PM Modi’s Cabinet: Divining a Message or Signal

Since the announcement of the Cabinet I have been asked many times, what I think of it. As a partial answer to this question here are some observations.

1.     The Prime Minister has signaled that he is keen to follow Parliamentary Procedures and conventions and lay to rest any concerns about his adopting a Presidential form of Governance.  He has done this by restricting his Council of Ministers to members of the Lok Sabha and the Rajya Sabha, with only a few exceptions, despite having the option of getting them elected to either house within six months of being sworn in as ministers.

2.     The cabinet also signals that PM Modi is going to take an evolutionary, reformist approach rather than a revolutionary one. Given the apparent consensus in the BJP and the RSS, members over 75 have been excluded from the cabinet. However, the seniority and standing of the leaders in the party hierarchy has been preserved by and large.  This is suggested by the Order of precedence adopted for his cabinet ministers. This has not however, stopped the selective promotion of those that PM Modi considers deserving of such promotion, namely those he feels can help in the achievement of his government’s objectives.

3.     The size of the cabinet has been substantially reduced, in line with the promise of “Less Government more Governance”. The manner which this has been done suggests a pragmatic, problem solving approach. Thus for instance power and coal ministries have been assigned to the same minister. Given the history of bickering and conflicts between these two ministries in the last 3 years and before, the new minister will be expected to sort out these issues himself instead of them being kicked around between ministries and coming to the Committee of Secretaries or the Cabinet.  The speed of government decision making will certainly improve because of this re-organization.

4.           I am a little uncertain whether enough has been done to club together or reduce the prominence of Departments that either run businesses (such as textiles, steel) or which cover Sectors that are clearly  State subjects.  The PM and BJP leaders have said earlier that the “Business of Government is not to run Business.” In other words Government must focus on the delivery of “Public Goods” (like roads, rivers) and “Quasi-Public goods and services” (‘infrastructure’).  Similarly the PM had talked earlier of enhancing the role of States in National Governance.  What better way to start than to reduce the role of the Central Bureaucracy in subjects that clearly fall within the domain of the State Governments like Agriculture, Labour, Education and Health. Given the fact that Shri Modi works such long hours and reportedly monitored every target and achievement of the Gujrat Govt as CM, It is likely that PM Modi will keep a tight grip on policy matters in these Ministries, to ensure that the broader objectives and direction is achieved.

5.         The Fact that a Defence Minister has not been sworn in with the other heavyweights, is intriguing.  It suggests that the person the PM intends to appoint is not a member of the Lok Sabha or Rajya Sabha.  If true, the PM has deliberately chosen not to use the technicality that a non-member of either house can hold charge as Cabinet Minister for 6 months. This indicates his desire to make such a senior appointment without violating Parliamentary propriety (consistent with point made at start). 

6.        Another noteworthy fact is the high proportion of Women in the Cabinet (25%).  As noted by others, most if not all, these women appear to be very hard working, competent and articulate.  The fact that geographical,  regional, Caste and religous balancing has been given a little less weight than usual, will have the positive side effect of making more room for merit and performance in cabinet ministers (assuming it can be sustained despite political counter attacks). The choice of Shrimati Smriti Irani as HRD minister has been widely discussed. In my view, as a young person, she is likely to be more open to new ideas like e-learning, educational software and broadband connectivity, in contrast to old mindset of brick and mortar institutions. Though low experience is a risk factor, the HRD ministry has under it a "brains trust" of institutions and individuals to draw on, if the Minister so chooses.

7.     Shri Arun Jaitley was expected to become Finance Minister from the time that Shri Modi was named PM candidate of the BJP, and he will help restore confidence in both indian business and foreign investors. Other critical economic & infrastructure ministries, have, by and large been put under individuals who are capable of doing a competent to very good job.  Given recent history, I think it was naïve to expect non-political professionals to be made Ministers. We should, however, expect more professional appointments at the administrative and advisory levels given the choice of Shri Nripendra Misra as Principle Secretary to Prime Minister and of Ajit Doval as National Security Advisor.

