Revamping the Income Tax Appellate Tribunal

The solution to delays could very well lie in prioritizing and scheduling the workload properly

The recent demonetisation is aimed at reducing the extent of black money—money on which tax should be paid, but is not. The government seems keen to bring in other stringent measures to address this menace. Such stringent measures would either result in more people voluntarily paying taxes and assessment volumes rising, or the income-tax department may improve its enforcement capacity to check tax evasion. Either ways, the tax administration and adjudication infrastructure will face increased workload. Unless they are well resourced, the government’s noble initiatives will hit an implementation bottleneck.

Indian tax administration and adjudication needs urgent reforms. The latest World Bank Doing Business Index ranks India 172 out of 190 countries on the “Paying Taxes” parameter. Even this metric is based on only the first-level appeals—from assessing officers to commissioner of income tax (appeals) [CIT(A)]. And, as the Parthasarathi Shome Committee has pointed out, in about 75% of the cases, CIT(A) rules in favour of the tax department. The mechanism through which citizens have re-course against excesses of the Indian tax administration is the Income Tax Appellate Tribunal (ITAT), which is not considered in the World Bank rankings.

ITAT is an independent tribunal dedicated to direct tax litigation. Stringent actions by the income-tax department would translate into more appeals to ITAT. If ITAT is not adequately resourced, this potential deluge of cases may affect its performance. This is troublesome as an independent appeals mechanism is necessary to ensure impartial decisions. To adequately resource ITAT, it is important to first know what is its current performance. Unfortunately, like most other Indian courts and tribunals, ITAT’s performance has not been studied in detail.
Our recent study seeks to provide deeper insights on ITAT’s current performance. We analyse the caseload and disposal rate of ITAT. We use publicly available data from cause-lists published by ITAT, and rulings available on Indiankanoon.org. This gave us details of around 500,000 hearings over 39 months (January 2013 to March 2016) of 126,000 cases and around 28,000 rulings. Analysing its workload and functioning gives us novel insights into ITAT’s performance.
ITAT operates across 21 cities with 105 members. Each city has one or more benches. As of July, ITAT had on an average about 880 cases pending per member (September issue of the journal of the All India Federation Of Tax Practitioners). In the busier benches (Mumbai and Delhi), we find that the probability that a case will not be solved within one year of filing in Mumbai is 80%, while in Delhi it is almost 95%. Focusing only on solved cases, we find that the ITAT takes on an average 36-48 months to resolve a case. This compares favourably with the five-six years taken on an average across the subordinate courts in the country.
Most of the cases (47% of all hearings and 49% of rulings) pertain to appeals filed against regular assessment orders under Section 143(3) of Income Tax Act, 1961. Amongst records where other relevant details are also available (such as international tax matter, search and seizure), it appears that cases pertaining to assessments for undisclosed income (search and seizure, block assessment, etc.) are common (12% of all hearings and 9% of rulings). These are the cases where the tax department claims to have unearthed income which was not voluntarily disclosed for taxation. The volume of cases is likely to increase if the government is serious about reducing tax evasion. Unless ITATs are resourced to handle this sudden increase in workload, the average time taken for disposal of cases may see a sudden increase from the current 36 to 48 months.

So how can ITAT’s performance be enhanced? Commonly suggested remedies include increasing the number of judges or the number of benches to deal with increased caseload. However, our analysis suggests that while a minimum level of infrastructure is important, merely increasing the number of benches or judges is unlikely to deliver better results, as cities with similar numbers of benches and members exhibit very different performance levels.
We also find that cases pertaining to same sections filed within one or two days of each other end up having very different time trajectories. We find no noticeable difference in the time taken for disposal between various subject matters. An interesting aspect is the fluctuation in ITAT’s activities across benches across the year. For instance, the highest number of pronouncements in Mumbai (24% of its yearly pronouncements) happens in May, while for Delhi it is March (14%). January to March have 30% of the yearly listings. In Kolkata, about a third of all cases listed in a year are in March. Clearly, ITAT does not function uniformly throughout the year (much like many other courts in the country).
This suggests that solutions to delays in ITAT could very well lie in prioritizing and scheduling the workload properly. Although ITAT is a specialized court, there are variations in the complexity and urgency of the cases that come before it. Therefore, it may be useful to frame rules on how different types of cases would be prioritized.
This analysis is just a beginning. Various other parameters need to be considered. For instance, qualitative aspects of rulings, factors influencing them and most frequently litigated subject-matters would all be useful in deciding the policy strategy for improving India’s tax environment. More studies like these will help identify the exact institutional weaknesses in tax administration, improving which could help improve India’s abysmally low ranking on the “Paying Taxes” parameter in the Ease of Doing Business Index, and ensuring that citizens have access to an independent and impartial appeals mechanism.

