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Licence raj creates privileged industrialists, workers while the real work is done by unorganised labour

Tuesday 21 February 2006, by GUPTA*Shekhar

Raghuram Rajan, the youngest person to be appointed chief economist at the International Monetary Fund, has won acclaim for his prescriptions on how to ?save capitalism from the capitalists’. In a conversation with Shekhar Gupta, Editor-in-Chief of ?The Indian Express’ on NDTV’s ?Walk the Talk’, he explains why India needs to encourage competition and reorient the government’s role

? In the age of pundits, age is a necessary qualification. But not for someone as talented as my guest this week. At the age of 43, chief economist at the IMF, Dr Raghuram Rajan, welcome to ?Walk the Talk’. Let me mention a fact most people don’t know, that even before you turned 40 the American Finance Association had acknowledged you as the one to have contributed the most at that age to the theory and practice of finance.

Yes, it did.

? And wonderful to have you at your alma mater, IIT, Delhi.

Yes, it’s a wonderful place.

? You have come to India at a very interesting time. IMF is one of the many dreaded three-letter words in the city.

I think we have a reputation problem as far as India goes. We get far too little credit for how much we have contributed to where India is now. I think the IMF was with India during the great liberalisation of 1991. Much of what you see in terms of growth these days has its roots in that liberalisation. India negotiated a very good programme with the IMF, which helped spur this process of reform; obviously it was Indian-owned.

? It was a very dirty word at that time: conditionalities...

But there were conditionalities that were owned by the Indian government and you don’t hear of the IMF being responsible for the great movement in the ’90s because it was the Indian government which took charge. I think it helped... what you see nowadays, this wonderful growth in India, is because of that.

? Even the wonderful arrival of these international brands, IITs, IIMs, which unfortunately some parts of our government are now trying to destroy.

I do think the IITs and IIMs have contributed a great deal to India’s progress.

? Recently the HRD ministry tried to prevent IIM, Bangalore from setting up a branch in Singapore.

Yes, I found that quite surprising.

? But what’s their brand worth if they cannot stretch overseas?

That’s right. But it is also important to stretch internally. I firmly believe we shouldn’t have seven IITs. We should rather have 50. Yes, we are trying to upgrade the regional engineering colleges to national institutes of technology. We need far more than that.

? If you look at the 2000 who get selected, the gap between them and the next 10,000 is just 2 per cent. And that could be a case of somebody having a bad day.

But there is something else I think which is very important. In a process of growth, we have a lot of value added in skill-based industry - pharmaceuticals, IT, automobiles. So, we have created an economy which is a first world economy in a third world country. We need to supply this economy with its inputs - education, technical education. I think there is a danger of running out of these input skill bases in this country, which is why we need to allow higher education to expand on a war footing to eliminate the licence raj in higher education.

? How do you do that?

First eliminate the immense thicket of regulations. For example, we have allowed foreign institutions to be in India but with a set of conditions or conditionalities. As a result, we don’t see MIT in India. Why is MIT in China and not in India? Why aren’t we welcoming Yale, Stanford to set up institutes in India? People are hungry for higher education.

? But there is a popular belief that India is awash with skilled manpower. All it needs is opportunities to employ them.

There is one simple metric. Look at the wages of skilled workers, especially workers that firms want. You see them going up astronomically in the last few years. And then you hear these international organisations - Hewlett Packard, Microsoft - each one saying, “I want 5000 more, I want 10,000 more.” Where are these people going? Clearly, it is a sign of our success that they want to come here. But we are going to produce the outputs and that means we have to increase our private sector. Certainly there is a lot of private sector involvement, but are we producing the right quality?

? So do you agree with those of us who think we’re heading for a trap in the sense that if we grow at 8 per cent, you might have a growing industry starved of skilled manpower, and yet we have millions of graduates who are unemployable?

If you are growing at a very high rate, you quickly reach the limits of your infrastructure and input base. And therefore there is a lot of concern that you attach to providing those inputs at an adequate level. What do you do about those millions of graduates who are not employable in these institutes springing up? We have to find ways of training them.

? At a time when the government is not hiring them as clerks or peons.

Absolutely. You need to think about training. Corporations are doing a lot of training. Infosys, for example. You have to make that possible across the board, which means sometimes giving incentives. A corporation which trains a person is going to add to his human capital. It is not necessary he stays there. He can go elsewhere but that’s adding value to the nation, not necessarily to a corporation.

? Do you think this government is too caught up on literacy, primary education, mid-day meals?

