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“India needs to work on factor market reforms”

Sluggish exports growth amidst geopolitical uncertainty, less than desired performance of agriculture due to bad weather as well as subdued prices of farm produce and farm income growth have resulted in a slowdown in rural consumption growth as well as consumer durable expenditure. As a consequence, India has seen a swift decline in growth in gross capital formation and fall in rate of domestic private investment from around 34.3 % in 2011 to 31.4% in 2018. The fall has been led mainly by industries like mining, transportation and construction. However, notwithstanding the cyclical slowdown, GoI has been making concerted efforts – unleashing a series of structural-cum-policy reforms for “Ease of Doing Business”, and in turn sustaining higher private corporate investment, enhancing productivity and increasing business competitiveness in relation to its neighborhood trading partners. What are the set of macro-, meso- and micro-level policy reforms unleashed by the GoI? What more is needed to be pursued, more so at the state level? How has it helped in doing ease of business? Has it led to improved ranking of India in the world business? How should the enmeshed “twin-balance sheet problem be tacked by the regulators?

To get more insights to these questions, TPCI  interviewed Prof. D. Tripati Rao, Professor of Economics, who teaches Macroeconomic Environment, and World Economy and Business courses at Indian Institute of Management Lucknow

TPCI: What are the major driving factors of India’s improved rankings in the World Bank’s ‘Ease of Doing Business Index’?

Prof D. Tripati Rao: India’s significant jump of 14 ranks in a year is driven by significant improvement in 7 out of 10 factors on which ease of doing business is measured. Out of that, the four big areas of improvement since 2018 have been resolving insolvency, dealing with construction permits (possibility of submitting building plans in advance), trading across borders and starting a new business (new form for business incorporation that combines Permanent Account Number with TAN). There has also been an improvement in paying taxes online (post-GST) and getting electricity. Basically, the model insolvency regime that we passed in 2016, which was a comprehensive strategy to reform corporate law, led to a gradual increase in the number of reorganisations, despite some of the implementation challenges we still have and where India still scores low ranking. As a result, overall recovery rate for creditors has jumped from 26.5 to 71.6 cents on the dollar. By far, India is considered one of the best performers in South Asia. It is also faring well with respect to OECD high-income economies.

TPCI: The index looks just at the cities of New Delhi and Mumbai. How have all stakeholders, including states played a role?

Prof D. Tripati Rao: There are three layers in the reform process – reforms at central level, meso (state) level and micro reforms. The major challenge in building the bridge between macro level reforms and micro reforms is of the state level. If you look at the 10 parameters where India has improved its performance, you can observe that without the support of states, most of the yardsticks would not have been improved upon. Of late, states are also coming forward in embracing these reforms, for instance, when it pertains to starting a business, getting construction permit and electricity, registering property, getting credit, protecting the minority investor and paying taxes, etc. Except for the first, all the others are where central government, regulator and infrastructure play a greater role. The idea that the central government is keen to bring out an inter-state competition for contributing to overall efforts – this of course will be very welcoming. But of course the initiative is yet to take off effectively!

TPCI: What should the government do further to attract business investment given the current economic environment?

Prof D. Tripati Rao: There is an ongoing debate on whether India’s recent slowdown has been cyclical or structural. If you look at from the Great Depression onwards as well as recent experiences across the world, there are three general signs of a slowdown. One is of rising unemployment level. The second is wage stagnation, and in India it is rural wage stagnation. The third is significant fall in consumer durable expenditure – a sign of low spending power and is a result of depressed real income. In India, during the past couple of years, these three indicators are showing signs of stress. However, whether it is cyclical or a structural slowdown, or a cyclical slowdown turning into a structural slowdown continues to be a point of debate!

While the earlier estimates on potential output show that we are still not into a structural slowdown, but last week headline core sector numbers as well as quarterly growth numbers are very bleak. Amidst geopolitical uncertainty, a significant slowdown in exports growth, falling private final consumption expenditure, the domestic investment is not picking up. Some of the recent measures by the government, including the cut in corporate taxes that makes India competitive with any Southeast Asian economy can come handy! But a lot of dynamic factors are at play in promoting FDI and domestic investment.

If you ask what attracts foreign or domestic investment, it is return on capital employed in medium- and long- run, which should be positive and sustained. For that you need to achieve productive efficiency, release of productive impulses, not only through product market reforms, but also in terms of factor market reforms. India has seen a fair degree of reforms on product-market integration. But for various reasons, factor market reforms, factor market integration, seamless mobility of labour, and other inputs and resources have been literally tardy. Transparency in policy, intellectual property rights, decrease in the level of corruption, contract enforcement, stable tax regime would be important factors in attracting business investments.

Besides cost competitiveness, availability of skilled labour force, significant improvement in business climate will also play an important role. Uncluttering and deregulating the market and strengthening the democracy, also contribute significantly in attracting FDI and business investment. We have made much headway in India’s macroeconomic policy – monetary, trade, foreign exchange policy, financial sector reforms and regulations; which has been crucial in attracting foreign investors. I think we need to carry out some more reforms in terms of Ease of Doing Business; especially enforcement of contracts and initiating a new business.

TPCI: How can India improve on areas like land acquisition, labour laws, ease of starting a business and legal system?

Prof D. Tripati Rao: We have had so-called “first generation” (of product market) reforms. Now we need to enact politically and socially contentious on-ground reforms, be it big ticket on land ownership, labour laws and judicial/legal reforms. One area of concern is the strict labour laws because of the trade union as a lobby and pressure groups. The speed of execution of industrial projects and implementation of policy reforms are crucial to make “Make in India” a competitive and successful global brand. The state of Telangana has made much headway is addressing bureaucratic delays, reducing corruption and speed of clearances.

