India's Reform Journey Revisited - Anupam Manur, Takshashila Institution

What is one reform that was overlooked in 1991?

 In 1991, what we should have done is to build institutional mechanisms for fiscal consolidation. Now, I understand that's a mouthful, but what I mean by that is ways in which the government can limit its expenditure and correlate that with the revenue that it's earning. If you look at what happened to the lead-up to 1991, there was of course a balance of payments crisis, which everybody understands and it's well documented, but one of the probably slightly lesser-known aspects is the explosion of debt and fiscal deficit leading up to the 1991 crisis, which also, in a way, limited the government's hand in what it could do just before the crisis, during the crisis, and after that.

It was not until 2003 when we started looking at fiscal consolidation. By then, it was-- I wouldn't say it was too late, but it should have happened much earlier. Even the version of fiscal consolidation that we got in 2003 was not the perfect version. The Fiscal Responsibility and Budgetary Management Act, or FRBMA, which is what it's commonly known as, did set targets for the government in order to reduce its fiscal deficit. It said that, for instance, the union government's fiscal deficit should be less than 3%, all of the state governments put together should be 3%, which makes the consolidated fiscal deficit to be 6%.

It also said that the revenue deficit should be 0%, it should be completely eliminated, which basically means that you shouldn't be borrowing for your day-to-day functioning of the government, which makes a lot of sense, obviously. The problem with FRBMA was, even though the intention is good, the targets were actually good, there was no enforceability that came with that particular law or with that particular act. It was more of an open-ended suggestion by the government to itself to limit its spending, which we know how well it's taken. You had an explosion even after that.

By 2008, the union government, for example, was supposed to limit its fiscal deficit to 3%, but just then the global financial crisis hit, and before you know it, you had massive expansion in fiscal policy, which meant that there was-- there was MGNREGA, which was rolled out. There was Seventh Pay Commission. There was a farm loan waiver. All of that put together increased the fiscal deficit of the union government to 8.6%.

Overall, the consolidated deficit went up to above 11%, and it stayed ever since. You look at the years after, there's been slight consolidation, and before you know it, again it expands, and then you get into really troubling territory when you think about what you call as off-budget borrowings, which means that the government would borrow but it's not really recorded in the fiscal deficit statistics.

In many cases, that also started leading to questions about the sanctity of the statistics that comes out. Once you go into that territory, it's very difficult to come back. Now, the reason why I say all of this is that the solution could have been formed in '91 itself, which is that along with liberalization of your different sectors, one of the things that the government could have done is to limit its own spending.  The thing that it could have done was to build something like an independent fiscal council or an independent fiscal institution.

This institution would largely be responsible for looking at each program of the government, looking at whether that is sustainable, whether the projections made by the government are true, whether the projections made by the government actually will play out the way that it expects to. It would look at, for example, revenue projections. If the government says that we expect to collect X percentage of GDP as revenue, whether that is implementable in a reality sense. In short, the fiscal council would be responsible for checking all of these things, and in a way, limiting the government's expenditure.

It's not very far from the role that a Congressional Budget Office, CBO, would do in the United States. In that way, it's modeled on that. What I'm envisioning, and what in fact many public policy or public finance experts have envisioned, is that it does a little bit more than that, which is to also then limit the government when it exceeds the budgetary cap. In the US, for example, the entire government shuts down when it exceeds the debt ceiling, but in India, I don't think that is really doable, that is not really feasible, but you could have some form of institutional mechanism where this particular independent body can rap the knuckles of the government when it exceeds its debt limit.

What is one reform that India needs today?

Carrying on from the previous one, I would say this reform is still required, as in you still need an independent fiscal council to be doing this. Therefore, I would still say the consequences of government spending or government overspending is massive for the Indian economy. Just to give you an idea, the overall savings, the available what you would call as loanable funds in India is just about 9% of GDP, which is what the household sectors save.

There's no other sector in the economy which saves. Corporate spends, government spends, and it's only the households which save. Of that saving rate, the actual usable funds, which is basically the financial sector savings. Basically, that means that the money that is saved in terms of assets or gold is not usable for investment, the money that is actually usable is the one that is saved in terms of banking and so on. That was 9%, right now it's 7.2%. Just keep that figure in one side of your head.

On the other side, look at the government expenditure. As I said, the actual union government fiscal deficit as of now is about 6%. You add another 3% of states, you add PSU on borrowings, which is public sector undertakings, their deficit is about 1.5% of GDP. All of that put together is far higher than what this total savings rate is in the country. Some of that gap is closed down by foreign savings, but only a small bit.

The end result of all of this is that corporates have no money to borrow, and if corporates have no money to borrow, then you will not get fresh investment. If you don't get fresh investment, then obviously the country cannot grow, and it cannot make-- I mean, all of the things that we want. It cannot grow, it cannot create jobs, and our growth would be stifled because of this. In that essence, I think need for an independent fiscal council is massive, and that's the thing that we should be doing.

The other answer, and if I may cheat, the other answer that we desperately need, obviously, and I didn't pick this up because it's a bit too obvious, but is that we need factor market reforms. In 1991, we very successfully, or reasonably successfully, did what we'd call as product market reforms, which is that the sale of goods and services became easy.

You removed restrictions on production, you removed restrictions on consumption, you removed, to a large extent, restrictions on import and export and trade and all of that bit, which is really good, but the one thing that they failed to do in '91 was factor market reforms, which is the ease with which you can hire labor, fire labor, deal with labor, the ease with which you can buy land and sell land. You go 20 years, 30 years after that, we still have the same set of problems that we did in '91. It's not been resolved. Some parts of it have gotten easier slightly, but some parts of it remain as stubbornly difficult as it was in 1991.

Companies cannot buy land as easily. Farmers cannot sell land. The simple reform of extending a day's labor from 8 hours to 12 hours met with massive amounts of backlash.  Then that reform was recalled. We seem to be stuck in the same position as we were 30 years back, so I would really love to see one independent fiscal council and two factor market reforms.