Contrarian Ways to tackle Agrarian Crisis

https://www.thehindubusinessline.com/opinion/tackling-the-agrarian-crisis-differently/article26501142.ece

Article link in Businessline 11 March 2019

Agrarian crisis is staring on our face and as usual a flood of familiar suggestions have resurfaced. The political responses have been on expected lines.

Fixing MSPs at 50% over costs is as disastrous as it can get. There is no inherent incentive for cutting down the bill on Government or the rest of society. It may be possible in Western societies where 2-10% farmers depend upon the rest 90% but not in India where 50% are in agriculture. The sinking water table without a care, due to free electricity even in the land of five rivers (Punjab) is an example of such a sink hole. On the contrary, when West Bengal used to charge farm electricity same as residential, it held its water table since the farmers used the expensive resource judiciously.

The basic problem is that our agri sector is producing more than the demand, even when its productivity is way below world standards. The Kcal value of just the top 8 food items produced is approx. 2250 just about what an average Indian requires. And we have compromised the soil health massively in the last 4 decades, so the costs are increasing way beyond productivity gains.

The main impediment in tackling the crisis is the wrong formulation of the problem. Instead of seeking to double the farmers ‘gross’ income, we should seek to raise his “net, net income” – net of costs but more importantly net of soil health loss and depreciation. Let’s see how this cab ne achieved.

First the wastes in our cultivation. Our flood irrigation system which has evolved to cut off oxygen to weeds and thus control their sprouting, has had adverse consequences on plant health also. The excess water washes nutrients, costly chemicals and fertilizers along with it, more than half of these never coming in contact with the plant or root aura. These unutilized chemicals have long term consequences on soil quality.

SRI (System of Rice Intensification) farmers who have consistently reported higher yields, have direct- planted or planted single seedlings with gaps of 20-25 cm (instead of clumps) and shunned flood irrigation for just retaining enough moisture and reported 80% savings in seeds besides saving 50% water.

Next the soil health. Excessive chemical application has killed the earthworms so necessary for aeration and microbes and fungus which break down vegetable matter and carbon into essential inputs for plant growth. These chemicals solidify soil causing easy run-offs. Stronger osmotic pressure of the chemical solution outside the root systems promote reverse osmosis causing the water to flow from roots to soil rather than the other way around causing withering and dryness in some crops.

We need to get a lot more humus into our soil to boost its water retention (without run offs) to achieve the above and enable stronger roots that can to go deeper and wider and sponge more nutrients besides being naturally more disease resistant.

We need to rotate the crops judiciously with nitrogen fixing legumes/plants, so that the artificial life support of chemicals get replaced with natural manures and supplements in a far more balanced way.

Sir Howard the author of the Indore experiment, had demonstrated that with just the organic material available within the village – the foliage, crop residues, and animal residues,  it is possible to generate all the humus and compost and within it all the chemical required in a more balanced manner at much lesser costs. It might require some reinventing the natural and traditional methods and some re-training.

Trapping more incomes within village ecosystem: The Indore experiment cited above reported that a pair of oxen can help generate 1350 cft of compost i.e approximately 27 tons of manure containing a balanced mixture of essential chemical ingredients. The market price of equivalent weight of Urea is about Rs 1.45 lac. Even if one were to offset the cost of animal keep and downscale the value, it would still leave a net Rs 30-40,000 of commercial value in the hands of the farmer and village community. Instead, villagers are driving away these to graze unyoked and spending a fortune in ‘importing’ costly fertilizers. A better balance should be attempted.

Rice production is reported to be contributing nearly 15% of world’s methane emission annually. Long term research should focus on harvesting this thinly spread greenhouse gas like we have done with Sunlight. It is also possible to sequester carbon by traditional methods as modern agriculture is one of the biggest contributory to carbon emission.

If these incomes are trapped within the village ecosystem it could lead to better secondary cycle of incomes and enable our villages to make more investments in housing, electricity, healthcare and education, the other social necessities.

Employment potential: Adoption of natural or semi traditional methods of farming like manual composting and weed control, controlled water charge, focused pest control, recharge of crop residues are reported by Joel Bourne in his book The End of Plenty to absorb 27% higher labour. That may be a huge boon by itself for India which desperately needs to create employment.

‘Open sourcing’ research: The current system of research excessively serves only certain sections or links to the compromise of overall health. It is focused on maximizing chemical or insecticide sales far beyond optimal levels. So much so that insecticide companies do not even train the applicators on optimal volumes or safe methods of application. Today, more people may be dying out of their harmful effects besides those who consume it as poison, than out of farm loan distress.