Why the CSR law is not a success

The Companies Act 2013 requires large (above a specified threshold level) firms to spend 2% of their net profits on corporate social responsibility (CSR) projects. This law came into effect in April 2014. The results on CSR expenditures by firms in the fiscal year 2015-16 were released recently. It is certainly true that Indian firms collectively are more than complying with the CSR law. According to Prime Database, Indian companies spent Rs9,309 crore on CSR projects in 2015-16, which was Rs163 crore more than the amount required by law, and Rs703 crore more than the previous year.

The general reaction in the Indian press has been positive and suggests that the CSR law has been a success. However, the CSR law is only apparently successful, and in reality is harmful.
The problem is that reported expenditure on CSR projects is not a good metric of societal welfare. These numbers overstate the effect of the law. It is not clear whether firms have really increased their CSR spending after the law compared to what they were spending voluntarily before the law, because CSR spending was not well reported historically. There is some evidence that while firms that were initially spending less than 2% increased their CSR activity, but those that were initially spending more than 2% reduced their CSR expenditure. Another possibility is that firms spent money on CSR activities that also lead to increasing firm profits, such as inculcating goodwill and good public relations. There is evidence indicating CSR spending leads to brand building and employee engagement. In that case, firms would have carried out these activities with or without the law.
Even if we take the CSR expenditure at face value and assume these are valid numbers, there are still major problems with the CSR law. A required expenditure that does not lead to higher profits is essentially a tax. The CSR law can be viewed as a 2% tax, albeit spent by the firms rather than given to the government. This is a back-door way to increase corporate taxes without a transparent political debate. The corporate tax rate in India is 34.61%—already one of the highest, compared to a global average of 24.09%, according to KPMG, an audit and consulting company. Given the emphasis on liberalization and economic growth, it is unlikely that the Indian polity desires an increase in the corporate tax rate. This certainly will not help to make Indian firms more globally competitive nor attract more foreign investment into India.
Even to the extent that there has been a real increase in socially beneficial activities, the spending has not gone to democratically determined priorities, but rather to whatever the companies prefer to emphasize. Of the nine different schedules prescribed by The Companies Act, two schedules: combating various diseases and promotion of education accounted for 44% of the total CSR expenditure, while reducing child mortality received no funding and eradicating extreme hunger and poverty received only 6% of the total CSR expenditure. Given that about 50% of children in India are malnourished due to pervasive poverty, it is unlikely that the above allocation of resources reflects the democratic will of the Indian people. It is the government’s responsibility to determine high-priority needs of society and target public expenditure in these areas. With the CSR law, the government has abdicated one of its primary functions.
There is also an issue of geographic equity. Five states: Maharashtra, Gujarat, Andhra Pradesh, Rajasthan and Tamil Nadu account for well over one-quarter of all CSR spending. Towards the bottom of the list are Nagaland, Mizoram, Tripura, Sikkim and Meghalaya—all from the NorthEast. This, of course, reflects the inclinations, interests, and priorities of the business sector. But, it is the responsibility of the government to help achieve a more egalitarian society.
CSR is a controversial idea with many executives, academics and officials on both sides of the issue. Thus, it is not surprising that the Indian law does not clearly define CSR for the purposes of expenditures. The law lists only a few genres of CSR activities: “eradicating extreme hunger and poverty”, “promotion of education”, and “social business projects”. This is much too vague to work as a legal definition. It is not surprising that the law does not even discuss, let alone define, an enforcement mechanism or penalties for non-compliance.
The CSR law is inherently contradictory. CSR is fundamentally an inspirational exercise, and it is very difficult to legislate aspirations. Laws only set minimum standards, but do not create an impetus for positive action. For example, it would be difficult to require that companies build “excellent” schools; the legal requirement can be met merely by spending money on education.
Inequality in India, which was already high, has increased even more. The CSR law does not go far enough in reducing inequality and helping the disadvantaged. Without a coercive enforcement mechanism, it is unlikely that the law will result in widespread compliance and real effectiveness. In other words, “required” CSR will remain largely voluntary, but give the illusion of progress. This is “greenwashing” on a national scale!
India is the first country to require companies to expend resources on CSR. There is sound logic behind why other countries have not done this, and India should not either. THE BILLION PRESS