Removing procedural delays helps the supply side, be it getting clearance to purchase land, registering property, getting electricity and water connections, getting environmental clearances, obtaining permission to set up a factory, clearance from pollution control board, we should move at a faster pace, so that a business or company can start a business without much effort and procedural hassles. Government should also professionalise bureaucracy and focus on capacity building in the way state governments or central government offices are run. For instance, I can tell you through my personal visits, that with e-governance, you just have to go to a city corporation office in Netherlands, fill a form and on a single window within 48 hours, you get your license. Harnessing e-governance, a single-window clearing policy, wherein one-stop processing is done quickly – a company can file an application to acquire land, register property and get construction clearances. This will help in eliminating much of bureaucratic hurdles and attracting business investment.

Most of the growth in India’s ICT sector has been in helping foreign countries. But recently, we have seen that there has been great transformation with the Digital India initiative, which is creating huge opportunities for involvement of industry and private sector, mainly IT/ITeS systems and services. Many concerns have been raised from time to time by the industry relating to their engagement and contracts with government-funded projects including terms of payment, acceptance criteria and legal agreement, etc.

If we are aiming for a US$ 1 trillion digital economy, it won’t be easy. However, the government can act as a market maker to create scale economies since it is the biggest buyer of services, so that the best innovation and technology applications can germinate in the country. It can do so directly for instance by procuring telemedicine services from the private sector by establishing primary health network; which will boost Ayushman Bharat mission. This will give you a complimentary effect in terms of attracting and reducing cost for the private sector to come in. Indirectly by purchasing goods and services on the Government e-marketplace, the government encourages businesses to go digital. Transparent mechanisms will provide open systems for Indian innovators to develop ideas and to build products of national importance.

TPCI: How is India faring on infrastructure, since that is a critical constraint for doing business?

Prof D. Tripati Rao: Whenever we talk about trade competitiveness, most of the time, the myopic view has been about playing with exchange rate. But I think more than the currency movement, structural bottlenecks and lack of improvement in productivity are real hindrance to India’s competitiveness. India’s share in world trade has not seen any significant improvement. But we are trying to improve from 1-2% to 5%. For that, we need to make heavy investment in infrastructure. India is proposing around Rs. 100 lakh crores of investment in infrastructure in the coming years. The government plans to roll out big-ticket infrastructure investment and already there has been an initiation through Bharatmala and Sagarmala programmes.

Even historically when you look at growth of cities and civilization across Europe, there has been a good interlinking of rivers. The recent thinking is towards creating ‘Blue’ Economy – interlinking of river beds to mass-transit goods and services. We have seen recent initiative to build river-bed corridor all along Ganges belt, from Benares to Allahabad to Kolkata. Another initiative is being taken for mass-transit from Goa to Mumbai. Besides being very cost-effective and business friendly, this will help de-populate traditional surface transport. Focus on road, airport, sea and power will make India cost competitive and boost Make in India.

TPCI: How do you see the current credit squeeze in the banking sector, and its impact on ease of doing business in India?

Prof D. Tripati Rao: If you look at institution-wise performance, I think the real sector – private and public – hasn’t fared that bad; besides being affected shortly by the structural-policy disruptions. It is only the financial sector, both public and private, where we have seen major stress. Last few years, financial disintermediation has happened. Credit multipliers also have slowed down and liquidity has tightened because of the “twin-balance” sheet problem resulting in a legacy of non-performing assets. Especially for over one and half years, beginning with IL&FS, the NBCs have come under major liquidity stress due to asset-liability maturity mismatch – both being caught in cyclical slowdown as well as critical operational risk failures; wherein the later need to be addressed through institutional reforms such as, tighter supervision and monitoring of balance-sheets. This has led banks and NBFCs to cut down their lending to the commercial sector.

In fact, there is a significant fall in credit flows as an annual average growth rate which was more than 20% in the first decade of this century, has gone down to 10.6% in 2015-16. Last year, it was even below 10% at around 8.5%. This is a really a disturbing trend and will be a major roadblock in growth revival! Similarly, institutional credit to agriculture sector has decelerated. Therefore, you can see that the financing needs of the real sector are also being squeezed. Only lending to retail sector (personal loans) is steady. Large loans to capital-intensive industries account for a major proportion of NPAs. Large industries are the ones that have got it in return because of the credit squeeze. Credit finance, investment and consumption play an important role in sustaining demand. Therefore, the government, the RBI, and the regulators must take fast forward action in addressing the structural bottlenecks that are the reasons for rising NPAs, to ameliorate real sector from credit squeeze, and hence laying a foundation for a sustained growth revival of the economy at the earliest.


Prof. D Tripati Rao is currently Professor of Economics in the Business Environment Area at Indian Institute of Management Lucknow. He has obtained his Ph. D. from the Department of Economics, University of Mumbai under the auspices of RBI Monetary Economics Endowment Research Fellowship and M.Phil degree in Applied Economics from CDS, Trivandrum, JNU. Prior to joining the institute, he was with XIMB and T.A. Pai Management Institute, Manipal. He has been teaching Macroeconomic Environment, Managerial Economics and World Economy, International Trade and Business to both Post-Graduate students and FPM Scholars since 2005.

[*Prof. Rao gratefully acknowledges the inputs provided by Ms. Aastha Agarwal, PGP II student, IIM Lucknow]

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