There is a compelling case for ‘open sourcing’ all agricultural and allied research even if necessary by Government setting up more facilities under its control as well as opening up trade at least in commodities where we have surplus.

In conclusion, it is possible to more than double the net farm incomes just with better seeds and package of farm practices, cutting down heavily on the artificial ‘boosters’ even while preserving or promoting soil health.

Turning useless wastes to useful wastes

In Beverly Hills… they don’t throw their garbage away. They make it into television shows.” —Woody Allen.

Indian wastes are ‘useless wastes’. Our consumption habits may have leapfrogged, but our disposal habits are primitive. We mix up useful wastes with useless wastes, destroying the value in the former—you can’t compost paper and vegetable remains mixed with broken glass and plastic pet bottles, nor can you recycle paper mixed with food wastes and electronic remains.
If India has to successfully deal with its wastes, two paradigmatic changes are required in our thinking.
Unfortunately, it is the rag-pickers and the municipal authorities who are made to grapple with the messy problem, without either adequate incentives or resources. The problem has to be back-loaded on consumer product companies who created the non-destructive, non-biodegradable or unconsumed packaging or products and also benefited from it; and instead of trying to segregate mixed wastes, we should prevent it from getting mixed in the first place by appropriate incentives or punishments for compliant or errant behaviour, respectively, at the stage of the mix-up.
If this principle is accepted, (1) all packaging material should also go back to the packager—just like the truck goes back to the truck owner after the delivery of cargo—and they should be made to pay for the costs of such ‘back trace’, (2) what comes into the city and urban centres should go back from where it came, and (3) electronic hardware (which are potential future debris) and packaged food (which comes with non-biodegradable packaging) should be handled at the time of the original sale itself. Outlined below is a system of incentivising segregation at source and the benefits therefrom.

The suggested scheme
1. Every consumer and industrial manufacturer/marketer should be mandated to file their recycling plan or reclamation plan annually, or on a one-time basis. This can be enforced through fines or suspension of licence, till complied with.

2. They should be made to declare on the packaging (where it is multi-layered, on each of them) what value the marketers are prepared to give back to the consumer if he/she hands over the empty containers, cartons, plastics, corrugators, etc, to the point of sale. For example, water bottles may say: “Collect 40 paise against this bottle”. This would help create a ‘waste currency’.

3. Marketing companies should be mandated to collect at least 50% initially, and by the third year if at least 90% are not collected, their manufacturing licence should stand suspended (a similar procedure of disposal to source supplier exists in the Atomic Energy Regulatory Board regulations). The actual collection must be audited by independent entities.

4. To ensure compliance that marketers make efforts to collect back, few things can be done:
–   An upfront deposit with the government can be collected, say, at 3-4% (to be varied based on the biodegradability of leftovers) at the time of manufacture or entry into state or import into India, which can be refunded back based on the percentage collection.
–   Fines on the shortfall at twice the rate will enforce recollection of wastes.
–   Over a period of time, proper price discovery will happen if the enforcement is tight. If competing consumer marketing companies start offering different rates for recollection, it will be a signal to tighten enforcement on manufacturers who offer poorer rates.

5. Marketers may not deal with the wastes themselves. They will locate third-parties to reclaim, recycle, sell to re-users, or incinerators, energy companies, etc. Positive values will be reclaimed by recycling. Reusable material will be sold at commercial values. The rest may be sold to energy or incinerating companies.

6. The end-consumer may not find it worthwhile to go to a shop and exchange the waste currency. Rag-pickers may pick up wastes at the doorstep, and claim the waste currency at a discount and hand it over at sales counters. This will incentivise source-segregation. Rag-pickers should be trained to pick up all wastes and exchange the value of wastes, and dispose of the rest in designated ways.

7. Special shops will emerge that only concentrate on the collection of all wastes for a margin in every shopping mall, street corners, etc.

8. Heavy fines should be levied on selling companies for litters found in the open, which will induce some policing by them directly.
In addition, litter disposal should be made part of the Swachh Bharat Abhiyan.
Forward distribution is highly working capital intensive, requires expensive shelf space, advertising and product promotion, besides hefty retail margins. Wastes being reclaimed do not suffer from any of these. In fact, the total cost (net of recoveries, if any) involved may not be more than 1-2% of the selling price of base material, excluding the manpower involved.

