Playing snakes & ladders with economy

I have said in the past that the progress of Indian economic policy is like a game of snakes and ladders. Whenever a winning streak takes the economy up the ladder, it meets the snake and there is a setback. It started in 1962 and has been repeated at regular intervals since the last snake in 1997.

Since the present government took over in 1999, Indian economic policy has been set in the right direction for the last three or four years. But the snake seems to be about to strike again, judging by the succession of regressive steps announced in the last couple of weeks.

First there was the decision of the Supreme Court that the government will need to go back to Parliament to get approval for divestments in HPCL and BPCL, which were set up under Acts of Parliament.

Of course the ministers and bureaucrats in charge of PSUs are very happy with this decision, as they can hang on to their fiefdoms with all the patronage that it brings. Relying on them to pilot a divestment proposal through Parliament will be like asking the turkey to vote for Xmas!

The saving grace is that it is a judgment delivered by a two-man bench and can be taken up in appeal to a larger bench. Hopefully Arun Shourie, who is courageous and honest, will do this. But it will take several months and a prolonged period of uncertainty.

Whatever may be the ultimate outcome, the Supreme Court decision has certainly created uncertainty among potential investors about the reliability of government policies.  It also highlights the greater risk that such challenges can be mounted by any citizen, even after privatisation.

The second snake that has emerged in the recent past is the decision of the finance ministry and RBI to abolish special provisions for NRI/OCBs. Indian politicians, including the Prime Minister and senior bureaucrats, have campaigned among NRIs in Europe and the US and exhorted them to invest in India.

In fact, the Prime Minister is in the US right now, asking NRIs to invest in India! The NRI/OCB policy was designed to give NRIs a distinct status, better than that of foreign investors.

The concessions were mainly two-fold viz. (a) an NRI could have a higher level of shareholding than a foreigner in certain sectors, and (b) tax concessions for investment routed through countries like Mauritius and Cyprus, with whom India has special tax treaties.

Many NRIs took advantage of these concessions and formed NRI OCBs in Mauritius more than a decade ago. Now they have to suspend their operations.

The ostensible reasons that provoked RBI to take this drastic action could be (a) some FII's misused this route by forming so-called NRI companies; (b) that this route was used for recycling Indian funds to benefit from the tax concession.

Since the number of countries for sourcing such investments and availing the concessions is limited, the government could well have arranged with those countries to tighten their own scrutiny and controls.

Indeed the government of Mauritius is already doing this.

That would have been a simpler solution than suddenly de-recognising NRI/OCB's without taking into account the consequences in terms of our credibility as a country that provides continuity of policies. Why throw away the baby with the bath water?

It is time the government and RBI gave up their obsession with controlling foreign investment from external sources.  Most of what is coming into this country through NRI/ OCB's, or as FDI as investment in Indian companies, is not hot money.

It is investment by genuine investors who happen to live abroad and are willing to take the risk of investing in India. And God knows that India needs more investment in several sectors. Why frighten them away?

Contrast our government's attitude with that of China. Deng Xiaoping laid down the dictum that it did not matter whether a cat was white or black as long as it caught the mice. They set up special economic zones so that overseas Chinese and others could invest in China without any questions being asked about the source of their funds.

Most of it came from Taiwan, with which China is almost at war! Today China has $ 400 bn of foreign exchange reserves and an annual inflow of FDI, which is 20 times that of India.

The fact that we have $ 80 bn of foreign exchange reserves is no reason why the RBI and government should take such arbitrary steps to "improve the quality of investment flows", as they claim.

What they have done will shake the confidence of international investors, which was built up from the time of Manmohan Singh till the time of Bimal Jalan as RBI governor.

Long-term investors -- NRIs and foreigners -- will wonder whether the foreign investment policies of India change every time the governor of RBI or the finance minister changes.

The third snake that has been roused in our path is the failure at Cancun. India would have been one of the main beneficiaries if the US and the EU lowered their protection barriers in key sectors.

With the failure in Cancun, we are now exposed to the possibility of having to negotiate bilaterally with the US and EU.

We have almost no bargaining power against them because on the one hand they have the markets and on the other hand they can well do without their relatively small exports to India.

If as a retaliatory measure, the US were to raise barriers on Indian service companies in the IT and other industries, we will suffer. It was unwise of India to take the lead in ensuring the failure of Cancun.

Our minister probably enjoyed the limelight, being an able orator and legal expert.  He won the battle of words but lost the war of trade! By aligning ourselves with economically insignificant African countries like Chad, Mali and Burkina Faso, with whom we have very little in common, we have made ourselves targets of resentment and possible retaliation.

In the end, the Africans will compromise or will be bought over by EU through promises of aid. In fact, they are already negotiating the price for their falling in line. Brazil is tied too closely to the US to stand up for too long. China is anxious to strike a deal and enjoy the benefits it has as a new member of WTO. So India could well turn out to be the fall guy in this encounter of unequals.

In any case, what moral justification have we got to preach to the US or EU, when India has 112 per cent import duty on agricultural commodities, Egypt has 62 per cent, and Brazil 37 per cent. Our politicians, who abstain from collecting electricity charges from farmers, should understand the plight of European politicians and US who are equally scared of offending their own farmers.

Those who live in glasshouse should not throw stones at others. Our best bet now is to open negotiations with the US and EU. We should learn that negotiations are not legal cases and negotiators have to be skilled in the art of compromise, which is not won by arguments alone, but by a combination of logic, charm and humility -- the last two of which many of our representatives seem to lack from the time of Krishna Menon!

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