Meaningless Reforms that Distract, bring out yet again the Ineptitude of UPA Govt.

We are probably the most innocently naive subjects of a contemporary democracy. Last week Prime Minister Singh announced a few policy actions disguised as major reforms. These reforms were widely hailed by the media as the second inning of Prime Minister Singh. Commentators across the media networks and intellectual community decided to forget the ineptitude and corrupt governance choosing instead to re-brand him as a courageous leader who is not afraid to fight with the firebrand and errant Mamata and put his government to risk. Media narrative and discussions shifted to whether Congress would be able to retain majority, if these reforms were good or bad and if this meant UPA was back in action after years of slumber. We conveniently chose to shrug aside a report from the UN that India is home to the highest number of infant deaths in the world due to lack of healthcare and nutrition. We forgot Coalgate which had made us forget 2G which in turn had made us forget CWG which in its own very recent era made us forget cash for votes and the list can go on.

Let us examine the much praised reforms for their practical utility:

Petroleum pricing - I discussed this particular issue in details in earlier post (Read here). Rationing of LPG is an intellectually bankrupt decision and would create a black market for corrupt politicians and dealers. Diesel price hike and excise cut on petrol were good steps that had to be taken out of necessity. No action on Kerosene was yet again a clear signal this government has no intent to reform petroleum pricing and it wont let go of its legitimate black money machine.

FDI in Retail - I am a supporter of FDI in retail. BJP is both wrong and hypocritical in opposing FDI in retail when the party itself proposed this when in power.

40% of fresh produce goes waste in India due to supply chain bottlenecks. Farmers get a fraction of retail price while middlemen pocket all the profits. Retail labor productivity in India is 6% that of the US. In food retailing, it is 14% that of Brazil. Modern trade and an integrated supply chain is the solution to both lower prices at retail end and better incomes to the farmers and producers. As far as fears of jobs is concerned; firstly Big Bazaar, Spencers, Pentaloons, Shoppers Stop and otters are now present in all major cities and I have not seen any report that quantifies job losses or destruction of local communities as is widely propagated by the critics, secondly every change naturally leads to a disruption to the status quo and therefore there is no argument to protect the status quo that promotes inefficient subsistence retailing and illegal hawkers.

In all the developed and majoremerging nations, big box hypermarkets, supermarkets, specialty retailers and mom and pop stores have learned to coexist and I see no reason why it wont be the case in India.

So I should be all praise for this reform except that it comes with a caveat that renders it meaningless. UPA government has conveniently left final approval of opening a store owned by a foreign investor to concerned states!. This condition makes this reform meaningless. No retailer would invest in India knowing very well that it may very well end up with a holding company approved by the central government but no scale as State Government hold on to approvals. Congress led Kerala has already rejected FDI in retail in addition to opposition ruled states. There are a number of other ludicrous restrictions and conditions that raise more questions on the policy than answers (Read here). I need not mention this same government had launched this reform in Nov 11 and took it back under protest from its allies and that Congress had dubbed FDI in retail as 'Anti National' when BJP proposed FDI in retail. So this particular reform is not only half hearted aimed to fool people but also hypocritical.

FDI in aviation - A welcome step indeed. Who would invest is a question we all know the answer of - no one!. Aviation industry globally is in a turmoil. Japan Airlines just came out of recession. Most of American airlines are either coming out of bankruptcy or going through bankruptcy. Qantas is struggling. If one needs to invest in the Aviation sector, there are many lucrative destinations. Air India is a mess that cant be cleaned up. Jet, Spicejet and Indigo are fighting the battle to make money and be sustainable. Kingfisher is bankrupt and I doubt if anyone would invest there. A real reform in aviation would have been the decision to shut down Air India, auction its assets and save taxpayers the promised $ 5 bn bailout over next few years. Second reform would have been to mandate state government standardize sales tax on aviation fuel and reduce taxes that treat air travel as a luxury.

In conclusion, policy announcement of last week mean practically nothing. When someone with an average level of intelligence knows that, I am sure our technocrat economist PM knows it. But the reforms serve a great deal of political purpose. It has taken the focus away from corruption, once again given people who view Prime Minister Singh as a person of integrity a reason to believe in him and positioned the UPA as taking a step to reform in challenging times while BJP keeps whining as aggrieved opposition.