Estimates of employment and benefits
The Indian retail market for FMCG and pharmaceuticals was estimated at $630 billion in 2015. In FMCG, packaging costs typically account for 3-4% of sales value—the costs incurred on packaging on sales of $630 billion (`42 lakh crore) is likely to be about `1.4 lakh crore.
If the fines for non-collection are kept at, say, 4% of the sales value, hopefully companies could be expected to spend at least 2% on recollection (including on wages, transportation, storage and dealing with wastes), i.e. Rs 84,000 crore.
If roughly one-third of this accrues to labour as wages, it is about Rs 28,000 crore. At minimum wage rates of around `300 on 240 working days, it comes out to be 35 lakh man-years, i.e. 0.3% of our population. This is not wayward compared to the reported 0.7% currently employed in South Africa in similar activities, compared to 0.1% in India currently.

Going forward, probably the government’s role would be minimal. It should create the enabling legislation and set-up a ‘waste police’ whose job will be to catch and fine sellers who are not marking waste currency value, people littering, recyclers not completing their jobs, supervisory audit of audits, ensuring manufacturers file their plans, certifying refunds, etc. This ‘waste police’ should be additional trained staff, and not as an adjunct to the existing police duties.
The government can use a portion of ‘funds in custody’ (through upfront deposits) or fines for training and certifying the people involved. It can train people as part of skill development programmes or get originating companies to train them (for automobiles, e-wastes, hazardous chemicals, etc).
Even if compliance starts with multinational corporations and organised sector companies, it could quickly reach 40-50%. It will have a demo effect and lead to others falling in line.

A Contrarian Monetary Policy

Indian industry has been sluggish for a fairly long time, and all our orthodox monetary policies have not been able to make it come alive, grow and deliver employment of any great proportion. Democracy does not seem to be the villain, as much as unimaginative policies. Opportunity costs for experimenting with an alternative policy are very low now, as never before.
The key cornerstones of such a policy would be as follows:

  •  No FDI/FPI or FII targets: Just maintain the rupee within -4%/+1% of REER values. This will be pre-fixed with a one-time readjustment to correct the current overvaluation.
  • No inflation targeting: Target industry/economic activity-specific interest rates based on supply gaps or potential. Debunk general purpose credit measures.
  • Switch from price-based (repo and bank rate) money volumes to volumes-based price (interest rate) discovery.
  • These monetary measures have to be garnished with two fiscal actions—bringing petroleum under the ambit of GST (28%), and aligning all export incentives with the ‘best of ASEAN’ incentive package.

Let’s see how these contrarian measures are better suited to kick-start industrial revival and help in the creation of employment. First, a recapture of changes in business behaviour especially with respect to the main policy tool, i.e. interest rates.

Interest on working capital should count as variable cash costs (marginal cost to economists). An increase across the board for all players would only push up the supply curve and result in inflated prices—quite contrary to the effect desired. In any case, due to advances in communication, payment systems, ‘as and when needed door delivered’ systems, optimisation algorithms in stock keeping, etc, businesses are working with a lot less working capital and some enterprises even on negative working capital.

The ability of long-term interest rates to influence investment decisions is fast dwindling over time. Most of the new economy is funded by equity capital and sweat equity. In conventional manufacturing, gone are the days of 4 or 3:1 debt equity structures. Credit rating agencies frown at 1.5X debt levels now. Investments in new economy areas like Google, Ola, Paytm, IPL, casinos, Reliance Jio and space travel are more an outcome of guts and vision, rather than RoI and IRR-based like automotive sector, consumer products and street corner restaurants. And the new economy’s share in investments is overshadowing that of the traditional economy’s. These have reduced the potency of some of the monetary tools. More savings are also finding their bypass route to investments than through conventional banks and financial institutions, i.e. through private equity, VC, HNI, PMS systems, etc. Interest can affect consumer demand and have some effect on savers conduct, and this could be used for maximum impact.

The Indian context
The general capacity utilisation in industries is stuck at less than 75%—a level that will hardly inspire any investments. A great proportion of consumption growth has been met through imports from more cost-competitive nations. A few relatively better cost-competitive players have seen their capacity utilisation grow to fuller levels.

There are some industries (such as telecom) that have seen investment, but these are largely in the nature of ‘overtaking’ investments, i.e. fresh investments with superior offerings, driving customers away from existing players, thus rendering already standing investments to lower capacity utilisation levels. Some such industries (such as modern retail and banking) have also destroyed jobs through the use of technology.

A contrarian approach
Working capital interest rates for manufacturers with fuller utilisation should discourage stocking. Credit flow for downstream distribution and trade for such industries may be either curtailed using physical norms or prohibitive interest rates. But long-term interest rates should be kept lower to encourage quick capacity additions. Industries which see low capacity utilisation need lower working capital and export-facilitating interest rates, but long-term loan rates should ideally dissuade fresh capacity additions.