Let me put it this way. It was long due that we emphasised primary and secondary education, as you know India has over-emphasised tertiary in the past. But that does not mean that we under-emphasise tertiary now because our over-emphasis on tertiary has created an industry which relies on the skill-based tertiary education that we had.

? Coming from the dreaded IMF, you have no real difference with the way this government has raised resources for education, like additional cesses?

I don’t have an ideological problem with that. We need to invest more in education. It is high priority for a number of reasons, including the fact we can get more political awareness from people when they are educated. We need to increase the quality of our human capital.

? Does something in the political discourse or economics worry you?

I think there is a lot of emphasis given not only on the education front but also on the infrastructure front, on resources; resources are just one part of what is needed. Incentives are the other, and much bigger, part. For example, you can build buildings for teachers to come and increase their salaries. But they still may not teach. You need to give them incentives to show up. This often implies the whole gamut of involving parents to monitor the teachers, parents demanding from the teachers, empowering the parents, especially poor parents, in some sense to demand that they get an adequate education for their children.

? Why has India gone wrong on power? Why have we always faltered? Almost like power supply in your house, it fluctuates, up and down and boom!

You know this better than I do but part of the problem is that we have built vested interests in the power sector. Take the whole distribution issue. Some people are getting power for far less than it costs - whether they steal it or are given free.

? And they are not necessarily the poor.

They are not. In many cases, the poor would have been happier if they got something, even if they had to pay a price for it. At the moment, some are not getting the drinking water that they should. Now, they would be willing to pay a price, a far higher price for what they get than what the middle class does. There are so many people who are getting (services) without paying the right price.

? Reading your book Saving Capitalism from the Capitalists, I first of all thought that this should be compulsory reading not only for our capitalists, or semi-capitalists or Marxists, but particularly for our reformists. One fascinating passage is when you talk about subsidies where you say, you just use subsidies to create human shields for vested interests. You insure firms, not people.

Absolutely. In a strong capitalist economy, what should happen is that the firm should go out of business and that means it lays off workers. Workers should not go out of business. Workers should have a safety net, which allows them to survive while they look for jobs, allow themselves to retrain themselves possibly, and get new jobs - in the new opportunities that are created by the old ones releasing resources and by the growth that is created. What do we have in most statist economies typically? Firms are not allowed to go out of business and the workers don’t have a safety net. Which is why they then start demonstrating, not allowing the firm to go out of business, and they create the political support for this whole process for retaining the firm.

? The bad entrepreneur benefits.

Absolutely, because he stays in business no matter how incompetent he is.

? And workers have the satisfaction of having their jobs even if the entrepreneur cannot pay the wages.

Right. But they have jobs where they are not fully utilised. They get stuck in a sort of bad equilibrium. How do you change this? My sense is you need a safety net, at the same time creating flexibility. This is much easier to do for a rich economy than for a poor economy where you will be able to create the safety net for few people (rather) than creating it for the entire economy.

? If you were in Dr Manmohan Singh’s or Chidambaram’s shoes, how would you convince people who doubt the very idea of reforms or free flow of capital?

Clearly, these are very smart people. You have to first convince them that the market economy works and I think you want to point at what’s been happening over the last 20 years. How fast, how far we have come, from the 3.5 per cent rate of growth to a much higher rate. It has all been possible because we have liberalised. You see disparities. But they are because earlier we were forcing people to grow at the same rate, sort of preventing every opportunity. We opened and allowed people freedom; we saw some states growing at tremendous rates - Gujarat, Tamil Nadu. Others have not done so well. Disparities are increasing because you have allowed people to make full use of their capability.

? West Bengal is growing now.

Because it is doing the right things, its chief minister knows this is the way to grow. The point is, we are growing fast. Had we not been growing at 7-8 per cent, do you think we would have the image in the world that we now have? We are being clubbed with China. Look at the Internet. We are able to lift far more people out of poverty because we are growing at such a rate.

? One problem with the Left - not just the Left, the socialist mindset in India, which is very strong in the Indian DNA - is the suspicion of capital. Because the whole idea of socialism is that somebody who lends money against collateral security then exploits him, sucks his blood.

What the Left is against is monopoly capital. That is also what the liberals - people like me - are against. We are against monopoly. But we argue the statist economy almost invariably creates monopoly capital. The licence raj creates privileged industrialists, who occupy the commanding heights of the economy along with the public sector. It creates privileged workers who occupy privileged positions while the real work is done by the unorganised labour. So the point is, privilege is created by restrictions on competition. What we are striving for is a far more competitive structure which creates opportunity. So what you want is to strive for equality of access - to the market, education, capital. If you have that, you have got the best ability to make use of the opportunity, and they are inter-linked. If I have access to a student loan, I can work my way through college, however expensive it may be, as I have my human capital.

