There is nothing wrong with food subsidy, but everything is wrong with energy subsidy

As we approach the General Elections in the coming year, Montek Singh Ahluwalia, Deputy Chairman, Planning Commission tells DSIJ about the importance of looking out for warning signals in the economy, the need to have a consensus on good policy rather than serve populistic ends

When you tap huge foreign investment, there is always a great risk of capital flow reversal triggering a financial crisis. We have already seen the impact of the US tapering bluff on the Indian markets. What is your take on this? Do we have any other choice? 

We are not relying too much on the foreign capital system, as we had an investment rate of say 34 per cent. Ideally, the Current Account Deficit has to be at 2.5 per cent, and if it has been higher, we have to bring it down. Even if it is 2.5 or 4 per cent, that’s not a huge reliance of foreign capital. 

The other issue that you are talking about is that because you running a global economy, you have to be periodically willing to admit the possibility of the exit of capital. So, you should keep your exposure to a level, which is manageable. 

I think our earlier CAD was too high. We are trying to bring it down and will succeed. Despite having the exposure at a manageable level, there is still a possibility of volatility, but you should be able to manage that volatility. That is why we have to understand what these signals are. 

First, there are signals that corrective action is needed. The international capital is not totally irrational, so if it is moving out, there has to be an assumption that we have weakened somewhere compared to the other countries. Quite frankly, the presence of warning signals is little bit like running a temperature that tells you something is wrong. So, I am not in favour of attempting to insulate the economy completely, though you should never create a situation that you can’t manage. 

If you have large enough reserves, have flexible policies. If you are keeping your eyes on the ball, I think it can be beneficial to have some exposure, rather than not to have any exposure.

Do you think there can ever be a consensus, even if tacit, among political parties about some populist measure that should be avoided whatever be the exigency? Or are we talking utopia? 

As an economist, I always hope that underneath the natural competitiveness of politics, a consensus on good policies builds up. Even with the day- to-day fighting, deep down people know what is sensible for the country. But around the world, very often you get locked into things that are very difficult to get out of. Essentially, the institutional maturity of the system should put a limit to really bad populism. Otherwise, what is to stop someone from saying that all prices will be reduced by 50 per cent? The reason they don’t do that is that people won’t believe it beyond a point. 

I think we need much more informed judgment. If you are going to promise huge expenditure, then you should tell the public how you are going to finance it. Merely saying that we are going to increase this expenditure and not telling people about the ways to finance it is actually not telling the whole story. But the political process should ask that question, and that is what not being done because we don’t have a sufficiently mature set of institutions. 

There is bad and good populism. Can you state your views on which populist measures are irreversible and permanently bad? 

The term populism is used very loosely. Most people think that any scheme that gives benefits is called a responsible welfare state action and any scheme which you don’t like termed as populism. The fundamental point is that there must be a welfare element to any decent society, particularly to a society like ours where the people’s needs are high.

Also, we are running a democratic system, so people must have a sense of what they are able to get out, but the system must be run in such a way that you can deliver it without disrupting the economy. For example, I have been saying all the time that there is nothing wrong with food subsidy, but everything is wrong with energy subsidy. 

Well, we have said that quite clearly in the plan. First of all, the tax ratio has been falling. I’m not talking about raising the tax rates, I am saying just go back to the same tax ratio that we had in 2008 and you will get two percentage points more of GDP. So, we have to ask ourselves why is it that with the same tax rate, the ratio to the GDP has fallen. This is bad tax administration, and we should be able to convince people that they have to improve the tax administration.

There are many ways of doing that. Very often, simplifying tax rates, things like moving towards GST, etc. will help to raise resources. Equally, there are many dysfunctional subsidies, subsidies where there are lots of leakages, energy subsidies that we should get rid of. We need to make our subsidies much more targeted.With all these things, we will get more resources to do what we want. I repeat that there is no case for the energy subsidy. 

If tapering starts in due course in the US, given the internal and external pressures, though we have seen some consolidation has happened in rupee, do you think the rupee has bottomed out? 

First of all, I don’t think tapering will start any time soon. My guess is that even if they (US) do a taper, it will be very gradual and will probably not happen till 2014. Secondly, due to the shock of what was announced earlier in terms of tapering, the rupee did depreciate. In fact, it depreciated overly and has now corrected itself. So, I think we are now in a much more realistic range than we were three-four months earlier as far as the exchange rates are concerned. 

More importantly the effect of the signal to reduce the CAD has clearly had an impact on the rupee. The Finance Minister is very concerned about the fiscal deficit, and is giving the right signals. Furthermore, some of the domestic supply constraints which were preventing growth, especially the restrictions on large infrastructure projects are being overcome. If that happens by the time the taper begins, perhaps there will be some more positive news about the Indian economy and we will be in much stronger position to deal with it. 

I think there are reasons to believe that even when the taper starts, we may not necessarily have the same impact. Some of this impact is due to nervousness, and is already reflected in the market. When they go in for a taper next time around, it will not be a shock. In fact, markets have already been expecting it. Nobody really knows, but I am really hoping that there will not be a problem. 

Does it mean that the recent volatility in the rupee is due to sentiments rather than based on concrete reasons?

Absolutely! As you know, sentiments and shock are really important in the capital market. Remember, many people play the market, and it is very often in the interest of players to try to create panic, so a lot of people might be selling the rupee short and buying it long to make money. I think when this has happened once, the market will take it with greater stability next time around. It won’t be a shock as people have been expecting a taper for such a long time. 

Post the 2008 crisis, economies like India had a really great opportunity as the global economy was really in a bad shape. Do you think that we have somehow missed that bus? 

I don’t think so at all. As you said, the global economy has been in bad shape after 2008. We were also adversely affected by it, but even at five per cent we are doing a lot better than most of the countries. I personally think that what happened in India is partly the result of global shock and partly the result of some domestic constraints that we have to address.

Domestic constraints often arise as they are not always easy to anticipate. The real test is when you see the nature of a constraint, do you take action? We are taking action. So, I don’t think people will be judging the UPA II’s performance on the basis of the last one year, and more than that, we shouldn’t be basing it on the last one year by comparing it to the previous years or regimes. Even in pre-UPA II periods, the lowest growth rate was worse than five per cent, so why we so negative about it. 

We have heard different renditions of looking at growth rates in the tenures of different governments. What is your view on this? Can growth trends be looked at independent of government tenures, or is it impossible to do that? 

Of course there are different ways of comparing India’s growth. Some people look at it by plan period, some look at it by decade and some people look at it by different government regimes. Even within a government regime, policies evolve – it is not as if only one policy lasts in one regime. However, in a democracy, when governments and political groups compete with each other and when economic performance is one dimension of competition, looking at performance in terms of different political regimes makes logical sense. 

The truth is that in economic performance, a lot of potential is built up of long-term factors. In such a situation, some government policy does have an impact in the short term and some impact is in the longer run, which is less obvious. For example, UPA II has given a lot of emphasis to education. The positive impact of this is only going to be felt after 2015-16, when the children get into the labour force. In that sense, comparing the performance and linking it to the regime is always possible and is a legitimate thing to do. I think any political regime would be happy to be judged by the average performance over its entire period.