Overtaking investments should be mandated to raise a greater proportion of funds through own or equity funds. Besides being risky themselves, they also create systemic risks for all the existing players and their financing banks, and hence the whole industry should be charged risk premiums and far tighter debt/equity targets (<0.5 maybe), which would slow down such investments.

The above clearly indicates a need to junk the current general purpose credit policies and adoption of a sector-specific approach, with working capital and capacity addition loans being priced differently—risk premiums on one end and incentives on the other.

The 2008 meltdown could, in large measure, have been avoided by controlling just one industry—construction and mortgage-backed securitisation. Industry-focused approach produces results faster, is focused on the causes, and avoids unnecessary spillages and unintended harmful side-effects on other industries.

Sticking to the REER corridor of -4%/+1% on a yearly basis will help in competitive (to the rest of the world) inflation anchoring (of traded/tradable goods and services and thus overall), unless, of course, we import a large portion from the Venezuelas of the world. A 4% undervaluation will somewhat neutralise the loss/lack of competitiveness due to our infrastructural bottlenecks, substandard scales and bureaucratic bottlenecks. Such REER targeting will also determine levels of FPI/FII targets and portfolio investments.

Even if we want to anchor inflation, 6% makes sense, but giving the same width on the underside at 2% does not make sense. Any growing economy needs higher inflation and the corridor for an anchor of 4% may even be 4-6%, instead of 2-6%. Or even just 6% maximum, like highway speed limits.

Inflation, interest rates and volume of credit all have their influence on economic activity with varying degrees, with inflation being the least direct and perhaps most loose, and the volume of credit most direct and perhaps more immediate. Moderating through a more direct tool can be more effective. Interest rates can be the resultant, than being a determinant.
Fuel oil has the largest influence for a single item and should perhaps be under the central control of the GST Council, rather than be a matter of political Centre-state slugfest. Proper control of a few such items could moderate inflation to the desired levels. Indian incentives as well infrastructure are way too uncompetitive, and even as physical infrastructure takes time, one can work with export incentives.

Monetary policies increasingly look like wet blankets to suppress high fever. Without redressing the causes, we will only reap the harmful side-effects. Monetary policies do not seem to have rediscovered themselves in the last several decades with advances in behavioural economics, not even business behaviour.

GST surpluses should be used more purposefully

https://www.financialexpress.com/opinion/gst-put-surplus-to-more-purposeful-use/1248647/

GST collections have been buoyant. The implementation seems to have gone off smoothly after initial fears, making one international indirect tax practitioner to grant that India’s experiment has been a source of positive learning for the rest and ‘no other country has implemented tax changes as fast as India’. As per reports, collections have been gathering pace and June 2019 collections are Rs 6,000 crore more than the average of last year. The GST Council has reduced the rates for 178 items from 28% to 18% in most cases and, in some cases, to 12%.

While the items seem carefully chosen, one does not know what are the alternatives the government considered before coming to the conclusion that such a step would benefit the country most optimally. The unexpected buoyancy should have been used in the best possible way to serve the greatest common good. Instead, the government and/or the GST Council seem to have settled for what looks fashionable. The government/GST Council seem to have erred for the following reasons.
First, almost all tax rates on products and services have come down under GST compared to the earlier regime of excise + CST + VAT and several other local levies cumulated. Yet, the tax collections have gone up. It is only reasonable to conclude that the enhanced tax collections have come from reduced levels of tax evasion, reduced cash transaction levels and more informal sector units getting formalised and thus getting into the tax net, besides some uptick in economic activity. The neo-converts to the formal sector are mostly small and medium enterprises and rural and semi-urban entities.

The government should have kept in mind the sources of ‘excess’ collections and its employment-generating and other distributional effects while deciding how and whom to ‘refund’ it to. There is no need to reward erstwhile tax evaders in the formal sector who have become compliant now. Since a substantial additional GST collections have come from the rural and informal sector, it would have had an impact on the employment levels there or at least reduced their net disposable income. It would be a mistake, if not sheer travesty, to sponge resources from this poorer section and pass it on to items mainly consumed by richer segments.

Second, the lost opportunity to create much-needed employment. Let us assume the government wanted to use the entire excess and it deployed this in employment-intensive and wage-intensive sectors. Let us say wages would account for half, and the other half would be used for non-wage overheads. It would leave Rs 3,000 crore in wages per month. At Rs 5,000 per month per worker, this works out to 60 lakh jobs.

Here are some areas which could have absorbed such a vast army of people. Traffic regulation to bring back discipline on our roads. Against just the belief that CCTVs and cameras would bring about discipline and maintain order on our roads, the presence of uniformed staff at every street corner would have had a far more pronounced impact.

We could have created a plastic/pollution police or litter collectors. The police force alone is short of 5 lakh personnel, compared even with a standard fixed years ago.

