The levers of government
Business Standard, 1 February 2025
The world economy is in perilous waters. The three most important economic zones of the world are the US, China and the EU. The US is convulsed by a big decline in state capability, and is about to introduce important new tariffs, adding up to one of the largest economic shocks in world history. The unviability of the China model [EiE Ep16, The China model is broken] is staring in the face of a dogmatic Chinese state that will not change course. The EU faces a Russia problem which is analogous to what South Korea and Japan face with North Korea, but in Ukraine there is the biggest land war in the post-war world. India is a highly internationalised economy, and all this global turbulence will adversely affect us. Economic strength in India has never been more important.
When there is a strong backdrop of growth and economic success, we are more resilient, we are able to handle negative shocks. In a strong economy, the firms have the spare capacity of leadership resources and financial capital to reformulate business plans for the turbulent world. This is not a description of Indian firms today. For the large private non-financial firms that have released results for 2023-24 so far, the nominal sales growth was 6.5% (nominal). The growth of net fixed assets for the year was 6.55% (nominal). The highest priority for policy makers is to get these two measures (sales growth and NFA growth) to better values in 2025-26 and 2026-27.
While GDP measurement in India has many difficulties [Big Ideas Ep21 The problems in Indian official data], the estimated Indian GDP -- of around Rs.325 trillion in 2024-25 -- is perhaps in the ballpark. There was a time when initiating a new expenditure program of Rs.10,000 crore was big. But today, it's perhaps 0.03% of GDP. The revenue receipts of the union government are about 10% of GDP. The taxation and expenditure power of the union government is small when juxtaposed against the size of the economy. We can see a certain political logic around most paragraphs of the budget speech, but economic policy needs more than these pawn moves. The emphasis on projects and programs has limited effectiveness in creating economic growth; what matters is remedying all the ways in which the Indian state coerces private persons, where fear has been created which makes private persons cautious.
There are also limitations of leadership resources in policy making. Leadership lies in thinking strategically. It is the activity of developing situational awareness about the world, of analysing the world and your organisation, of changing your mind, and modifying the organisation in response to this reasoning. The headcount of persons in the union government who perform these roles is extremely small. Most of the activity of the Indian state is execution oriented; the ability to do strategic thinking is low. The pawn moves that pepper the budget speech induce a cognitive burden upon the small leadership cadre. They reduce the time and resources available for strategic thinking.
The political logic of the pawn moves is irrefutable. We can see why these words have to appear in the budget speech, to gain political mileage. What is required is the management mechanisms through which this less important work gets done while using about a tenth of the scarce leadership resource, that would free up time for strategic thinking and important policy projects.
It is instructive to look back at the 1991-2011 growth episode. This was made, in essence, out of policy work in four areas: macroeconomic stability, financial sector development, reduced government control and public goods. In each of these areas, the policy community of that age embarked on important new areas of work, drawing on the thinkers of preceding decades. Not all that work got done quickly, and many of those policy projects failed. The private sector was skeptical at first, for talk is cheap. From the budget speech of July 1991, it took years to spin up to a massive investment boom by 1995. By 1995, the private sector was impressed: here was an Indian state that was finally behaving in new ways. There was enough of a down payment of genuine reforms that private persons were persuaded to embark on the biggest ever investment boom of India's history, one that grew GDP by four times in 20 years.
We need to be strategic, to husband our policy reform resources, to devote energy into a few important areas that will materially impact upon the investment environment for private persons. A good shortlist is:
Tax policy reforms and the associated transformation of how the coercive power of the state is used in tax administration; The coercion of private persons through laws and regulators; The coercion of private persons in cross-border activity; Getting to genuine decentralised city governments; and Eliminating fossil fuels and adapting to a warming world. Significant progress in each of these areas, which envelop the Indian state in checks and balances with the rule of law, will materially change the outlook of private persons in India.
In each of these areas, a policy community is required, which will bubble with datasets, research, debate on rival policy proposals and concrete policy documents. The successes of the BJP government -- GST, inflation targeting, IBC -- were all derived from that kind of creation story [EiE Ep36 The long road to change]. Twenty such journeys need to be initiated, in the spirit of policy risk-taking, out of which a few will get through to fruition.
State capability changes very slowly. If a high capability in tax administration or a high capability in the government of Bombay is called for, these are 25 year journeys. However, the private sector does not require the government to get fixed quickly (e.g. through 1991-2011 the government was not fixed by the end). Policy makers need to show strategic sense, demonstrate the requisite intellectual capital, put down a sufficiently large down payment of reforms, and establish the teams and feedback loops through which a steady process of progress arises.
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