current budget betrays a sense that the finance minister is hoping for the global economy to revive and Indian industry to pick up momentum by the time he presents his next budget. He is revising the direct tax code which should be ready by next year.

However, the sustainability of the Congress balancing act will really be tested only in the next few years.

For the moment, Mukherjee has the advantage of living in extraordinary times. It remains to be seen what he will do in ordinary times.

(Additional reporting by Udit Misra, Neelima Mahajan-Bansal & Shloka Nath)

A Must Read from our Budget Special Package:

1) Dregs in NREGS

2) Of the people, By the People, For the People

3) Supermarket Education

4) The Saviour

5) Nilekani's New Identity