Third, it is not that India is a highly taxed country. Its tax-GDP ratio is one of the lowest, considering the number of things it supplies free of cost or at subsidised rates. Most of the government services are in an awful state in terms of delivery delays, due to lack of staff or ill-trained staff. Ensuring safety and security, fast and timely justice, adequate education should all be considered fundamental rights, much more so than six-lane highways and high-speed lanes. For achieving basic standards on these, it is necessary to garner greater resources. It is ironic that we have shrank from collecting resources to ensure basic minimum services.

Distributional efforts may not have the same effect on Keynesian income multipliers as fresh ‘autonomous’ investments and hence indirect job creation may not be much. But, it is likely to be far more advantageous than mere tax-cuts that are being planned now, tax cuts for people with higher than average propensity to save might even shrink employment.

Even from a political angle, it makes more sense to use it for funding low-wage employment. An increase of low-wage employment is more certain to translate into positive votes. One is not sure if the tax reduction—largely in the consumption basket of upper- and middle-class— would induce the beneficiaries to vote positively. This educated class would decide on voting preferences based on a more informed and educated choice than just tax reduction. Several such beneficiaries may not even take the trouble of voting.

Employment generation of the scale talked about here could have alleviated urban poverty in most of our major cities quite fast. Or, if the employment was focussed in rural villages, it would have meant 10 jobs in each of our 6 lakh villages, each with 200-300 households—small yet significant. That would have been the most impactful advertisement for our employment-starved reforms agenda.

For the Poor Interest Rates are more a function of Culture; not arithmatics

https://www.financialexpress.com/opinion/a-poor-understanding-of-monetary-policy/1234554/

For much of poor – rural or urban – in many parts of the world, interest rates are not a monolithic price point balancing demand and supply of credit with variations mainly (if not solely) for credit risks and time duration.

Poor people have been observed to keep currencies for safe custody without any compensation with the same wealthy lender from whom they have borrowed money at  usuary rates of interest. This seems irrational but is compelling to the poor to ensure cashflows for upcoming events like marriage, funeral, school admission, or sowing. This perhaps addresses their ‘fear’ against an irresponsible husband or ‘lack of self control’ over competing short term spending itches.

Nothing can explain so many irrational practices (as formal system sees them) in South Africa surrounding funeral finances. A decent funeral is a matter of prestige and social standing (ranks perhaps number 1 in their Maslows hierarchy) and consumes about half/full years income. Years of zero interest (or even paying safe keeping fees), deposits with funeral societies defeats arithmatic rationality but addresses anxieties on maintaning social prestige.

As the book Portfolios of the Poor reports, moneylenders to the poor almost always collect interest rates in advance and don’t refund proportionate portion for unutilized period on any prepayment. Yet just to feel relieved from the burden/shame of indebtedness the poor pay up most loans ahead of time thus increasing the ex post interest rates by several % points – irrational arithmatic wise but rational mental relief wise. The book also observes practices where people borrow expensive monies leaving savings accounts intact due to a silo (usewise) mentality.

Just no commentator or official have understood the ‘Rs 10.50 in the evening for Rs 10 in the morning’ small trade finances. Simple arithmatic tells us it is more than 1800% per annum even without compounding. But the money lender apart from running counter party risks also knows the purpose and can get into such business himself or set up someone else who can. So why should he not get to share the spoils with the trader. In that sense it is more a share in the joint venture profits not interest. Its just dividends with a Cap in treasury managers parlance.

Surely in the ladder of social shame, borrowing ranks somewhere sub-ordinate to other social compulsions (gifts and donations in marriages, funerals, festivals, religious functions, etc), medical emergencies etc. Otherwise they wont be borrowing. Borrowing for economic purposes like for sowing, cattle buying, houses etc. may be justified on rational grounds. If Governments want the poor to become rational, they may have to invest a lot in social education and training to move up indebtedness and make other non economic needs less shameful than borrowing.

In fact this sense of indebtedness and shame from failures to meet obligations and social policing have induced repayment discipline amongst the poor. This is a great social collateral which the formal systems refuse to recognise or promote.

Most poor cannot count; even if they can, most don’t

Many studies indicate that in their decision on when to borrow, from whom (for some loans from next door neighbour is preferred, for some relatives but some other purposes it is considered shameful to borrow from them), and when to repay or prepay, the arithmatic of interest rates weighs far lower as compared to a rational person. Culture, social customs, peer pressure, shame and fear, family pressures decisively overshadow the arithmatic.

