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February 19, 1999
The Rediff Business Interview/ Dr Isher Ahluwalia
'Where we want investment we have hurdles; where we don't want investment, we have high profitability'
Well-known economist Dr Isher Judge Ahluwalia is the director of the Indian Council for Research on International Economic Relations, New Delhi. An expert on the Indian economy, she is an influential voice in policy formulation. As the government prepares to present this century's last Union Budget, she looks back at recent economic trends and their implications for future, in an interview to Amberish K Diwanji.
How much has the worldwide economic recession hurt India, or is it really India's own weakness for the present economic situation?
I would say that to some extent the external environment has hurt the Indian economy. The fact is that there has been a worldwide recession, less demand for Indian exports and goods, the crisis in the Asian region.
However, we have also lost opportunities. We could have used the opportunity when the Asian crisis was at its peak and other countries were suffering from economic turmoil.
If we had speeded up our reforms that time, we could have attracted more foreign investment and economic activity to our country. But at that time, we were at a stage when we were just getting our political act together rather than focussing on reforms, and hence we lost too much time and the chance.
There was a change of government, and then there were the nuclear blasts followed by economic sanctions. All these factors had an effect on the confidence of the investors and industrialists.
Do you see a positive change?
Fortunately, the government has started to work on liberalisation and reforms, and in turn, economic activity has picked up. From last November, we have seen a momentum build up with certain strong measures being taken. Now, the questions are whether the coalition government, with so many allies pulling in different directions, and the opposition will act in a mature fashion to let these measures have the desired effect. I think reforms will continue, but they need to be at a faster pace. Whether the government will attempt that and whether the opposition will allow that are the questions that remain.
What could we have done differently?
The government could have carried out the nuclear tests saying that in our opinion these are necessary for our security. But having done that, if at that time we could also have declared that we are going to open up the economy, liberalise further to improve the strength of the Indian economy, the effect would have benefited us in no small measure.
This is what China does. Every time someone cries out about China's human rights violations, China only opens up the economy further and ends up getting money and investors. If we had done something similar, we would have really changed the atmosphere within the country. For six months there was too much confusion on the economic front.
How much did the economic sanctions hurt India?
This is a question that the Institute of International Economic Relations in Washington DC too has addressed. It is by now known that ultimately, in the medium term, economic sanctions do not work. But in the short term they have an effect upon the economy. When you are seeking to create an environment of confidence, any such imposition creates uncertainty in the minds of people. Investors hold back, and even the World Bank loans were held back.
Yet, I don't think sanctions alone can be blamed too much for India's condition. India's economy today has seen little investment, little growth, lack of confidence and all of these cannot be blamed on sanctions alone.
So what has gone wrong with the Indian economy?
To some extent, after liberalisation, there has been over investment in some sectors. This is quite normal. In these sectors, people expected demand to grow at a very fast pace. A good example is the automotive sector. People expected huge demand which simply does not exist. With demand dropping, so did sales. This made investors nervous and investments even in other areas dropped.
I also think there is a flaw in our laws concerning liberalisation. For example, in the automotive sector, not only do you have very high tariffs but also quantitative restrictions. This means that you cannot import a car; if you do, you pay a duty of 300 per cent. The result of this is that you have a very high profitability in the automotive sector, and it is very high because government has chosen to create this situation in an artificial manner.
Thus, you have customs duty going down in many areas but have a few areas where you still keep high tariffs such as consumer durables, allowing you to sell items at two to three times the international price. Naturally, if I am an investor, why would I invest in cement? I would rather invest in the consumer durables sector -- washing machines, cars, etc -- that gives me such high returns.
Hence, the government has created the distortion by which it is attracting investment in the wrong areas. It is also creating the wrong impression in people's mind. People believe that the reason we allow cars to be imported is because we don't want to create consumerism. But the truth is that by allowing them to be produced, a situation of earning high profits has been created and investment has gone to those very areas. The beneficiaries are the few producers of such consumer durables and the consumer is the loser.
Has this also hurt infrastructure creation?
The government talks of creating infrastructure, and invites foreign investors for such projects, claiming to open up the sector. But then, the government imposes restrictions. Let us look at the power sector. The private producer cannot charge more than a fixed amount regardless of inflation, and he has to sell to the state electricity boards most of who are broke and may not be able to pay his bills. Then he has to buy fuel from a public sector company that may not supply the fuel and the producer cannot seek a legal remedy, thus involving a commercial risk. Now the government is negotiating with independent power producers and assigning commercial tasks.
The fact of the matter is that where we want investment we have so many hurdles, where we say we don't want investment we have created a situation of high profitability so that investors run into these areas.
Thus, going back to your earlier question, if there is excess production capacity, naturally some will lose and this should be allowed to happen. On the other hand, some of the producers must create world class products that can then be exported. But many of the producers in the consumer durables are making items for the sheltered market and then lamenting the lack of demand.
Indian exports are falling dramatically. What is wrong? What needs to be done?
Exports are ultimately linked to the competitiveness of the country's economy. If competitiveness of Indian industry is not to be eroded, we have to allow two things. The first is restructuring of Indian industry so that industry itself can focus on cutting costs, quality, etc, and all this can only come from competition.
Indian industry is at present resisting competition, but, sooner or later, they have to fall in line. Right now, they are just trying to buy time. Once that happens, I have no doubt that Indian industry will pick up.
The second aspect is to keep the inflationary pressure in control. For instance, if industry seeks to cut costs to become more competitive, and then there is a high inflation, any cost-cutting measure is lost. To keep inflation low, we economists have been harping that the government must cut its massive fiscal deficit and manage the macro economy. What the government is doing is, to control the fiscal deficit, it borrows massively from the banks. In turn, banks hike the interest rates. Indian industry borrowing at such high rates becomes uncompetitive and thus exports suffer.
China is believed to be on the verge of devaluating its yuan. Will that spark off another Asian crisis? How will it affect India's economy?
Any devaluation by China will have a major effect both on the Asian economies and on India. But these are external factors that we have to learn to cope with. I think it is in our hands to improve the efficiency base of our industry, so that whatever else happens -- China's devaluation, Asian crisis -- we can handle the fallout. The solution does not lie in further protection or in raising customs duties. It lies in becoming more competitive so that we can find a greater share in the world market.
Part II: 'Special concessions are not necessary to lure foreign investment'
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