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In Praise of Economic Reforms

 In Praise of Economic Reforms Pulin B Nayak This book is about the reform process in the Indian economy initiated in 1991. This is a competent account and the reader stands to learn much from a close reading of the book. The sequence of events leading up to the start, and even the inevitability, of the reform process is well adumbrated. This is however not to say that one need straightaway agree with every nuance of the analysis that the authors have to offer. Though there are many who may claim to be the intellectual progenitors of the reform process it would perhaps not be incorrect to say that the two principals amongst them are the then finance minister Manmohan Singh and his political mentor and the then prime minister Narasimha Rao. There is no denying that the Indian economy at the beginning of 1991 was in the midst of a deep fiscal crisis as well as a payments crisis in the external sector. The fiscal crisis was the result of decade-long spell of extravagance in government expenditure, both at the central and state levels, running substantially ahead of available resources. The foreign trade sector was beset with poor showing on the export front coupled with rising foreign exchange outgo owing principally to sharp increases in oil prices.

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In Praise of Economic Reforms Reagan-Thatcher inspired acceptance of diverse shades of market fundamentalism.
China in the meantime too had embraced
Pulin B Nayak the market mantra from as early as 1978, with rather dramatic results on the

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his book is about the reform process in the Indian economy initiated in 1991. This is a competent account and the reader stands to learn much from a close reading of the book. The sequence of events leading up to the start, and even the inevitability, of the reform process is well adumbrated. This is however not to say that one need straightaway agree with every nuance of the analysis that the authors have to offer.

Though there are many who may claim to be the intellectual progenitors of the reform process it would perhaps not be incorrect to say that the two principals amongst them are the then finance minister Manmohan Singh and his political mentor and the then prime minister Narasimha Rao. There is no denying that the Indian economy at the beginning of 1991 was in the midst of a deep fiscal crisis as well as a payments crisis in the external sector. The fiscal crisis was the result of decade-long spell of extravagance in government expenditure, both at the central and state levels, running substantially ahead of available resources. The foreign trade sector was beset with poor showing on the export front coupled with rising foreign exchange outgo owing principally to sharp increases in oil prices.

Imperative of Reform

It would not be unreasonable to say that the main reason for remembering the Narasimha Rao years would have to be the

Understanding Reforms: Post 1991 India

by Suresh D Tendulkar and T A Bhavani; Oxford University Press, New Delhi, 2007; pp 206, Rs 395.

ushering in of the reform process. This was as much an economic necessity as it was dictated by political compulsions. After the early decades of centralised economic planning in a newly independent country championed by Pandit Nehru and Prasanta Mahalanobis there eventually did emerge what is known as a licencepermit raj. There is little doubt that this contributed substantially to constraining the character and pace of economic development. By the early 1980s under the post Janata phase of the Indira Gandhi government there already was some opening up of the Indian economy, a process that was further activated during the Rajiv Gandhi years. The subsequent period, dominated by the Mandal-mandir agenda, was marred by political instability and economic disruption. When Narasimha Rao found himself at the helm of government in 1991 the one issue on which he found the diverse political parties to agree to a consensus was the imperative of economic reform.

It was also around this time that the command economies of the erstwhile Soviet Union and east Europe had passed through a dramatic collapse. In the mature capitalist economies of west Europe and North America the long interregnum of post-war Keynesian government intervention had given way to a country’s overall growth rate. Economic reform was the flavour of the times and India was definitely not to be left out of the bandwagon.

This work was supported by generous financial assistance from the Global Development Network (GDN), then at the World Bank. The authors describe themselves as “unrepentant” supporters of the reform process. Reform may mean different things to different people. When the western capitalist countries were in the midst of the great depression the reform that Keynes advocated was an abandonment of classical laissez-faire and a recourse to enhanced government expenditure to resuscitate economies caught in a low level equilibrium trap. However “economic reform” for the authors of the book under review would seem to be synonymous with limiting the sphere of the government and expanding the scope of the market. Dotted throughout the book there are statements and assertions that discredit the contributions of the state or the public sector.

Interestingly, the authors suggest that economic reforms had been introduced “by stealth” in 1991 (p 5). However, no one familiar with Manmohan Singh’s budget speeches in Parliament in the early years as well as his many public pronouncements forcefully advocating economic reforms could possibly agree with this assessment. Nor was the prime minister Narasimha Rao ever defensive in his various pronouncements in those years about the need for pursuing broad economic

October 27, 2007 Economic & Political Weekly

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reforms. The case for reforms was possibly the most prominent and upfront policy thrust of the Rao-Singh duo.

Burden of Argument

The main burden of the argument of the authors would seem to be that the reforms, once initiated, were not bold enough and also not implemented fast enough. This is a familiar point of view and the present authors are not the only ones to have stressed this point. It is possibly true to say that after a buoyant phase in the early years the reform process hit upon a roadblock owing to two distinct occurrences. The first had to do with the Harshad Mehta stock market scam that put the entire reform momentum on the defensive. The second concerned the east Asian financial crisis which began in the second half of 1997 and spread to Russia, Brazil and other countries, causing the worst financial turmoil and economic recession in the post-second world war period. This illustrated yet again that an unrestrained working of the market mechanism can and inevitably does lead to major instability as is well known to any student of Marx and Schumpeter. There were several reform enthusiasts who had advocated full capital account convertibility in the early years of reform. But by now it is well known that it is our inherent conservatism in our policy stance that saved us from being caught unawares during the east Asian crisis.