Thus when the RBI’s appointed committee put caps on the interest rates charged by MFIs as the main weapon to deal with some events in the erstwhile combined Andhra Pradesh, it only betrayed its lack of understanding of the financial culture of the poor. The arithmatics of interest rate may work better for formal systems, between banks and financial markets, in cities and amongst the rich and heavily banked but not amongst the poor.

The poor levels of financial integration and inclusion in india is the result of this lack or refusal to understand the culture. RBI (or its equivalent monetary authorities) should stop their colonising mindset: they should not  supplant the financial culture by dictating the price, acceptable instruments and institutions. Formal form over substance KYC’s can never match the KYC of the local moneylender whose self interest is locked in with his customers fortunes.

Establish the role of money first before seeking policy effectiveness

Before trying to establish the suzerinity of its policies over the rural and poor India, RBI should first establish the hold of our currency (Rupee) on the poor. For some of more important functions of money the poor trust its surrogates more. Gold (cows in Swaziland or cattle in many parts of Africa) has much more dominance in store of value function of money and to a limited extent even in liquidity and transaction demand. Policies and schemes about Gold over the years have been rather unimaginative. The high levels of informal economy does not help either.

Some aspects of the financial culture of the poor described above also come out of fear and anxieties, cashflow uncertainties, ill timed arrival of cultural exigencies, etc. These can be overcome to a large degree by appropriate insurance whose penetration is very poor now. Proper insurances on various cashflow risks that the poor face, will release a lot of gold and make the poor adopt a more ‘rational’ and self-optimal practices.

Indian authorities should subsume the existing system into its network by refinancing money lenders and accepting social collaterals, finance Nidhis and Chit funds, etc.; instead they erect barriers against such practices on institutions which seek to use the available conducive social infrastructure.

We should of course continue to educate the poor communities about the arithmatics so that wherever possible the poor could act rationally, including proper search of alternatives in their own ‘irrational’ markets.

A regulator who fails to have a grip of the market culture, market practices or interact with its participants continuously to gather market intelligence and spot any significant trends and shifts, is bound to falter. East Asian societies like Indonesia (as spread out), Malaysia, Vietnam (as dense as India) have not tried to supplant the local systems but have sensibly allowed them to co-exist and serve their societies.

 

The Irrelevance of CCI in an Open Economy

https://www.financialexpress.com/opinion/decoded-relevance-of-competition-commission-of-india-in-an-open-economy/1193644/

Like particles behave unpredictably under zero gravity in Physics, in economics what works well in a closed economy may not work that effectively in an open economy and vice versa.

The current controls over monopolies, anti-competitive practices, abuse of dominant positions and mergers exercised by Competition Commission of India (CCI) seem inappropriate for an open economy.

Somehow, from the days of Joan Robinson whose work on imperfect competition is the basis of such market interventions, lesser prices are taken to mean better consumer welfare in our socialistic mindset. Indian telecom market which has expanded solely based on cheap and cheaper prices is an example of how unremunerative  prices can destroy consumer welfare and lead to shoddy services: you cannot even say ‘I love you’ to your beloved on cellphones these days without 3-4 call drops in between.

As it stands today, India is a considerably more ‘open economy’ and particularly more so since ASEAN-FTA, trade agreements with S Korea and Japan from where virtually most goods are available at zero duty at cheaper import parity prices and from China despite duties.

Most manufactured goods can be freely imported – so how can anyone (or in collusion) control or manipulate prices and fix them beyond import parity prices? Conversely, if the Indian prices are lower despite nil-duty imports, it only signifies domestic industry being competitive – so what’s the grouse anyway. Indian firms would be exporting in such cases.

In an open economy the comparative competitive landscape is not just Indian firms alone but includes other relevant supplying countries say China, ASEAN, Japan, Korea and some others, over which CCI has no control. Controlling only the domestic subset leads to loss of competitiveness. Bangladesh and Vietnam have taken a huge part of our share in Textile trade (the prime reason for bleak domestic employment scenario is textiles, potentially our largest employer) due to scale economies: average firm sizes in BD and Vietnam are 10-20 times that of India’s. In some cases, a single machine or unit in China manufactures what the entire Indian industry manufactures or consumes. Scale is an essential component of efficiency and competitiveness and restrictions on them are self-destructive.

Indian regulators have often gotten into the morals of pricing – the very antithesis of free markets. Indian agri produce markets are the most ‘perfect’ competitive – many tiny producer sellers and many individuals buying: the ideal of any Robinsonian economist. Yet from time to time, Tomato and Onion prices fluctuate like an ECG graph whose needle has come unhinged – much more violently than tractor prices, airline prices, white goods, and electricals. Should the CCI get into controlling Onion and Tomato prices and underlying market practices? These have more impact on the daily lives of more people on the brink than many manufactured goods.