Without a coercive enforcement mechanism, it is unlikely that the law will yield effective results

The Companies Act 2013 requires large (above a specified threshold level) firms to spend 2% of their net profits on corporate social responsibility (CSR) projects. This law came into effect in April 2014. The results on CSR expenditures by firms in the fiscal year 2015-16 were released recently. It is certainly true that Indian firms collectively are more than complying with the CSR law. According to Prime Database, Indian companies spent Rs9,309 crore on CSR projects in 2015-16, which was Rs163 crore more than the amount required by law, and Rs703 crore more than the previous year.

The general reaction in the Indian press has been positive and suggests that the CSR law has been a success. However, the CSR law is only apparently successful, and in reality is harmful.
The problem is that reported expenditure on CSR projects is not a good metric of societal welfare. These numbers overstate the effect of the law. It is not clear whether firms have really increased their CSR spending after the law compared to what they were spending voluntarily before the law, because CSR spending was not well reported historically. There is some evidence that while firms that were initially spending less than 2% increased their CSR activity, but those that were initially spending more than 2% reduced their CSR expenditure. Another possibility is that firms spent money on CSR activities that also lead to increasing firm profits, such as inculcating goodwill and good public relations. There is evidence indicating CSR spending leads to brand building and employee engagement. In that case, firms would have carried out these activities with or without the law.
Even if we take the CSR expenditure at face value and assume these are valid numbers, there are still major problems with the CSR law. A required expenditure that does not lead to higher profits is essentially a tax. The CSR law can be viewed as a 2% tax, albeit spent by the firms rather than given to the government. This is a back-door way to increase corporate taxes without a transparent political debate. The corporate tax rate in India is 34.61%—already one of the highest, compared to a global average of 24.09%, according to KPMG, an audit and consulting company. Given the emphasis on liberalization and economic growth, it is unlikely that the Indian polity desires an increase in the corporate tax rate. This certainly will not help to make Indian firms more globally competitive nor attract more foreign investment into India.
Even to the extent that there has been a real increase in socially beneficial activities, the spending has not gone to democratically determined priorities, but rather to whatever the companies prefer to emphasize. Of the nine different schedules prescribed by The Companies Act, two schedules: combating various diseases and promotion of education accounted for 44% of the total CSR expenditure, while reducing child mortality received no funding and eradicating extreme hunger and poverty received only 6% of the total CSR expenditure. Given that about 50% of children in India are malnourished due to pervasive poverty, it is unlikely that the above allocation of resources reflects the democratic will of the Indian people. It is the government’s responsibility to determine high-priority needs of society and target public expenditure in these areas. With the CSR law, the government has abdicated one of its primary functions.
There is also an issue of geographic equity. Five states: Maharashtra, Gujarat, Andhra Pradesh, Rajasthan and Tamil Nadu account for well over one-quarter of all CSR spending. Towards the bottom of the list are Nagaland, Mizoram, Tripura, Sikkim and Meghalaya—all from the NorthEast. This, of course, reflects the inclinations, interests, and priorities of the business sector. But, it is the responsibility of the government to help achieve a more egalitarian society.
CSR is a controversial idea with many executives, academics and officials on both sides of the issue. Thus, it is not surprising that the Indian law does not clearly define CSR for the purposes of expenditures. The law lists only a few genres of CSR activities: “eradicating extreme hunger and poverty”, “promotion of education”, and “social business projects”. This is much too vague to work as a legal definition. It is not surprising that the law does not even discuss, let alone define, an enforcement mechanism or penalties for non-compliance.
The CSR law is inherently contradictory. CSR is fundamentally an inspirational exercise, and it is very difficult to legislate aspirations. Laws only set minimum standards, but do not create an impetus for positive action. For example, it would be difficult to require that companies build “excellent” schools; the legal requirement can be met merely by spending money on education.
Inequality in India, which was already high, has increased even more. The CSR law does not go far enough in reducing inequality and helping the disadvantaged. Without a coercive enforcement mechanism, it is unlikely that the law will result in widespread compliance and real effectiveness. In other words, “required” CSR will remain largely voluntary, but give the illusion of progress. This is “greenwashing” on a national scale!
India is the first country to require companies to expend resources on CSR. There is sound logic behind why other countries have not done this, and India should not either. 