Economic challenges facing the New government

Co-authored with Prof. Charan Singh, IIMB

  The new government at the Center will be facing many economic challenges in reviving economy and generating employment as economic indicators are not very encouraging.  The general index of industrial production for the month of March 2014 is lower by 0.5 per cent as compared to March 2013. The industries suffering significant decline are manufacturing followed by mining.  In manufacturing sector, 12 out of 22 industry groups have shown negative growth in March 2014 as compared to March 2013.  As per use-based classification, capital goods have recorded negative growth of 3.7 per cent during 2013-14. The index of consumer goods, especially consumer durables is also lower than March 2013. 

     The other important indicator, is the price level. Consumer Price Index (CPI), at 8.59 percent for April 2014 released recently has also shown rising trend as compared to 8.31 percent for March 2014. The inflation rate for rural and urban areas has also been high over the corresponding period.  The rise in CPI is mainly because of milk and milk product, fruits and vegetables, cereal and cereal products, and clothing and bedding.  The combined weightage of these items is more than 33 per cent of the total, in CPI.  There is also significant state-wise variation in inflation as measured by the CPI. Illustratively, Tripura records 20.1 percent inflation while Manipur of 5.3 percent.  The Wholesale Price Index, shows a moderate rate of inflation at 5.20 percent for April 2014 but the stress points continue to be cereals, fruits, milk, egg, meat and fish, and potatoes.

     On fiscal front, in general, India has been recording a gross fiscal deficit of 4.5 per cent and above for the last few years.  Though in 2013-14, according to revised estimates, the ballooning deficit has been contained at 4.6 percent, the quality of fiscal adjustment needs improvement.  Gross tax revenue has recorded a short-fall, mainly on the account of lower collections under indirect taxes consequent to industrial slow-down, lower imports and lower growth in services.  Also a sharp cut down in Plan expenditure, particularly on revenue account, has been recorded.  There has been sharp increase in subsidies especially on account of Food security bill but other non-Plan expenditure has been curtained under the fiscal austerity drive. 

    In view of the global situation as well as research at the RBI, real GDP growth is projected to be around 5.5 per cent in 2013-14.  In view of the economic trend globally, sustained revival in industries, exports and services does not look likely.  In view of the El-Nino effect, prospects of a bumper agriculture are also not very bright. The government has been announcing series of measures since the Interim Union Budget in February 2014, some of which like setting-up of 7^th pay commission impact expectations and therefore have inflationary implications. The general elections have also involved significantly large expenditure on part of the government as well as the potential candidates which imply pumping money, some of it probably even black money, in the economy.  All these economic factors will have implications on inflationary pressures in the economy.  As inflation continues to be high, the interest rates would also follow a tight trajectory.  In its Annual Monetary Statement on April 1, the RBI had observed that CPI inflation would be 8 per cent by Jan 2015 and if inflation continued along the intended path, further policy tightening may not be anticipated. However, given the inflationary situation as it is evolving, it is not anticipated that interest rates would be lowered in near future with consequences on investment and growth unless the government announces special measures. 

      Another significant challenge that the Indian economy will face is the current account deficit (CAD).  In India, CAD continues to be the within the limit because of excessive control over imports, especially gold.  The new government could relax restrictions on gold which could again place stress on CAD.  The unwinding of the unconventional monetary policy by the US, could also have an impact on CAD.  Finally the urge to have a stronger rupee against the US dollar, as evidenced in the last few days, could lower exports and encourage imports.

     If the new government is seeking to raise the growth level to 8 per cent and above, besides economic measures, it would be necessary to establish credibility by announcing appropriate fiscal measures.  The Fiscal responsibility Bill has been placed in the cold storage for some time, which will have to be revived to establish credibility of India in the minds of global analysts.  The need to improve tax administration and hopefully the Goods and Service Tax and the Direct Tax Code will help improve tax collection.  There is also a need to undertake reforms in subsidies, especially food, fuel and fertilizers.  There is also an urgent need to address structural challenges in the energy sector as well as in the agricultural sector. To directly address the challenge of creating employment, especially in the short run, it will be useful to focus on micro, small and medium enterprises. These measures are important for increasing growth in the economy in immediate future.