Does collusion work in India. Price is the main driver for most consumer decisions in India. Its not unusual to find a Mercedez buyer  bargain for a free key chain. In markets where demand curves have high elasticity there is very limited scope of manipulating prices by firms: small hikes in prices will drive away lots of customers to alternative products. Competition legislations are relevant more for inelastic demands.

Collusive price hikes would lead to reduction in sales in price sensitive markets. But who would volunteer to take these cuts like Saudi Arabia does for Opec? If demand is weak, most players would want to jostle with others and gain market share. If demand is inelastic and hefty price increases are possible with small cuts in production (very few such examples in India: can washing machine manufacturers cut production by say 5% and achieve 25% price jumps?), will any player cut his volume and watch others make money at his expense? Preposterous.

As economist William Baumal concluded over half a century ago, firms are more guided by sales maximization and other such proxies than profit maximizing in their behavior.

Collusion requires co-operation. Where sly and open evasion of every rule or tax-laws are the norm, gentlemen agreements or voluntary self-controls in India is unthinkable. We are terribly competitive in our behavior: otherwise you won’t see such uncouth queue jumping or impatient driving or ‘one for each day in year’ number of national level political parties. Giving up for greater good is just not in our bloodstream.

The right focus

Why be concerned with B2B transactions when both parties are informed, experienced and likely to behave rationally and not psychologically pressurized? Far more collusive behavior is witnessed in B2C transactions say between a doctor (prescribing tests upon irrelevant tests, refusing an operation unless you pass the ‘show me the money’ tests) drug firms and diagnostic labs or between lawyers, a legal system completely under their thumb and hapless clients. To focus on such B2C transactions would be far more welfare additive. CCI should focus more on beefing up enforcement and delivery of consumer protection laws.

Competition laws should definitely be concerned where the products or services are priced below their variable costs. A society not paying variable costs is wasting resources. Such cases in telecom, power and petroleum pose huge systemic risks to the financial system.  In any case why would an Ola or Uber recover less than variable costs unless it is to drive away competition and start exploiting when others have folded up. Such practices are a matter of larger concern, but don’t seem to merit the attention of our CCI.

Competition laws should not be concerned with products can be imported at zero duties or are being imported in large quantities despite duties or products of discretionary expenditure. Why be concerned with scale or prices of consumer electronics, white goods or cars except to ensure that contractual obligations are adhered to and people are not ‘cheated’. Let the consumer choose to stay away, if they are not satisfied with service – after all it is discretinary.

Competition laws should kick in only when firms reach one-half of ASEAN’s biggest capacity. It can be applicable for life saving drugs or non-discretionary products. Others can be followed up based on surveillance or based on grievance from end users.

There are several areas where there are no market structures or performance of existing ones is poor. The commission should work out structures in those areas (example: market structures for electronic wastes, scrapped automobiles, vehicle parking, rural finance and insurance, Public distribution systems, etc.)

CCI in our open economy context seems more a status symbol pining to belong to economic fashion street.  If Make in India refuses to get up, sub-scale will be one key reason and legislations like CCI will have a lot to answer for. India badly needs to consolidate and scale up for cost competitiveness.

Make in India spoilt by persistent low manufacturing inflation

A Copy of this appeared in Financial Express on 12-03-2018. Link: http://www.financialexpress.com/opinion/make-in-india-delivery-patchy-heres-why-rethinking-is-needed/1094828/

V Kumaraswamy

Make in India is one of the key cornerstones of the current government to raise growth rates and create employment. It has been almost 4 years since the Make in India was launched with much hope and fanfare. The Government has initiated several useful steps and reforms to actualise it. The most recent upgrade in credit rating and 30-odd points jump in Ease of Doing Business will get us some mileage.

But it is clear that the delivery of Make in India is rather patchy. Several reasons have been advanced for its lacklustre show – highly overvalued currency, unfavourable ASEAN FTA, tight and unyielding monetary policies, very high real interest rates, high logistics costs etc. All of them have a degree of truth.

But it has to be recognised that beyond all these, an entrepreneur or corporate will invest only if they get remunerative prices returns are competitive to what the other sectors yield. This last aspect has not been addressed at all by the Government or inflation conscience keepers. Had this single factor been corrected, Make in India would have had a far better report card to show.

Nature of Indian Manufacture

Indian manufacturing is not high tech where heavy engineering, high end electronics, aircraft and space crafts, ship building etc. dominate. It is relatively low to medium grade in its maturity. It has a heavy dominance by industries which prepare or convert produce from agriculture for domestic consumption.