Koushal judgement and three years later

Koushal judgement and three years later
The most insidious effect of Section 377 is to warp the relationship between the State and the citizen
The framers of the Constitution gave us an Indian Supreme Court with greater powers than any other court of its time. It was a court that the poorest person in the land could approach. For most of its existence, the court has lived up to that promise. Often it has not.
Roughly three years ago the chief justice’s court in the Supreme Court was packed with people. The court was to pronounce on the correctness of the Delhi high court judgement, which had held that Section 377 of the Indian Penal Code did not criminalize adult same-sex consensual sexual relations. There was an air of expectation because in recent years the Supreme Court was often seen as a protector of individual rights. All those expectations were dashed when the court read out its verdict in what has come to be known as the Koushal judgement. The Delhi high court judgement was overruled and homosexuals had once again become criminals in their own country.
The reasons behind the judgement were made available the same day. If there was any solace to be had for cogent constitutional reasoning, that hope too was dashed. The judgement was premised on a misplaced deference to Parliament. The court held that if Parliament had made a law, the courts were required to have a hands-off approach. They were to presume that any law was constitutional.
It seems that the court forgot that Section 377 was never enacted by the Indian Parliament. It had been enacted in 1860 by the British Parliament and thrust upon the Indian people without any public discussion or debate.
Equally, the idea of judicial deference to Parliament seems puzzling. Any reader of a newspaper today would be aware of judicial activism. Judges do, as indeed they should, take the government to task on a daily basis. The entire premise of judicial review embodied in our Constitution requires that independent judges protect the constitutional rights of the minority against the possible tyranny of the majority. If any law violates any constitutional provision, let alone a constitutional right, it must be struck down. Indeed, Justice G.S. Singhvi, the author of the Koushal judgement, had himself struck down provisions of the Delhi Rent Control Act, 1958 which gave protection to tenants occupying commercial premises. Perhaps property rights were seen to be more precious than personal liberty.
Three years on, the Koushal judgement continues to be “good” law. It is true that the Supreme Court has given other, more progressive, judgements such as the one recognizing the rights of transgenders. There are also curative petitions and other writ petitions pending that seek a reconsideration of the Koushal judgement. Yet, the judgement has not been stayed or modified and hence holds the field even today.
It is often said that Section 377 has little relevance as it is rarely enforced. Such a view is deeply mistaken. A provision need not be formally enforced when the mere threat of its enforcement can have a chilling effect. There are multiple instances of police and other authorities threatening the invocation of the provision for the purposes of extortion. Affidavits were filed by many persons in the Supreme Court at the time of the hearing of the Koushal case detailing the custodial horrors they had undergone when they had been jailed for suspected violation of Section 377.
Yet the most insidious effect of Section 377 is to warp the relationship between the State and the citizen. In criminalizing the sexual act felt most natural by a class of people, the Section seems to disallow a citizen the freedom to live life to the fullest extent guaranteed by the Constitution. The State has today told us whom we may not love. Tomorrow it may tell whom we have to. The Section also violates basic norms of private sexual conduct. Today the State has been permitted to enter into one bedroom. Tomorrow it may enter all of ours.
Three years have passed since the Koushal judgement was pronounced. Countless Indians found courage in the Delhi high court judgement decriminalizing sodomy to come out and be proud of themselves. The LGBT (lesbian, gay, bisexuals and transgender) community is made up of people some of whom have grappled deeply with themselves, their identities and their families to have the courage to come out of the closet. The Supreme Court judgement has knocked the belief that at least one pillar of the Constitution would always fight for their corner.
The Supreme Court today enjoys a formidable reputation amongst the public. It would do well to remember that this reputation does not stem from how the court rules today. The court today is basking in the reflected glory of its illustrious former judges. The past judgements of the court guaranteeing Constitutional protection to the neediest has given the court the sheen it has today. Regressive judgements only threaten that reputation. The Koushal judgement may yet be overturned, but its presence on the law reports does no service to the court.
It can only be hoped that the court would find time in its busy docket to take up and overrule the Koushal judgement. The hundreds of thousands of people in the closet are waiting for the court to unlock them and guide them to freedom.

