“Feedback, flexibility driving India’s big reforms”

He dons many hats – that of an economist, a historian, a best-selling writer and an urban theorist. However, as the Principal Economic Advisor, Sanjeev Sanyal is in the thick of major economic reforms being carried out by the government. In a conversation with Dipak Mondal and Joe C Mathew, Sanyal explains the basic framework adopted by the government to implement these reforms. Edited excerpts:

What is the broad economic scenario in the country?

In the second volume of the Economic Survey, we have said there are deflationary trends overall, not just in India but worldwide. There are pressures on private investments, again not specific to India, but globally.

There are things to be done [internally] although nothing can be done about external factors. As we are under no particular pressure – inflation is under control, there is no specific external imbalance, there is no drought right now, and even though growth has slowed, it is not at a crisis level – it is an unusually good time to carry out long-term, structural framework reforms.

What are these framework reforms?

You are now seeing many of them. The most obvious one is the Goods and Services Tax ( GST), which is the single biggest tax reform attempted in independent India and one of the biggest ever attempted worldwide. So, in one shot, we have created an internal market. There were concerns that it would lead to disruptions during implementation, but things have been smoother than anticipated. We are not yet out of the woods, but it does not look like anything particularly bad

has happened during the transition.

It also generates a huge amount of data, which can be used for multiple purposes. One is obviously to increase the tax base. Plus, this information can be for a different kind of economic management using feedback loops, but we will discuss that later.

The second major thing is cleaning up the banking sector. This, again, has to be seen in the wider context. When economies grow at a sharper pace, investment rate goes up dramatically, and the banking sector plays a very important part in pumping that machine up. However, not all countries can sustain it for a long time. Japan did it for several years. It had a banking problem, but the country sustained it and became rich. China has done it since the 1990s. There are several problems with the banking sector there, but it has managed to become a middle-income country. But you have examples like the Philippines, Indonesia, Thailand and Malaysia that could sustain it only for a short period and then their banking systems fell apart.

So, unlike the South-east Asian countries, what we are trying to do is clean up the system even before the big boom. Whether it is a good thing or bad only time will tell.

Look at how things are done. You have a demographic boom phase; your savings rate slowly creeps up; you have a self-sustaining savings-investment dynamics, and the banking sector pumps that system. That is basically what Japan and China did. We are also entering that demographic boom, and we should also be able to sustain that. But we are taking the time – right at the start – to clean the banking system before the boom.

But one of the repercussions of the clean-up is that banks are now averse to lending.

Banks have become averse to lending because of the clean-up, but once they have been cleaned up, we expect the banking system to expand. Right now the capital market is bearing the entire effort of capital raising in this country. That is not sustainable. The banking system, be it public sector or private sector banks, has to expand dramatically, in multiples of what it is now. The banking sector we have inherited is not capable of this expansion; hence, the attempt to clean it up to some degree.

It is the same with the Bankruptcy Act. If you want to have an entrepreneurial economy, you have to take the risk. And sometimes it would lead to failure. It is not always incompetence; there could be genuine reasons such as a change in technology. You have to get hold of the things that go wrong and keep cleaning them. You have to do away with the wrong bets and free-up resources and get on with the next investment.

These are all framework reforms, and so is Aadhaar. New frameworks are being created, and these are fundamentally different from the old ones.

What about the consolidation of public sector banks?

It is not related to the NPA [non-performing assets] issue. Merging one bank with another does not cause any NPA to disappear. They are two related but different issues. NPA is the priority; consolidation would also be done on a commercial basis.

What it [consolidation] would do is create commercial viability and effective management in some of the banks. There are too many right now. As for the State Bank of India, we have cleaned up a very complicated structure. Also, the number of banks we would create (after consolidation) is not four or five because then we would face the problem of too-big-to-fail. So, we are not looking to reduce the number [of banks] below 10. It will be done one at a time, but right now it is not a priority. NPA is our priority now.

Was demonetisation part of the framework reform?

Demonetisation is only a small part of the framework reforms; it is a one-time attempt to take out the cash

YOU HAVE A DEMOGRAPHIC BOOM PHASE; YOUR SAVINGS RATE SLOWLY CREEPS UP; YOU HAVE A SELF-SUSTAINING SAVINGS-INVESTMENT DYNAMICS, AND THE BANKING SECTOR PUMPS THAT SYSTEM. THAT IS BASICALLY WHAT JAPAN AND CHINA DID. WE ARE ALSO ENTERING THAT DEMOGRAPHIC BOOM, AND WE SHOULD ALSO BE ABLE TO SUSTAIN THAT

component of black money although it is not the only form of black money. There are other ways [of hoarding black money], including benami properties, but we are dealing with that. What people miss by focussing solely on demonetisation is that it is ‘part’ of a wider process of changing the country’s culture towards a rule-based society.

Just after demonetisation, we have GST, two backto-back disruptions. Would they negatively impact the economy in short-to-medium term?

We have no idea, and we do not pretend to know. With GST, we expected more disruptions than we have seen so far. But these are important things that need to be done, taking a multi-decade view of the country. We are shifting to a new growth trajectory; we can do [reforms] one at a time or do the whole bunch because the opportunity just happens to exist at multiple levels.

Let me explain the conceptual framework of everything that we are doing. The economy is an evolving ecosystem, and economic management is managing these transitions on an ongoing basis. It depends on feedback loops as constant feedback is extremely important here. There are no great plans as such – sometimes bad plans lead to good results, or it could be vice versa. You may have good plans and good implementation, but the circumstances may have changed. These are randomly evolving ecosystems and what ultimately matters is a broad, simple and flexible framework, and then you adapt.

Now apply this framework to GST implementation. The traditional approach would have been a great five-year plan, over which we can implement it. But by that time, everybody would lose interest in the process. Instead, we took a different approach. A broad framework was introduced, and a quick response team was put in place. This team was meant to receive feedback and response. We go about this way because we have no idea about the unintended consequences of a process. When you are making a radical change, you create a broad framework, implement the change and then adapt with the feedback received.

It is the same with the NPA issue. We are aware that the National Company Law Tribunal ( NCLT) process is not perfect. As per the traditional approach, NCLT would be made perfect and then case law would come and then we would find out if it would work or not. But our approach is to take a bunch of cases, push it through, see what the problems are, take the feedback and then fix the system.

We are not spending a whole lot of time trying to make sure that it is a perfect system because there is no perfect system.

Has the feedback loop approach been institutionalised?

Yes, I gave you the examples of the Bankruptcy Code, GST implementation, NPA resolution and even demonetisation – everything we did was based on the feedback loop. As for demonetisation, everybody said it should have been planned right upfront to have the perfect rule. But see how it was implemented – through the feedback loop. It was messy; we kept changing the rules, but nobody knew what was going to happen when you did something that big.

What are other framework changes needed for doing things this way?

The laws have to be clear. Forget the quality of the law, even the laws as they exist today need to be clarified. We need to be clear. Our first problem is we do not know the law itself, the multiplicity of the laws and the contradictory laws.

Second, the enforcement of contract has to be very good. The judicial process has to be fast.

Third, because the framework is based on feedback, we have to move on from once-in-a-decade Central Statistics Office data and look for more real-time data.

GST would generate some. Interestingly, the world is now generating an enormous amount of data. We can use satellite information; we can use mobile telephony data, and the financial sector is producing a lot of data. To use this data in real time, we have to thoroughly change the way we collect data and think about data. Why can’t we manage the economy in real time based on GST data? Why can’t night-time luminosity give us an idea about gross domestic product? ~