Sustaining Growth In An Unfriendly World – Analysis

India can offer an alternative model aligned with the “open economy, freedom, democracy” matrix, if it can boost its tax to GDP ratio to generate the resources required for sharing growth.

By Sanjeev Ahluwalia

Put it down to the heavy snow in Davos or to a rare case of blunt honesty by an international agency. Whilst sharing the good news of the revival of the world economy in 2017 and its expected continued growth till 2019 at 3.9%, Christine Laggard — the IMF Managing Director, cautioned that 20% of the developing world was not part of that revival, tinging the WEF celebrations with sobriety.

India’s angst is real with growth dropping to 6.5%, versus the 7% plus real growth of recent years. We are new to this business of high growth. The two decades from 1980 to 2000 only had a growth rate of 5.7% per year. It is only post 2000 that a growth rate of 7% per year become part of our expectations. In comparison, China’s high growth period of 8 plus percent per year — with minor annual deviations — began in 1977 and continued for over three decades till 2011.

The 1970s and 1980s were a good time to grow. Under the General Agreement on Trade and Tariffs (GATT) the Kennedy, Tokyo and Uruguay rounds of negotiations (1963 to 1993) reduced average tariffs from 22% to 5%. World exports as a share of world GDP increased by 40% between 1972 to 1982 (from a level of 14% of world GDP to 19%). Over the next two decades, till 2002, world exports further increased by nearly one third to a level of 25% of world GDP. The bulk of Chinese growth happened during this period of trade liberalisation.

For India 1962 to 1982 were decades lost to domestic political headwinds. We liberalised, tentatively, from 1985. But reform put down roots only from 1992. By then world growth had tapered off. During the quarter century after 1992 till 2016, only in four years, did the world grow at 4% per year or more. In the quarter century before 1992 there were 14 years when growth exceeded 4% per year with 1964 being the high point at 6.7%. India has struggled against the declining trend in world growth to pull itself up. Fresh challenges can be expected over the next decade.

The world grew rapidly using the “open economy” model over fifty years till 2008. Is it now broken? And did rising inequality within economies kill it? And are we now left only with the long, dark alley of “directed Chinese capitalism”, as a viable “growth model”?

India can offer an alternative model aligned with the “open economy, freedom, democracy” matrix, if we can boost our tax to GDP ratio to generate the resources required for “sharing growth”. The combined revenue receipts, in India, of governments at all levels is 22% of GDP.

Meanwhile public outlays are critically short in health by 4% of GDP; education by 3% of GDP; infrastructure by 3% of GDP and defence by 2% of GDP. This adds up to 12% of GDP.

Around one third of the additional fiscal resources could come from continuing to grow at 6% per year – an achievable target. Another one third could be met from non-tax receipts like from privatisation and by targeting and distributing pro-poor subsidies digitally. But we cannot escape increasing our tax to GDP ratio to 26 % of GDP.

The drive against corruption; stricter adoption of banked transaction norms and the increasing popularity of digital transactions and online marketing are expected to ensure that tax collection in fiscal 2018 meets the budgetary targets of INR 19 trillion (including state share of INR 6.7 trillion).

This is despite a reduction in the budgeted nominal growth of GDP over last year from 11.8% to 9.5%. This buoyancy gives hope that continued rationalisation of tax rates; improved assessment and review processes and fairer and faster settlement of tax cases will induce better tax compliance.

We should learn from China how to devise local incentives for enhancing revenues. 99% of the 50 million Chinese officials are locally recruited and are never transferred away. They are truly a “permanent” bureaucracy.

Secondly, a significant part of their pay is linked to the fiscal health of their local unit. A healthy unit means higher bonuses and benefits for employees. Fiscal downturns bring austerity even in the take home benefits for employees. This close and sustained identification of officials with local offices and the localities where they exist, creates a shared bond between citizens and the officials — all of whom sink or swim, together.

In India, officials are birds of passage, even at the village level. Their take home pay and benefits are completely unlinked to the fiscal health of the local office or the locality they serve in. It is no surprise then that rent gouging is widely prevalent with no concern for making the locality or the employing organisation fiscally healthy.

The Chinese government does not habitually, bail out bankrupt local governments. They must work themselves out of the holes they dig for themselves. At the same time, the government does not hesitate to formally allow policy departures, at the local level, driven by exigency. Ironically, this makes “authoritarian” China, extremely decentralised and participative, whilst India — part of the “free world”, looks hopelessly rigid and centralised.

The WEF has cautioned that the near-term future is full of security, climate, technology and economic risks. They advise that resilience is the best antidote to risk. For complex organisations, enhancing resilience means embedding flexible, modular structures and business relationships, which allow the freedom to alter the scale of operations to fit demand and to cultivate innovation and the capacity to work at “the edge” of the frontier. Tellingly, none of this is aligned with a heavy top down, centralized, cookie-cutter, approach. Change is upon us. We must bend lest we break.

This commentary originally appeared in The Times of India.