To give a few examples: Textile sector (the biggest industry by employment) is dependent on agriculture for cotton supplies and silk which can account for about 60% of final product costs, Sugar industry on sugarcane, Cigarette on tobacco, Beedi industry on Tendu leaves and tobacco, Vegetable/ cooking oil industry on sunflowers, groundnut, sesame, Food processing industry on wheat, maize, fruits, fish, poultry and Dairy industry on milk. Roughly 40-45% of Indian manufacturing sector depend on agricultural for their inputs. And a few more for inputs from Mining.

It is important to maintain a balance between input and output prices in these sectors and they should ideally move in tandem, if the manufacturing sector has to stay attractive for investments.  In India since agriculture feeds industry and industrial final goods are sold to those in rural and agriculture areas, any persistent imbalance could hurt both.

Our Manufacturing Prices are down 41% since 2004-05 in relative terms.

Terms of trade in international trade means the prices a country gets for its basket of export goods versus what it pays for its imports and how the relative price moves over a period of time. In domestic trade it means how the prices which a sector gets for its output moves in relation to the prices it pays for its inputs from other sectors.

From 2004-5, the terms of trade have been relentlessly moving against Manufacturing. If the manufacturing sector has had to pay 165% more for its key inputs from agricultural sector, it has been able to recover just about 57% from its customers. If Agricultural input prices are taken as the base, the manufacturing sector is getting nearly 41% less today for what it sells to other sectors compared to what it pays for agri inputs. (see Chart)

WIN_20180312_21_17_06_Pro

At one level it helps transfer of income from non agriculture sectors to rural and agriculture sector and thus corrects income skewedness. But a consistent increase of this magnitude has continuously eroded the margins of the manufacturing sector to unattractive and unsustainable levels leading to lack of enthusiasm in investing.

Reasons

Year on year for almost a decade and half, Agri inflation has been more than parity. This has come about by steep and arbitrary increases in Minimum Support Prices (MSP) announced by the Centre for many crops, especially in 2009-10, 10-11, 12-13 and 13-14 possibly due to electoral compulsions (see Table). Although MSPs are restricted to certain crops, farmers tend to gravitate towards higher MSP yielding crops till the yield per hectare for other crops equalises with those under MSP. Thus MSPs impact transmits with a lag on other crops as well. One has witnessed a similar phenomenon in rural wages consequent upon implementation of NREGA.

On the other hand,  ASEAN FTA agreement has more or less put an effective ceiling on the prices that manufacturing can recover for its end products. Free trade has more or less made recovering cost inflation through domestic price increases an impossibility over the years. India’s over-valued currency has played a spoil sport on top of these.

Need for Correction

India’s growth story to continue requires Indian manufacturing to expand and diversify and create employment for those released from rural and agri sector. As the sector saddled with the responsibility of creating jobs for those entering the market, it should be the one which is relatively more attractive. Unfortunately, things are exactly the opposite for the last decade and a half relentlessly.

Ease of doing business can contribute to encourage entrepreneur by making the state machinery less intimidating but it cannot alter the base investment arithmetic of Return on Investments (ROIs).

Year Wise Inflation for Mfg and Agri Products                     (2004-05 = 100)
Year Mfg Inflation Agri Inflation Agri Inflation / Mfg Inflation
2005-06 2.4% 3.4% 140.3%
2006-07 5.7% 8.8% 155.4%
2007-08 4.8% 8.0% 167.0%
2008-09 6.2% 9.9% 160.9%
2009-10 2.2% 13.1% 589.6%
2010-11 5.7% 17.0% 297.9%
2011-12 7.3% 7.8% 107.6%
2012-13 5.4% 10.0% 185.5%
2013-14 3.0% 11.2% 370.7%
2014-15 2.4% 4.7% 195.8%
2015-16 -1.1% 3.4% NA
2016-17 2.6% 5.0% 195.0%

 

The approach announced in the recent Budget for MSP fixation might lend stability and certainty. If the MSPs are linked to the input prices which should include manufactured items like fertilisers, pesticides, seeds, etc. the inflation of manufactured products would have a decisive say in the agri inflation and hence MSPs. They would get inter locked.

Details are awaited on the exact scheme. Even if a margin of 50% is built in (which should take care of imputed interest, rent and profit besides inflation of inputs), it would build some parity and hence rein in persistent deterioration of adverse terms of trade against manufacturing.

Even so the heavy backlog built up since 2004-05 would need to be corrected if manufacturing is to see green shoots again. The States also should have a say in the future FTAs; they should have a choice of what industries and products to offer for free imports and what products to seek exemption from our overseas importers. States should also have a say in the fixation of MSPs.