In the early chapters the authors briefly review the development strategy after independence. The Industrial Policy Resolution of 1948 set the stage for a large role for the public sector which was at the centre of the Nehru-Mahalanobis planning strategy. An integral part of the policy framework was to have strict import as well as foreign exchange controls. The first 30 years of the planning process gave rise to a slow growth phase in the range of about 3.5 per cent. While by itself this was not spectacular it must be remembered that the growth rate characterising the first half of the 20th century was barely around one percentage point. From the beginning of the 1980s, with Indira Gandhi again at the helm after the Janata interregnum, there was some opening up of the economy to market forces. The growth rate of the economy moved up to somewhere in the range of about 5.7 per cent. It is clear that the autarchic regime of the early decades after independence most certainly did give rise to inefficient production structures making India a high cost economy in several key areas. It may be tiring to repeat, but one ought to remember that this was also the phase when the public sector helped create the industrial base and provide the necessary infrastructure. Government-aided institutions were able to train engineers, doctors and scientists of reasonable quality who were later to enable the country to have an international presence in the new millennium.

Chapter 6 addresses the context of the 1991 reforms. The rationale for reforms emerged from both a fiscal crisis of the 1980s as well as an external payments crisis that had both come to a head at the time Narasimha Rao came to power. It was a minority government that Rao was heading, supported from the outside by five regional parties. During the short lived prime ministerial tenure of Chandrashekhar, which had just preceded Narasimha Rao’s government, the economic indicators had reached rock bottom levels. The reserves of foreign exchange with the RBI were barely enough to cover two weeks’ import bill. The Chandrashekhar government had in fact withdrawn the first tranche of the IMF’s Contingent Compensatory Finance Facility (CCFF) in January 1991. Some $ 400 million were arranged from the Bank of England by shipping India’s gold stocks in the spring of 1991. Certainly some drastic measures had to be taken, and Narasimha Rao’s bold initiative was very much in tune with the prevalent mood of the time, which was to liberalise and open up the economy. Almost instantaneously this met with the approval of the majority of the political class of the country. Of course the exact nature of reforms as perceived by political parties of different hues differed quite markedly, but without any exception there was broad agreement on the need for reform.

The authors make it clear at the outset that when it comes to a theoretical framework they have tried to adopt the historical evolutionary approach of “institutional economics” associated with Douglass North. Central to this approach is the notion of the institutional matrix consisting of an interconnected web of informal and formal rules of the game in a society along with their enforcement characteristics. The approach also seeks to factor in ideological beliefs, traditions, customs and codes of conduct, and other behavioural norms. Each country’s development experience is unique and one must therefore make allowance for the “path dependent” nature of economic reforms in any real economy, a point rightly emphasised by the authors. However one must say that whenever a key aspect of institutional economics is expounded upon by a Veblen or a Galbraith it invariably illumines. But unfortunately in the present context the analysis often leads to rather abstruse and infelicitous assertions, viz, “The interest groups generated by a particular institutional matrix are an important obstacle to any kind of change in this matrix over time” (p 16).

Labour Market

A particular issue that comes up for some detailed discussion is the issue of labour market reforms. The authors are of the view that a key factor constraining the reform process is the pro labour stance of the Industrial Disputes Act (IDA), and particularly the provision under Chapter 5-B. This stipulates that large industrial establishments employing not less than 300 workers have to seek prior permission from the appropriate government authorities before layoff, retrenchment or closure. This is a highly contentious issue and it is by no means settled that a further freeing of the labour market will automatically lead to beneficial outcomes. That there has been a greater degree of casualisation and informalisation of labour

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Economic & Political Weekly October 27, 2007

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during the reform period is widely revealed in the available empirical studies. There is no a priori reason to expect why a freeing of the labour market will be better for the economy at large, though it would certainly be preferred by the capitalist class.

Ideological Predilections

More substantially, three broad features mark the basic thrust of this book. The first is a severe critique of Nehruvian socialism that runs through the entire text. It is argued that, “going against the conventional wisdom of Adam Smith, the potential positive contributions of these very features to economic development were never recognised by the political leadership inclined to establish a socialist pattern of society”. Elsewhere it is asserted that economic reforms are taking place “in an antithetical institutional environment where economic nationalism and socialism continue to have a stronghold”. The reader need have no doubts regarding the ideological predilections of the authors. Even Adam Smith had a nuanced view of the role of the state when it came to items of collective use like bridges. Under the present-day World Trade Organisation regime it would be naïve to believe that the best placed countries of western Europe and north America are not concerned about their national interests.

The second point that the authors strike in very strongly is that while the reform process is to be welcomed, the pace of reforms have been too slow. They would have liked to see a faster pace of its implementation. But surely a mature appraisal of the political and social realities in the country, which institutional economists are committed to looking at carefully, would have led the authors to better appre ciate the political and other practical constraints in pushing through liberalisation and economic reforms at too fast a pace.

Finally there is very little in this book that addresses the question of how the reform process deals with poverty in any systematic way. This is interesting and somewhat intriguing. A perusal of the index at the end, which is otherwise comprehensive, will reveal that poverty and poverty alleviation do not even merit entries. One of the very important conundrums that stare at us in the face is the rather poor showing on poverty alleviation even during the past decade and a half of fairly rapid economic growth. There is some evidence of further sharpening of income inequalities and when it comes to employment generation, as we have noted above, the showing has been far from satisfactory giving rise to the phenomenon of “jobless growth”.

Yet despite all of the above caveats this would still be a useful source to consult to better understand the circumstances that led inevitably to the reform process. One assessment on which the authors are absolutely right is the view that the constraints on the reform process in the country are ultimately internal and policy-induced rather than external. All those involved in policymaking at the highest levels ought to bear this in mind.

Email: pulin@econdse.org

October 27, 2007 Economic & Political Weekly

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