‘Global Recovery Is For Real’

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Global economic recovery is for real, believes Lord Meghnad Desai, one of the world’s leading development economists, and Professor Emeritus at the London School of Economics. He is also a Member of the House of Lords. On his whistle-stop tour of Mumbai last week, he spoke to K K Mishra on varied topics ranging from recovery from global recession, the Indian banking system and political reforms. Excerpts:

Is the global economic recovery real?
Yes, it’s real. I think there are two things going on which have been mixed up. The output recession started before the financial crisis started in the US sometime in the middle of 2007. Also, because at that time, there was a commodity price boom due to speculation, prices started rising and central banks tightened interest rates. So the financial crisis came after the output recession and it prolonged the output recession. Financial crisis has now been stemmed in the sense that a lot of money has been given to banks to avoid dumping their toxic assets on the market. So that, in turn, has helped repair their balance sheets and they resumed business.

That process is now turning around very slowly. America is slower than France and Germany, UK is slower than America. There seems to be a broad V-shaped recovery happening in the west. China and India are only having a growth slowdown. There is no recession in that part of the world. In America and England there is a big debt problem but they have a ten-year perspective and in that they have to sort out the debt crisis. France and Germany are very orthodox. They have not gone for very large pension packages. They are very careful about public debts and so it looks like they are coming out of recession faster than the US and UK. So by and large the worst of recession is over.

What are your views on recovery in India and China?
China has tried to do immense stimulus packaging of expenditure on infrastructure. It will be effective but they have not yet done the long-term shift of their economy from export dependence to domestic market consumption. We don’t know whether they will be able to do that or not. India has never had much export dependence but it is realising that it is sensitive to export recession. [PAGE BREAK]

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India also has a problem in that its public finances are bad not because of the recession but because they bought the election.

The Rs 60,000 crore to be spent on farmers – that was the way they bought the election. I won’t blame them since any government would buy the elections if they had the money.

Deficit was just being brought under control by P Chidambaram for four years and now it has gone up again. People don’t realise that the problem with a captive banking system and a government which issues debt makes interest rates very high in India. It is very hard to bring down the rates and so the bond rates are several percentage points higher than elsewhere in the world. And that, I think, coupled with drought is making the Indian recovery slightly more delayed.

Do you think Indian banks are insulated from crisis?
I always say that somewhere Indian banks are protected because eventually Indian banks are not such full-fledged banks. They are glorified post offices. I am astonished how large the transaction costs of banks are in India. The normal thing one can do in a commercial bank in Britain is something you can’t even think here. There are several restrictions. But more than that, I think given the size of the domestic market Indian banks should be much higher up in the international league than Chinese banks. There are no Indian banks in the top 50 globally.

They have also failed to tackle the problem of credit. And that’s the reason we still have farmers committing suicide. The flexibility with which rural credit should be provided has not been done so by the public sector banks. So in essence they were all waiting for March 2009 when foreign banks were to be allowed to acquire Indian banks. However, recession has postponed that. I still believe that Indian stock investors have escaped the recession because the fundamental cure of the financial cycle has been postponed.
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Do you think bank nationalisation has played any role in this?
I gave a lecture at the Bank of Baroda’s centenary function two years ago and I pointed out that that was a big mistake. Until then the Indian banks were in perfectly good working order. There was nothing wrong with them. There had been rural credit. Nationalisation made public sector banks creatures of politicians. A lot of the bank loan portfolio was very dubious. It was driven by political considerations. Banks are service institutions and here banks have a large domestic market with very friendly, passive depositors and consumers. But here also a lot of businesses would prefer to go to foreign banks.

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You seem to be very much fascinated with the Nehruvian era. Can you summarize economic development right from 1947 to date?
I basically consider that in the Nehruvian era we had all very idealistic and honest people. But they failed to transform the economy because of two reasons – partly because it’s not only that they used planning but their whole perspective of the economy was anti-business. In Malaysia, Korea, Singapore and so on they used planning but they used it with a pro-business attitude. So they helped create dynamic entrepreneurs. They gave them money and they let them export. You use the state. It’s not the state versus market. So it’s all about pro-business state and anti-business state.

Because of Panditji’s socialist inclinations there was hostility. In 1947 there was an established, efficient, private business class. They were very badly treated. That was one reason. The second reason was that Nehru’s priority was national security and not economic security. His priority was to build a military industrial complex which could make India self-sufficient in defence production. But there is a choice a country makes. You can fly a mission to the moon, you can make a nuclear bomb but you don’t have a good healthcare or a good education system. He chose a very capital intensive path which did not create employment. So there was no growth and the scarce savings India had were misallocated to heavy industry. What it meant was that India for over 40 years was stagnant and there was no growth.

Later, governments improved a bit but they improved it by borrowing from abroad. The big rise in growth rate in 1980s was because Indira Gandhi abandoned national self-sufficiency in terms of defence and borrowed money. Then they did transform the economy. That model again crashed in 1991. So India really resumed economic growth in 1991. It’s really very sad but perfectly well-meaning people made a complete nonsense of economic growth. [PAGE BREAK]

Those attitudes have now been revived by the revival of Congress. I think on one hand Manmohan Singh and Montek Singh Ahluwalia’s thrust  is more on liberal reform, more FDI, go for double digit growth rate and on the other hand, Pranab Mukherjee, and to some extent Sonia Gandhi, are very defensive and very protective about giving a lot of subsidies to the rural poor.

Subsidies don’t actually cause growth. They may relieve suffering but they don’t actually bring people permanently out of poverty. NREGA is an example. People will say they are building roads and so on but they are using unskilled labour. So there is that conflict right now in Indian policy-making. When Chidambaram was the finance minister we had three people who thought in a similar way. Chidambaram, Manmohan, and Ahluwalia wanted liberal reforms.

In that way do you think socialism has proved a burden? What was this so-called socialism?
It was top heavy state planning. It prevented the private sector from growing into new areas and created a lot of corruption. All that meant was that some people who were either in the public sector or workers in a large organised private sector were protected. 

That was about 10 per cent of the workforce. Because of this protection, hiring and firing was not prevalent and that in turn prevented growth even in the rest of the 90 per cent of the labour force.

Do you see India becoming an economic power in the near future?
It has to improve the quality of its people. Education here is of a very poor quality with far more government intervention. You have a structure like the UGC which is completely useless. India has to come out of this and get serious in becoming a big economic power.

So you think it will become one?
It can become. I won’t say it will become. I think it will become one much more slowly but it could become so much faster. India is waiting for its younger generation of people to be at the helm of affairs. Old people should get out of politics. Let’s have a generation change.