Articles : December 2008

By Pradeep S Mehta & Siddhartha Mitra

The global financial meltdown has caused many to reach for the panic button. The seemingly invincible India Inc is playing a wait-and-watch game with all plans for expansion and new hires put on hold for the time being. The time is ripe for decisive government intervention: though the potential of the Indian economy remains undiminished, government intervention is needed to lift the unnecessarily sagging spirits. It has to both talk and walk the talk so as to create the required comfort zone.

In recent times our PM has talked about the counter-cyclical nature of infrastructure investment. Given that economic growth is already declining and threatening to plummet further, a massive dose of such investment might be overdue.

How will infrastructure spending be of help in these troubled times? Part of the rationale for infrastructure spending is based on its similarity with the Keynesian prescription of paying people to dig ditches and fill them during an economic depression, even if that means printing new currency, to stimulate demand.

Note the associated significant gain in terms of employment — a lot of human capital and unskilled labour is needed to produce goods and services, and productive infrastructure. Such additional employment would generate new income and expenditure flows. The resulting domestic demand would neutralise the effect of depressed external demand — an outcome of the meltdown. The recovery of demand might indeed persuade India Inc to go back to its past expansionary ways.

The other effect would be on productivity. We know that India’s rapid growth has taken place in spite of the country’s poor infrastructure. Urban roads continue to be congested and of poor quality — commuting is slow and therefore do not allow the full productive potential of people to be harnessed; power outages are frequent with even relatively developed Maharashtra falling short of its requirements by 20%. Airports are characterised by crowded terminals and runways that often keep planes circling above waiting for permission to land, squandering labour hours and fuel and therefore, money.

In short, economic activity is constrained significantly by inadequate infrastructure. It would not be wrong to say that if India had China’s infrastructure its rate of growth would easily touch double digit levels.

It is in this context that we can term the financial meltdown as a blessing in disguise. The need for relief during these troubled times might usher in a massive dose of government-aided infrastructure investment. Thus, a major improvement in previously stagnant infrastructure might be in the offing. Some seemingly relevant objections can be raised to such promotion of infrastructure spending as an avenue for tackling the deleterious domestic effects of the meltdown. After all, the doubting Thomases say, why not just give credit to big and small businesses — their spending would also boost both demand and supply goes their argument.

The answer to this is quite clear: in these tight times there is no guarantee that credit given to big business will be spent and not hoarded. After all Ratan Tata’s recent cautionary letter to his CEOs does ask them to exhaust credit lines and almost stall expansion. Second, even if big business did spend much of the new credit obtained it would be on capital intensive machinery, etc, with vast gestation lags; little labour would be employed and therefore, very little demand would be generated for items of mass consumption.

As far as small business is concerned there are limits to the amount that can be disbursed; a careful time consuming process of screening is also needed before actually allocating credit. Thus, because of the reasons mentioned above, credit to business can only be a measure which supplements more central ones such as infrastructure spending; on its own its capacity to bail out the economy has dubious potential.

The advocacy for massive doses of infrastructure spending, however, needs to be qualified. The needed broad-based increase in demand can be provided through such spending as long as the funded infrastructure construction is labour-intensive in nature. There is enough scope for that in India where even today construction of highways, ports and even airports continues to be labour-intensive. Thus, there are enough ways in which labour use and therefore aggregate demand can be raised significantly through infrastructure spending.

Ensuring that infrastructure expenditure undertaken on paper does actually materialise in reality (i.e., material is actually bought and people employed) is a must in this context. Second, there are a lot of infrastructure schemes, already stuck in the pipeline — 3G mobiles are one such example. The de-clogging of this pipeline would also help by stimulating private spending (geared towards capturing attendant benefits) and therefore generating demand.

Another major stumbling block in the Indian case which might neutralise the positive effects of infrastructure spending is corruption. Recall P Sainath’s book: Everyone Loves a Drought. The announcement of a major relief package might signal an opportunity for implementing authorities to make a killing.

Indeed, a failure to keep corruption down to reasonably low levels might relegate a potentially major turnaround in the Indian infrastructure network to the status of a temporary employment generation programme of no lasting consequence. This is the second compelling reason why a good and effective regulatory architecture is an imperative. Research done by CUTS and several others has shown that by curbing arbitrariness, one can reduce the scope for corruption. The first reason being to ensure investor confidence about fairness of policy and praxis.

Large infrastructure spending by the government or aided agencies is an important component of the recently announced stimulus package. Such spending should inject both optimism and financial capability into the economy. However, reality often does not conform to the orderly thought processes of economists — the frictions outlined above might indeed crucially undermine all significant benefits. An unselfish (as opposed to self-serving) and focused alliance of government, civil society and intelligentsia, which can overcome these frictions, is the need of the hour.

(The authors are associated with CUTS International, a research, advocacy and networking group)

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http://economictimes.indiatimes.com/

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