From UPSC perspective, the following things are important :
Prelims level : Nothing Much
Mains level : Difference in Reforms in South east Asian Countries and India
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The recently-released Economic Survey either glosses over or ignores many acute challenges faced by the Indian economy — like the severe agrarian crisis; the troubles of loss-making and debt-ridden public sector units; and the issues plaguing public sector banks.
Issue of Private Investment
- One issue that the Survey rightly underlines is the need for India to revive private investment if it is to achieve the magical $5-trillion economy status by 2024-25.
- However, what is odd here is that to stress this, the document invokes the age-old comparison between India and East Asian countries.
How the NIEs (newly industrialised economies ) prospered
Here, a question that arises is: Can the East Asian model help revive India’s floundering investment rates? Some crucial reminders are worth underlining.
The East Asian model was largely a story driven by the newly industrialised economies (NIEs) of Singapore, Hong Kong, South Korea and Taiwan, and Japan earlier.
1.Raising gross savings rates –
- Specifically, the prime goal in various NIEs from 1960s through to the 1990s (prior to the Asian Financial Crisis) was to raise gross savings rates.
- While the rise in household savings was partly due to the positive demographic dividend, a variety of other factors, including macroeconomic stability, low inflation, lack of social safety nets, inability to leverage (due to a highly regulated banking system) and forced savings (fully-funded Provident Funds) also played a role.
- State-owned enterprises had to operate with budget constraints.
2.Fiscal discipline – This, coupled with the fiscal discipline practised by the economies, ensured that the public sector did not crowd out private savings and, in some cases, actually added to national savings.
3.Integrating with formal financial system – Another goal was to ensure that the private savings were actually intermediated into the formal financial system, failing which the cost of capital would remain high and the availability of capital for investment would be low.
4.Public sector banking system –
To achieve this, importance was given to the establishment of a safe and secure public sector banking system (usually in the form of postal savings networks) where deposits were guaranteed by the central bank and interest incomes was taxed lightly, if at all.
The state-owned banks were tightly regulated as financial stability was the cornerstone of overall macroeconomic stability.
- Financial inclusion was encouraged, though the focus was on actual use of the deposit accounts rather than just their opening.
- While the manufacturing sector was viewed as a growth engine and open to export competition, the banking sector, in all economies apart from Hong Kong, remained tightly regulated and closed to foreign banks.
- Even Singapore initially adopted a dual banking structure that sheltered the domestic economy largely from significant short-term bank flows.
- It resorted to a calibrated policy to allow fully licensed foreign banks only in the late 1990s.
6.Tight financial oversight
- So, while these economies were generally successful in encouraging savings, the cost of capital was rather high, not unlike the problem in India today.
- To tackle this, the East Asian economies undertook financial repression — conventionally understood as a ceiling price keeping lending rates lower than market equilibrium.
- This, in normal circumstances, would have led to disintermediation from the formal financial system, a consequent reduction in the quantity of financing and the creation of a shadow banking system.
- However, central banks of these economies maintained tight oversight, and selective capital controls ensured that the low-yielding savings did not leave their countries of origin, while limited financial development forestalled the possibility of people looking for savings alternatives.
7.Sophisticated industrial policies
- Along with these, the governments undertook sophisticated industrial policies to promote domestic investment, much of which was export-led (though not necessarily free-market based).
- The governments understood that a vertical industrial policy (of ‘picking winners’) would not work without a sound horizontal industrial policy (dealing with labour and land reforms, bringing about basic literacy and raising women’s participation in the labour force).
- Besides, incentives also had clear guidelines and sunset clauses and mechanisms were in place to phase out support.
- Thus, winners prospered while losers were allowed to fail.
- In addition, the bureaucracies of these East Asian economies had what Berkeley sociologist Peter Evans referred to as “embedded autonomy”.
- This allowed the state to be autonomous, yet embedded within the private sector and enabled the two to work together to develop policies or change course if the policies did not work.
- This made industrial policy operate as a process of self-discovery, as emphasised by Harvard economist Dani Rodrik.
- It is the lack of this embedded autonomy in the next-tier NIEs of Malaysia, Thailand and Indonesia that has been partly responsible for them being stuck in the ‘middle income trap’.
9.Heterodox policies, reforms
- Thus, much of the investment and export acceleration in East Asian countries was due to heterodox policies and reforms that were carefully calibrated, well-sequenced and implemented at a time when the external environment was far less hostile than it is today.
- These measures allowed the nations to benefit from their demographic dividends and transform themselves into developed economies in record time.
Problems with Indian Reforms
In contrast, due to political and other compulsions, India’s reforms since 1991 have been rather haphazard and of a ‘stop-and-go’ nature with perverse consequences, all of which has made it much more challenging for the country to take full advantage of its demographic dividend.
Though measures like reducing policy uncertainty; ensuring that the fiscal expenditures do not crowd out private savings and investment; enhancing the efficiency of financial intermediation; and dealing with land acquisition and environment clearances are all essential to reignite investment, we do not need to invoke the East Asian example to understand the importance of these.