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Rediff.com  » Business » The mullahs of economics

The mullahs of economics

By T C A Srinivasa-Raghavan
February 14, 2004 16:23 IST
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Back in 1980, just after the Iranian revolution, The Economist asked Godfrey Jansen, who was based in Beirut at the time to write a long report on militant Islam... Jansen, who died in 1998, was an Indian and an alumnus of Presidency College, Madras.

He wrote a brilliant piece, which he later converted into a small book at Oxford. It is called Militant Islam and advertised by HarperCollins on the Net as a rare book.

As with all attempts by journalists to examine serious issues, the academic world took little note of it. I have never seen it in any bibliography on the subject of Islam, militant or otherwise. Yet, Jansen provided two fundamental insights about Islam.

One was that the militancy in Islam was always there and it was the result of it being a 'young' and therefore vigorous religion, barely 1,300 years old.

The other was that ever since what he called the 'gates of Ijtehaad', or the right to question, were closed in the 12th century, Islam lost its ability to reinvent itself and remain contemporary. The combination of the two, he suggested, was utterly perverse.

I mention this because a few days ago I once again got into one of those interminable wrangles about economic orthodoxy and the way in which it was heckling economic management all over the world. I said it was no different from the way the mullahs heckle governments in Islamic countries.

The similarity with Jansen's insights are unmistakable. Economics, in its current avatar, is a young and vigorous discipline and it seems to have closed its gates of Ijtehaad sometime in the early 1990s, after the collapse of the USSR.

It runs the danger of losing contextuality that is so essential for social science theory to be successful. You must agree with the Ulema or be declared a heretic. The same thing happens with the economists of the Left, by the way.

Since I have been accused of writing about economics when I have nothing else to write about, let me mention two recent and specific cases of such heckling by the orthodoxy.

One is the fuss over interest subsidies that Jaswant Singh is offering to farmers; and the other is the fuss over regional trading arrangements, (RTAs) that India is belatedly persuing. India is a latecomer to RTAs because it is a latecomer to world trade.

The orthodox economic view on both, I am afraid, is wrong.

The core of the argument about interest subsidies -- that is, the practice of lending to some classes of borrowers at lower rates of interest specified by an external agency such as the government -- is that there should be only one price for money and further that this price should depend almost wholly on the cost of borrowing plus the cost of overheads of the banks.

Any deviation from this should depend on how the management assesses the riskiness of the loan, not on a mandated rate which 'distorts' the price of money.

Exactly the same argument -- about distortionary effects -- is made about RTAs. These, it is said, deviate from the purity of multilateral trading arrangements which, even though there is no conclusive empirical evidence for it, are said to promote the economically efficient allocation of resources across and within countries.

Actually, RTAs are aimed at managing risk and maximising capital efficiency and employment in the medium term. RTAs should probably have a sunset clause.

RTAs are also accused of being a revival of the old South-South idea, whereas in fact they are simply what a political scientist friend of mine calls "practical regionalism". She says those who "see themselves on the side of reason are actually acting out of faith." Bang on.

Where interest subsidies are concerned, what is really at issue is the pricing strategy of a multi-product firm which, whether economists like it or not, is what banks are. Soap makers subsidise the lower end of the market with prices charged for high-end products.

Airlines subsidise domestic fares with international fares (which are fixed by IATA, by the way). Car makers do the same thing. Publishers do it. Everyone does it but banks should not?

Fortunately, the banks themselves don't think so because they constantly cross-subsidise products for a very practical reason -- the alternative in a developing country is lower business volumes. Retail banking is all about that only. The recent ICICI experiment with farm loans in Andhra is a case in point.

When a low-risk borrower pays less interest than the high-risk one, there is a cross subsidy involved from the latter to the former. There is no evidence to suggest that this 'distorts' the price of money any more than mandated rates do, only some fancy maths. (If there is, someone please show me and we can argue about the assumptions).

So as long as the taxpayer is not being asked to bear the cost of the subsidy, I don't see what the fuss is about. Indeed, even if he were, one would have to weigh the comparative externalities before deciding.

Likewise, where RTAs are concerned, they provide a better chance of increasing trading volume, and therefore, employment. The mullahs of economics can't take that right away from governments merely because it doesn't suit some arcane theory.

Indeed, if over 300 RTAs have come into existence, it simply cannot be the case that they yield no benefits. Things don't work that way in real life.

Then there is the role of intuition. Thomas Kuhn showed how it played a very important role in scientific progress. He was also the populiser of the term paradigm and therefore 'paradigm shift'.

He annoyed a lot of scientists by saying that most of them clung to what they had been taught and that they solved puzzles whose answers they knew in advance. Most of all, he said, they ignored insights and findings that threatened the existing paradigm.

"Novelty", he wrote, "emerges only with difficulty, manifested by resistance, against a background provided by expectation." He then went on to describe the tension between the old and the new and the crises this tension generates when anomalies emerge between what is accepted and what actually happens.

These crises, he said, were resolved in one of three ways. First, the existing body of knowledge proved capable of dealing with it. Second, it proved unsolvable and was stored for the future.

Third, a new paradigm emerged, which after the usual wrangle replaced the older paradigm wholly. Orthodox economists should read Kuhn before they begin to heckle. After all, they claim to be scientists.

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