Leveraging the sun to power India’s future

Leveraging the sun to power India’s future
This solar power sector has enormous potential but many challenges lie ahead as well
In 2014, when Prime Minister Narendra Modi first placed solar energy at the core of the energy mix that would fuel India’s economic growth, scepticism abounded: how will the government deliver? Isn’t the target of 100 gigawatts (GW) of solar energy, later revised to 175GW of renewable energy, by 2022, too ambitious? Also, isn’t solar energy expensive? How will India’s poor afford it? Just about two years later, the answers are emerging—slowly but steadily.
This past Friday, the Solar Energy Corporation of India (SECI) called for bids to install 1GW of rooftop solar power projects on central government buildings—its largest tender yet in this segment. India is already home to the world’s largest single-location solar power plant which has been set up by the Adani Group at Kamuthi in Tamil Nadu. The 648 megawatts (MW) project, built in a record time of eight months, dislodged California’s 550MW Topaz Solar Farm in September to secure the top spot and propel India past the 10GW total capacity threshold.
Indeed, huge advances have been made in the past few years—in terms of solar energy specifically and renewable energy in general. According to a Bloomberg New Energy Finance report, the solar sector has had an impressive compound annual growth rate of 59% in the last four fiscal years and its installed capacity at the end of the FY2016 was pegged at 6.8GW. Similarly, the share of renewable energy in India’s total energy mix has also increased from 12.5% in FY2013 to 14.1% in FY2016. Yes, this also shows how fossil fuels still make up the majority of India’s energy basket but let’s not ignore how quickly renewables are catching up. With a cumulative CAGR of 15%, renewables are growing at a faster rate than coal power plants, which are increasing at 12.5%.
Now, place this against the backdrop of India’s large untapped renewable energy potential—according to the government-developed India Energy Security Scenarios, India can achieve 479GW of solar power and 410GW of wind power by 2047—and it is possible to see how, if India plays its cards correctly, solar and other forms of renewable energy may eventually drive economic growth. Specifically, India seems to be on track to achieve its Intended Nationally Determined Contribution, promised as part of the Paris pact to fight climate change, to get at least 40% of its total installed power from non-fossil fuel sources by 2030.
In terms of pricing, SECI breached new frontiers yet again in November with a record low tariff offering of Rs3 per unit. The winning firm at the reverse auction—Gurgaon-based Amplus Energy Solutions Pvt. Ltd, which will be installing a total of 14.5MW of solar rooftop plants across the country—has promised these rates specifically for Uttarakhand, Himachal Pradesh and Puducherry. At one level, low tariff offering doesn’t come as a surprise—this figure has been consistently falling since 2010 when it was pegged at Rs17.91 per unit; over the past few years, it had somewhat stabilized at about Rs5 per unit when the US-based SunEdison, one of the world’s largest renewable energy firms and which has now filed for bankruptcy protection, shook up the market in late 2015, offering to sell power at Rs4.63 per unit to win NTPC Ltd’s contract for a 500MW solar park in Andhra Pradesh. Months later, in January, Finnish company Fortum FinnSurya Energy Pvt. Ltd went a step ahead and quoted Rs4.34 per unit to secure the contract for 70MW solar plant at NTPC’s Bhadla Solar Park in Rajasthan.
What these low rates now mean for consumers is that solar energy, which until recently was too expensive for large-scale use in a developing country, is now on track to compete with cheap fossil fuels. Today, India’s cheapest electricity tariff is at around Rs1-2 per unit. This rate is for the farm sector which is followed by the residential sector and then the commercial sector. But while these are of course promising figures, there is still a long way to go. The low tariffs, for example, are a double-edged sword. Driven by aggressive bids from firms desperate for a toe-hold in this sunrise sector, they have fuelled concerns about viability and project financing, especially for those below the Rs5 per unit threshold. SunEdison, in fact, has put its India assets on the block (some of which were incidentally picked up by Amplus).
Moreover, India still has to make available the necessary capital for developing renewable energy infrastructure—the former Planning Commission had estimated under the 12th Five Year Plan that more than a trillion dollars will be required—and it will have to work every option on the table (from domestic industry to international donors) to fund this turnaround. Similarly, several structural issues in the distribution of power need to be addressed. India’s installed capacity of 275GW is already in excess of its demand of 140GW. Yet, there are still parts of the country where there is no electricity while in many others, power cuts are the norm. This is due to a variety of factors such as coal supply shortage, transmission losses and the poor health of power utilities.
As renewables enter this mix, they will have to be integrated into the existing system and structure. As a NITI Aayog expert group report notes, “A probable re-engineering of institutions, the redefinition of policies, the re-tuning of power systems, and the replacement of old habits with new ones” will be required. This fundamental re-structuring of the country’s power and energy infrastructure will be its biggest challenge.
Can India achieve its solar power targets?