? That’s the better choice than reducing the fees in colleges.

Exactly. Because if I am paying through my nose for college, I don’t sit outside drinking tea while the lecture is going on.

? Do you see the nature of capital and capital flows changing, because you seem to have great faith in capital markets.

No, by no means are they perfect.

? If they were, they’d only go up always!

No, they’d go up and down on news but they would not enter a country en masse and exit en masse, leaving behind a great depression. No, they aren’t perfect but countries have to be savvy about how and how much external capital they absorb. They have to understand that if the rest of the world is saying they are very beautiful, it does not necessarily mean they are beautiful. You can be queen for a day, and then capital can leave.

? So what is it that you are recommending to the Government of India now because so much external capital is flowing in, a lot of it FII money, hot money.

Capital is flowing in but I think it puts even greater pressure to get the macroeconomic situation in the country straight, which means, first, for example, think about the fiscal deficit. If you have a very large fiscal deficit, it creates fragility in the economy, for a variety of reasons. We want to use our government resources far better in creating things that only the government can create, such as creating social infrastructure which is harder for the private sector to create. Those are the things the government should be focused on. The government should not necessarily be in the business of banking or iron and steel, which the private sector can produce. We need to refocus.

? A very interesting debate nowadays is the tax-GDP ratio. Because the criticism of the Left - it sounds legitimate - is that as the economy has grown with reforms, our tax-GDP ratio has gone down. The Left has come up with a 13-point charter that talks about things like inheritance tax, which you have talked about in your book. It talks about a larger capital gains tax, about taking away many of the exemptions, tax breaks for exports, for example. What is your prescription?

I am very wary of taxes that impinge on economic activity. What we need to raise taxes for is if we can find legitimate expenditures that we need to undertake. The first step in the course of action is to look at illegitimate expenditures and cut back on them.

? Like what?

Subsidies going to the wrong places.

? I feel the entire subsidy structure of India is built by the upper and middle classes who rob from the poor.

Or, to rob from those who don’t pay taxes and pay those who pay.

? Well, who uses LPG? The poor don’t.

I think there is a big issue in India to retarget the subsidies to the right place. Obviously, the people who get it, if they are not the legitimate recipients, they have a strong vested interest to fight this tooth and nail. As a result, they create political constituencies who will serve them.

? You know when someone from IMF talks of cutting subsidies, people immediately talk of Stiglitz, and the mistakes IMF has made in many parts of the world. Then you are getting into really troublesome territory.

I am not aware that we made mistakes in Africa. We have a lot of successes which people don’t talk about. Brazil, most recently, repaid us. We helped it in the time of crisis. And Brazilians are very comfortable with the fact that they went to the IMF. Even Brazilians under Lula. But IMF has the reputation that it’s mostly fiscal. We often demand cuts in subsidies where bureaucrats and their pensions account for a significant chunk of government expenditure, leaving behind the poorer section. Now when you ask countries to cut, they don’t cut. Going back to what you said earlier, they don’t cut subsidies for the politically powerful classes, they cut them for the weaker section.

? They already preserve what’s theirs.

Exactly. Indonesia, for example, did it right this time when they increased fuel prices. They offered direct monetary support to the poorer sections and then elevated the prices. Again, why should we subsidise petrol prices? That’s the worst thing to do because then people use more petrol than they should. They should face the true cost of petrol, of cooking gas, of everything. Pass through the prices but subsidise it for the poorer sections, so that they are genuinely helped.

? You were talking of pensions. Have you been looking at the pension debate in India which has now got stuck? US pensioners are fine with the Indian markets but not the Indian pensioners.

Yes. I think you need to invest pensions fairly widely to put them on a suitable footing. Which includes Indian equities and of course, over time, Indian funds should be allowed to be invested abroad, so that there is a well-diversified portfolio and if, God forbid, something happens to the Indian markets, their pensions are still safe as they have some investments abroad. In general, we need to think about the sustainability of government pensions and whether the future generations can afford to pay off the increasing burden to government pensions. Also we need to think about private sector pensions to make sure the people have some kind of security. Because over time, as the economy becomes more market oriented, we will have upswings and downswings. We will have people losing their jobs, and they need protection. Otherwise, as we talked earlier, they will want their firms to be protected in order to keep their job.

See online : The Indian Express

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