A version of this Article appeared in The Financial Express in 17, May 2014 under the banner, “A Rush of Reforms Needed”. http://epaper.financialexpress.com/c/2851294 .

Macro Stability: Budget Priority

Introduction

Economic growth has averaged around 4.7 per cent for the past two years.  Gross fixed investment is at a standstill, barely increasing by 0.2 per cent in 2013-14 after a dismal growth of 0.8 per cent in 2012-13.   Manufacturing output is now lower than it was a year  ago, with no indications yet about.  Despite collapsing growth, inflation has averaged 7.1 per cent per annum, suggestive of stagflation.  The high inflation is driven by agricultural prices which have increase at an average 11.5 per cent despite a relatively high growth average of 3.1 per cent. The Current Account deficit shot up to 4.8 per cent of GDP but has come done to 1.8% in 2013-14, partly due to restrictions on gold imports.  This backdrop defines the immediate priorities of the incoming priorities.

Budget: Macro Sustainability

The first priority of the new government must be to restore Macro-economic balance.   The second priority is to accelerate investment and growth.  The third priority is to address the structural factors driving agricultural prices.   The budget that will have to be presented by the new government within 6 weeks of taking oath of office will provide the first opportunity to address these issues. Given the shortage of time, the budget can and must focus on those issues coming within the purview of the finance ministry.  Two major objectives would therefore be, to  put the fiscal situation on a firm improving trend and to address the problem of NPAs and Capital adequacy of Public Sector Banks 

    The BJP manifesto has promised a clear accounting of fiscal deficit.  Based on this, the should aim to reach the FRBM targets of 3% for the fiscal deficit and 0% for the revenue deficit within two years with the objective of halving the difference from 2013-14 in each year. This requires a corresponding reduction in consumption expenditures and subsides, particularly petroleum product related subsidies. It is quite clear to everyone that the damage done to corporate confidence by the retroactive changes in tax laws and harassment of corporate tax payers (what the BJP manifesto calls “Tax terrorism”), must be corrected. In addition some progress must be shown with respect to implementation of GST and simplification of income taxes.  Given that several of the holdouts were BJP States, this should not be too difficult.

    Another mistake made by the outgoing government was to force Public Sector Banks to provide credit to infrastructure projects with less than adequate long term financing.  Given the high risks associated with bad policy and regulatory environment, several of these projects would not have got off the ground. Forcing PSBs to provide credit merely postponed the day of reckoning in the form of Non-performing assets.  Re-capitalization of these Banks is therefore urgently required to revive their ability to lend to new borrowers. A policy change allowing Government holding to go below 50% will allow sale of government equity to finance re-capitalization, without worsening the (real) fiscal deficit.

Inflation: Agriculture 

 Finally the disastrous management of the agriculture sector, that has resulted in almost 10 years of high agriculture price inflation.  The minimum support pries must be restrained for the next few years, the huge buildup of stocks that has resulted in double digit price increases in wheat & cereal prices corrected.  Steps can also be taken to reform the Food Corporation of India. The likelihood of a below normal monsoon also makes it imperative to move quickly from the Ad Hoc changes in QRs and expot controls to a stable system of import tariffs and export duties.  This will help moderate price inflation and provide an incentive to farmers to investment in productivity improvement.  Greater efforts must also be made to convince States to abolish the APM or remove vegetables and fruits from its purview.

Separately and independent review must be carried out of policy and regulations in the  infrastructure and energy sectors under the purview of the Central government and the governance of Public Sector and Departmental enterprises.   Hopefully some action can be taken on these within 3 months after the budget has been passed.

A version of this article appeared in The Hindu, on 17 May 2014 under the banner, “Restore Balance in The Macro Economy,” http://www.thehindu.com/todays-paper/tp-miscellaneous/tp-others/restore-balance-in-macroeconomy/article6018606.ece