Costs and benefits of the currency swap

Costs and benefits of the currency swap
Has the govt prepared for the costs of its decision and done its homework on logical next steps to help India leapfrog to the next stage of development?
It is little over a month since the Prime Minister made his announcement on the withdrawal of specified banknotes (SBN). This is the terminology that the Reserve Bank of India adopts on the exercise that has been underway since 9 November. The costs appear disruptively high and are almost impossible to estimate given the size and scale of the cash-dependent (but legal) economy and geographical breadth of the country. So, experts who thought that the disruption would be transient and scant and that the government decision had a significant upside to the economy with little downside are changing their minds. Now, they feel that the wealth effect (loss to the hoarders) could be transient and scant while the costs of disruption are significant and enduring.
As much as the government, the critics too are also struggling to evaluate it intelligently. For example, there is a suggestion that nothing would have been lost if the government had given enough time for people to change their SBNs. The phase-out could have been set for 31 December and simultaneously a voluntary income disclosure scheme announced. Hoarders would have paid the government the discount on the wealth that they offer in unofficial exchange of SBN for other forms of wealth. This overlooks some basic human behavioural traits.
| How demonetisation has impacted key sectors
Once a date is set, the SBNs become hot potatoes. Holders would want to drop it immediately. In practical terms, the date would be effectively the next day or the next week. Further, a friend pointed out that it would have come as huge inflationary shock for the economy as every commodity and asset would have suddenly skyrocketed in value against money that would still have been available to chase them. The urban middle class could be unhappier than it is now and the move would end up being a political disaster too.
There is another problem with that suggestion. To give more time for people to adjust might be putting pragmatism ahead of principle—the principle that the immorally acquired wealth should not be given an official free pass. Further, given all the changes happening—such as information technology advances, Aadhaar, goods and services tax and benami transaction Bills—the government would have felt confident that they would stem the future generation of black money and hence decided not to give a free pass to the current stock of black money.
Regardless of whether one is comfortable viewing this exercise through the morality prism, the withdrawal of SBNs is about creating a disincentive for future black money creation in any form (“if they can come after my cash like this, they might come after my other forms of black wealth”). It intends to send a signal to many middle-income earners and self-employed professionals, used to transacting in cash, to get out of that habit.
Of course, the criticism is not confined to chaos and currency shortage but extends to potentially serious economic disruption. Jahangir Aziz of JP Morgan made this point in a recent event in Singapore on the withdrawal of SBNs. Some businesses cannot be competitive unless they operate in a cash environment. If they went formal, costs of compliance—official and unofficial—would rise so much that their businesses would no longer be viable.
The share of the informal sector employment in India at 83.6% is the highest in the world. Quite possibly, almost all of the enterprises in the informal sector operate on a cash basis. The disruption to their business model could be both severe and permanent. Their livelihoods threatened, they could fall below the poverty line. Conceptually, it sounds like a serious issue but orders of magnitude would be needed to assess the severity of the situation. Apart from that, a bigger question remains. No other country of India’s size has such a huge informal sector.
Alex Tabarrok, cited by Niranjan Rajadhyaksha in his thoughtful column (The persistent poverty of the Indian state), makes an important point that many other Indian critics have missed out: India taxes its high-productivity sectors while its low-productivity sectors aren’t. India has no micro, small and medium enterprises (MSME) in manufacturing. Only micro. They constituted nearly 95% of registered MSME manufacturing enterprises. There is a near one-to-one mapping between micro and proprietary enterprises. No surprises, therefore, that employment per unit had come down from 12 (first census) to 6.2 in 2006-07 (fourth census). Units that operate without electricity constituted 40% in the third census and 71.2% in the fourth census.
There is considerable comingling of informal enterprises with black money and cash. Manas Chakravarty has underscored this (Narendra Modi’s great leap forward). Can India really contemplate meaningful and sustainable economic progress with such a large proportion of informal enterprises dominating production? India’s economy is stagflation-prone because of the extreme fragmentation of production in factories and farms.
Crises and the law of unintended consequences combine to produce changes that cause societies to leap ahead to a different era. Otherwise, we would not be living much differently from the hunter-gatherer generations. The question is whether the government was prepared for the costs of its decision and has done its homework on logical next steps such as the above, to help India leapfrog to the next stage of development. That is the subject of the next column.