In truth, it has once again brought to the forefront the ugly face of out parliamentary democracy where majorities can be cobbled together by promising special favors to opportunistic regional leaders. Regional leaders whose only interest lies in keeping power in their respective states, who do not even remotely share ideology or style of governance with the government they choose to support and are often the worse of the lot up for grabs either for money or concessions.

Need for a Transformational Change in Fuel Policy not Random Pricing, Rationing, Inefficiencies and Corruption

As always the news of fuel price hike was met with much criticism across the political aisle including those of the ruling government's alies while social media was abuzz with creativity in showing the effects of such a hike. My favorite was a marketing pitch for petrol sachets.

Keeping the criticism of the masses and my personal belief that government must get out of industry keeping no role to play in setting fuel prices aside, increasing diesel prices and reducing excise on petrol was for once a sensible decision taken by the government.

I broke down the cost of petrol in my earlier blog (Read Here) - c. 40% of the retail price of petrol is made up of Cental and State taxes. These high taxes on petrol have long been put justified in the disguise of cross subsidizing diesel, kerosene and LPG. This cross subsidization however serves no purpose. Cheaper diesel has led to proliferation of diesel run passenger cars and SUVs cuasing unreasonably high consumption of diesel. Diesel as we know is an extremely high polluting fuel compared to petrol. Kerosene on the other hand has been rampantly adulterated with petrol causing engine and environmental damage while creating another avenue for black money in the system. Reduction of central excise on Petrol by 5.3 a litre is therefore a step in the right direction. Increasing the price of diesel is certainly going to lead to a slight jump in inflation across the board but we cannot always escape the hard reality of global markets where crude prices have jumped more than 30% in last 3 months due to speculation and middle east uncertainties. 

Only way to manage price stability is for the oil companies to effectively and opportunistically use hedging instruments which would never happen as long as they are government owned and dont have any incentive to improve efficiencies and compete in an free market environment.  

Turning to no price hike in kerosene - in a fractured coalition and messy democracy like ours, it is more or less blasphemous to expect an increase or rather rationalization of kerosene prices. Black marketing of kerosene has become so intertwined with the corrupt political system and bloated bureaucracy that no one would ever dare plug the spigot that feeds politicians' and middlemen's Swiss accounts. Narasimha D Rao of 'International Institute for Applied Systems Analysis' concludes in 'Energy For Sustainable Development' March 2012 issue, 'kerosene subsidies are regressive and of minimal financial value to poor rural households. This is in part because household quotas are based on cooking needs, but kerosene is used predominantly for lighting. In urban areas, subsidies are progressive, and provide benefits of up to 5 to 10% of household expenditure among poorer households which lack affordable access to LPG and biomass. Overall, only 26% of the total subsidy value directly reaches households'. Another study was more liberal to the government and mentioned c. 40% of kerosene is stolen and never reaches intended beneficiaries.

Based on this, kerosene subsidies are the biggest and longest running scam India has ever seen still going strong. Based on mid point of this 74% and 40% loss estimated by the two studies mentioned earlier and last years subsidy of $4 Bn, here is $2.3 Bn in corrupt money warming politicians/middlemen pockets annually.

I dont want to sound an environmental activist here but common sense thinking would suggest a better policy would be to give intended beneficiaries access to cleaner cooking and lighting options than subsidize what is quite clearly the most inefficient, environmentally disastrous and unhealthy option.

The decision to limit LPG cylinders at subsidized rates to 6 per family however was an antiquated and intellectually bereft decision that one has compromised to expect from this government headed by a renowned technocrat. A two tier pricing structure often leads to a black market. Indian scam-artists' and local politicians' ingenuity would right away lead to a flood of bogus gas connections and quota on those bogus connections would make it to genuine middle class families at 600 a piece compared to the full priced 750 cylinder. Families would be waiting for a long time to get their subsidized cylinders while the 600 a pop would be available instantly. So wait and watch as this latest experiments makes many millionaires while housewives tackle yet another complication in their already stretched tiger mom inspired life.

