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The road ahead for the new FM
Ila Patnaik
Business Standard, July 03, 2002

The first job should be to tackle corruption and evasion of excise duties

Jaswant Singh has inherited a difficult job — putting the Indian economy on a higher growth path. His job is made even more difficult because the government and the ruling alliance lack a clear vision as to how to do it. Indeed, Yashwant Sinha was a victim of the lack of a clear economic agenda. In attempting to accommodate various pressures and lobbies he was unable to give a firm and decisive leadership to the economy.

Fortunately for Mr Singh, on a number of fronts where action needs to be taken, fire-fighting is not called for. So, for instance, even though the fiscal deficit is high, inflation remains low and interest rates are soft. This is fortunate because that means even though this is one of the most pressing problems facing the finance minister today, he need not be forced to take merely short-term remedial action.

Instead, he can concentrate on better implementation as well as rationalisation and simplification of the tax structure. This means eliminating income tax exemptions, replacing excise and service tax by a single VAT and reduction of custom duties.

Recent reports that 95 per cent of excise duties are paid by only 4,000 firms (Business Standard, June 17) revealed the shocking extent of tax evasion and the near-complete breakdown of the tax collection machinery in the country.

The first job of the minister should be to tackle corruption and evasion of excise duties. This is clearly a matter of implementation directly under the purview of the finance ministry and it involves no political battles. Nor does it require an extensive understanding of economics.

On the customs front too, Mr Singh is lucky. The current account deficit is so small that it can be allowed to increase. This means that import tariffs can be reduced and rationalised (there are too many rates now) without worrying about the impact of higher imports on the trade balance.

However, his political and diplomatic skills may be called for because vested interests, especially in his own party, will importune him. Mr Sinha accommodated these demands. Will Mr Singh be able to resist them in the larger interests of the economy?

On the expenditure side Mr Singh has a much bigger job. The issues are not merely of implementation and rationalisation. The distinction between desirable expenditure and non-desirable public expenditure has become increasingly blurred. Distinctions — between plan expenditure and non-plan expenditure, and between revenue expenditure and capital expenditure — that economists traditionally swore by are no longer yardsticks.

The government now needs to re-evaluate all public expenditures. Expenditures that do not produce public goods should be revaluated and mechanisms for producing public goods should be re-oriented towards greater efficiency.

The minister should concentrate equally on banking. Despite some reforms, the health of banks in general, and public sector banks in particular, remains precarious. Recently, public sector banks have shown a profit growth of over 100 per cent. But this seems to be largely driven by a drop in interest rates.

The fall in interest rates raised the price of government securities. This helped banks with large holdings of government securities to make huge profits. These numbers should not be allowed to lull the government into complacency. The unwillingness of banks, especially public sector banks, to lend is resulting in banks diverting savings away from the private sector. Also, it is widely believed that if non-performing assets are measured accurately, they may be much larger than currently believed.

Clearly, the job of the government is not to bail out banks or merely protect the interests of depositors and their political interests but to improve the health and stability of the financial system and resource allocation in the economy.

While paying taxpayers’ money to banks and UTI has managed to purchase stability, it has failed to win over voters. This highlights the difficulties in PSU finance firms, which feature poor staff skills, poor work incentives, political interference, and an ultimate use of the government as a safety blanket.

Mr Sinha proposed to bring down the government shareholding in public sector banks to 33 per cent “while retaining the public sector character of banks”. Presumably, this meant that control and management should remain with the government. Mr Singh should be much more clear and unambiguous with his proposals. If the solution lies in privatising these banks, he should make no bones about it and not look for meaningless compromises between politics and economics.

One of Yashwant Sinha’s success stories was the equity market. He supervised the transition to rolling settlement, the onset of equity derivatives, and the demutualisation of the BSE. He then tried to initiate a process of importing ideas and institutions from the equity market into the debt market, but obtained limited success. The new FM should set about bringing the debt market up to the standards of the equity market.

The RBI’s slow progress on the payments system is a serious problem. Swift movement of money across every corner of India is a vital piece of infrastructure which is missing. The new FM should find a sound implementation team that has the technological and managerial capacity to swiftly and soundly execute this IT-intensive project.

To do all this, the first thing Jaswant Singh needs is a team of highly competent and non-partisan professional economists in the finance ministry — a team that would help him lay out his objectives, priorities and plan of action.

Today, the key post of the chief economic advisor lies vacant. The post of the secretary, economic affairs, will become vacant soon. Filling these with top-notch economists will give him a clear edge.

The team could then help design sound policies. At the same time, the reputation of the team would give the policies enhanced credibility. It would improve the ability of the finance minister to resist political pressures responsible for poor policies.

Populism will not work. Only firmness and being uncompromising on key economic issues can push the economy on the 7-8 per cent growth trajectory that Mr Sinha could only promise but not deliver.

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