The churn in economic policy thinking

The several flaws of the Bretton Woods system of international cooperation exposed after 2008 need to be addressed

Policy economists are going back to the drawing board. The anaemic global recovery more than eight years after the North Atlantic financial crisis has led macroeconomists to either seek new prescriptions or revive old ones to get economies back on track. The political backlash in many parts of the world against inequality within nations—even as inequality at the global level has reduced because of the progress in China and India—has forced new discussions on development policy.

Exhibit A: The December issue of the Finance and Development quarterly published by the International Monetary Fund has several discussions about the distributional consequences of free trade. One underlying theme in these essays is that world trade has increased global welfare at the aggregate level but there has been no structured attempt to compensate the losers in order to ensure that nobody is worse off—the classic Pareto principle of welfare economics. This comes even as the multilateral lender has altered its position on a range of other issues such as the efficacy of fiscal spending or capital account convertibility. Japan has even been asked to toy with an incomes policy to deal with its weak consumer demand, a policy option that was last seriously considered way back in the 1970s.

Exhibit B: Thirteen of the best development economists in the world have this month released a statement in Stockholm outlining the new contours of development policy. This group includes four former chief economists of the World Bank, and three Indians—Kaushik Basu, Ravi Kanbur and Ashwini Deshpande. They begin by arguing that rapid economic growth is needed to spread opportunity as well as generate resources to fund social objectives. The Stockholm statement by these development economists stresses the need for programmes to address inequality, climate change and inclusive growth. One of the most interesting recommendations is to focus on social norms to build the sort of trust that is found in successful economies.

These are two of the most recent examples of fundamental rethinking about the goals of economic policy. It is important to recognize the risk of maverick politicians across the world throwing the baby out with the bathwater. For example, rising protectionist sentiment in many rich countries could threaten the open global trading system that has been the bedrock of economic progress. Similarly, it is hard to see how the poor can benefit when there is no macroeconomic stability because of reckless fiscal and monetary policies.

The problem in recent years has been one of overreach. Free trade agreements have been replaced by more ambitious attempts to harmonize regulations, protect the rights of investors and guarantee intellectual property—not the sort of issues that traditional free trade advocates would have argued for. In international macroeconomics, the Bretton Woods goal of current account convertibility was replaced by a push towards capital account convertibility to benefit the financial sector.

The new intellectual initiatives are undoubtedly welcome. Economic policy thinking has to keep up with the times. It has to develop new ways to deal with old problems. However, it is also important to get the basics right. There is irrefutable evidence that the biggest gains against global poverty have been made when markets allocate resources, trade barriers are low, taxes are stable, private property is protected, rules are more important than discretion and there is macroeconomic stability. What needs to be done is more explicit focus on issues such as inequality, climate change and skills.

The global system is now at an interesting juncture. This system was put in place after the terrible episodes of protectionism, macro instability and economic stagnation led to the slaughter in a world war. The Bretton Woods system of international cooperation segued the second wave of globalization after 1990, as the Soviet Union collapsed and countries such as China and India joined the world economy. There have been several flaws in this system that were exposed after 2008, but the economic progress as well as the improvement in social indicators during this period cannot be ignored either.

The backlash against globalization in many rich countries presents a profound challenge to the framework of global institutions. It is now imperative that countries such as China and India step up to the podium to protect the global system that has helped them make such dramatic progress over the past 25 years—and at the same time take a more active part in the ongoing intellectual churn—a modernsamudra manthan—that should hopefully lead to a new policy consensus.

Where did the Bretton Woods consensus go wrong? 

Preparing for Policy Implementation 3.0

The eradication of polio in India was a remarkable achievement. The government implemented a universal immunization programme aimed at 100% coverage of children under the age of 5. A standard dose of vaccine was given to every child across the country including remote villages. It was a huge logistics operation.