I would prefer a policy that eliminates all the subsidies on LPG, petrol, diesel and kerosene in return for elimination of import duty on crude, reduction in all central government taxes to the minimum bracket and incentive to private sector to invest in building pipelines and efficient refineries. Inefficient refining adds c. 1.5 a litre to price while inefficient trucks based transport and vested interests in dealer network and marketing adds another 4 bucks of inefficiencies. I would have added investment in public transport to this wish list as well but that would make me an eternal but naive optimist. The wish list above makes me more or less an enemy of socialists but keeps me among sane eternal optimists nonetheless.

India's Competitiveness - A fall of 10 places from 2009-2012

If the news of GDP growth slowing to 5.5 pct last quarter was not bad enough, India's competitiveness in 2012 dropped 3 places to 59.

Quoting from the report:

• Since reaching its peak at 49th in 2009, India has lost 10 places. Once ahead of Brazil and South Africa, India now trails them by some 10 places and lags behind China by a margin of 30 positions.
• The country’s supply of transport, ICT, and energy infrastructure remains largely insufficient and ill-adapted to the needs of the economy (84th).
• The picture is even bleaker in the health and basic education pillar (101st). Despite improvements across the board over the past few years, poor public health and education standards remain a prime cause of India’s low productivity.
• Once ranked a satisfactory 37th in 'Trust in Institutions' dimension, India now ranks 70th driven largely by lack of trust in politicians (106th).
• The macroeconomic environment (99th) continues to be characterized by large and repeated public deficits and the highest debt-to-GDP ratio among the BRICS.

Despite the above, report does point out a couple of strengths:

• Fairly well developed and sophisticated financial market (21st) that can channel financial resources to good use.
• Reasonably sophisticated (40th) and innovative (41th) businesses.

The decline in competitiveness should come as no surprise to anyone given that the current government has been focused in carrying out and then managing the fallout of scandals failing to push through any meaningful reforms, especially in the last 3 years during which we lost 10 places in competitiveness.

In the recent past, we have seen corruption at an unprecedented scale (Commonwealth games, Defense procurement, 2G, Coalgate, Thorium etc), widespread failure in the running and maintenance of existing infrastructure (grid failures, T&D losses, coal mining below potential, railway accidents etc), repeated delays and cost overruns in infrastructure projects (Bangalore Metro, JNPT upgrade, Delhi Mumbai Industrial corridor, numerous power plants and the list can go on) and policy and regulatory gridlock leading to delays and uncertainty in private sector and FDI ($12 Bn Posco steel plant, $9 Bn Mittal Steel plant, multi-billion dollar Himalayan Ski Village project near Manali, Vodafone tax dispute, renegotiation of Mauritius tax treaty. FDI in retail etc). 

Incompetence of this government is so widespread that finding adjectives to describe the tragic state of affairs is difficult. Times Magazine's portrayal of Manmohan Singh (MMS) as an 'Underachiever' and Washington Post's description of him as a 'Tragic Figure' can be characterized as a mild judgement at best. It does not come as surprise that the day India dropped 3 places in competitiveness, this Government was demanding an apology from Washington Post for labeling MMS as 'Tragic Figure' and trying to push through a bill that would kill little remaining meritocracy among government employees.

Reports highlight of the two areas of strength also do not come as a surprise. Reserve Bank of India (RBI) is the only institutions that has managed to remain independent and take tough and independent decisions regarding bank supervision and conduct of monetary policy. While one could argue RBI has been painfully slow in opening up the banking sector to foreign competition and launch reforms that would create a corporate bond market and foster efficiency, it could not be denied that RBI has managed the monetary policy impeccably despite governments push to keep rates low, supervised banks diligently to limit credit risk and been pragmatic in helping them manage cyclical risks in a downturn.

Similarly the vibrancy of our private sector is a hallmark of our culture that places a lot of emphasis on hard work (talking about work life balance is more or less still taboo), education, mobility and most importantly to learn to succeed despite the government.

I am eager to see how long the party continues on these two fronts given that private sector is beginning to feel more and more disenchanted with lack of infrastructure and an extremely inefficient judiciary coupled with an uncertain regulatory environment while government is eager to get RBI into its fold to pander to minorities (islamic banking), direct lending to its cronies and manage an ever growing deficit at low rates.