Though right now India’s logistics management capabilities are being severely tested to deliver new currency notes to banks and ATMs around the country, India’s ability for “Policy Implementation 1.0”, which requires management of large logistical challenges, is remarkable. The country has the ability to carry out a standard procedure in millions of locations, many in very difficult conditions. It conducts the world’s largest elections, bringing electronic voting machines even to remote places in the high mountains. The issuance of unique, electronic identity cards to all Indians—the Aadhaar project—was the latest illustration of the country’s logistical capabilities in implementing a public policy.

Policy Implementation 1.0 can work well when one size fits all—the same dose of the same polio vaccine, the same procedure for voting, the same identity card. However, many public policies require something in addition to the ability to deliver a standard product or carry out a standard procedure across the country. They require “Policy Implementation 2.0” capabilities, to change behaviour of citizens and obtain cooperation of communities. An example is sanitation. Large programmes for installing toilets have not been able to change behaviour to eradicate open defecation. Public health programmes invariably require better local governance, rather than central delivery of services. India’s persistent neglect of local governance capabilities is the principal reason for public health in India lagging behind China, Vietnam, Thailand, Indonesia, and many other developing countries.

More complex changes in the economy require coherence amongst many policies, coordination amongst many agencies, and cooperation of many stakeholders. They require even more sophisticated “Policy Implementation 3.0” competencies. Industrial policy is an example of a 3.0 level policy challenge. As in the case of Policy 2.0, the behaviour of stakeholders must be changed—in this case, entrepreneurs. However, several conditions in the economy must be changed together to improve conditions for enterprises to be productive and to attract more investments into the economy. Physical infrastructure must be improved. An array of regulations and institutions must be tuned concerning labour management, corporate governance, land acquisition, and other subjects. Often, financial institutions need change too.

The complexity of Policy Implementation 3.0 generally provokes two opposite responses. One is, “just leave it to the market”. The market will figure out what is best. The other response, when large-scale change is required, is to use a top-down implementation approach.

When the market is not working, or when the market is not producing the outcomes society wants, citizens demand that the government must act. This is the challenge for many ideologically pro-market governments today. In the US and the UK, for example, citizens are demanding that their governments must do something to create more jobs by inducing more production within their countries. Therefore, the need for some form of “industrial policy” has emerged in these countries too.

The opposite response, to leave it to the market, is central planning. This approach was adopted by many countries, including India, for industrial development following the example of the Soviet Union. Central planning down to the last level—how much of what will be produced by whom—was basically a Policy Implementation 1.0 approach applied to a Policy 3.0 challenge. With contradictions in regulations by many ministries and departments, and with further regulations attempting to sort out the contradictions, Indian industrial development got tied up in knots of red tape. Entrepreneurship and innovation were stifled.

In 1991, India threw out central planning of industry. Industrial policy became a bad word following the fashion of the Washington Consensus which urged governments to leave industrial development to the market. That has not worked too well for India either. Manufacturing has not grown as much as it should have considering India’s need for more jobs outside the agricultural sector, and considering the potential India had, which was comparable to China’s, whose manufacturing sector has grown since then to seven-eight times the size of India’s.

So India is at the crossroads again. What approach should it take to create more jobs? Jobs cannot be planted into the economy top-down by the government (except jobs on government’s own rolls). A jobs policy must stimulate changes in behaviour of entrepreneurs, employees, and investors. To do this, it must make many changes in many areas in a coherent and coordinated manner. It must apply a Policy Implementation 3.0 process.

Policy Implementation 3.0 requires participation of many ministries and agencies, and many stakeholders. The agencies have their own turfs and tend to operate in their own silos. Coordination amongst them is generally difficult. Stakeholders in a jobs policy, such as employers, unions, environmentalists, landowners, and communities, will have contending views on many matters. To bring them together, to convert the confusion amongst agencies into coordination, and the contentions amongst stakeholders into collaboration, requires the application of systematic processes for their participation in the shaping and implementation of policies.

Policy Implementation 3.0 requires a different mindset towards management of complex systems, as well as different competencies than Policy Implementation 1.0 (or even 2.0). India’s progress will not be as fast as it could be, and needs to be, until governments at the Centre and in the states change their approaches to development and implementation of policies. Less top-down control; more systematic participation. In fact, a principal role of the Centre must be to build capabilities at various levels of governance, in cities, in states, and in the Centre itself, for participative policy formulation and implementation.