Thursday, November 29, 2007

THE HAMMER, BUT NOT THE SICKLE

In the world at large, there are some economies that perform well and some that do miserably. Many would belong to the middling, mediocre category. Whatever the category, it is a fact that all economies suffer from distortions of some kind or the other. For example, in India, distortions at the social level like our rigid caste system or norms that prevent large sections of women from entering the job market have historically inhibited growth in the economy.

In this article, I’ll focus on economic distortions, i.e. affecting the way wealth is created and distributed and the way people earn their living. Distortions, in this context, may be understood as systems and practices or ways of doing things that prevent the economy from attaining its full potential with the given level of resources. Incidentally, the impetus for economic reforms springs largely from the recognition that even without throwing in more money, and by creative tinkering with systems and practices, an economy can deliver better results.

Even as distortions persist in an economy and become impediments to growth, there will always be a section of the people who profit from them. Accordingly, in a country where the banking system has limited reach, money lenders would gain. In a place where the infrastructure for supply of water is poor, there will be a thriving community of traders who bring it in tankers or sell bottled water. And where the electricity supply is poor, a whole industry develops around generators, inverters, UPS, voltage stabilisers etc. To the extent that they fulfil a need arising from the inability of the state to fully perform its services, it is perfectly in order.

The problem arises when they become focal points for successful opposition to efforts aimed at tackling those weaknesses in the system on which their livelihood depends. This would give birth to a new distortion. Indeed, prevailing distortions in an economy are not always of historic origin that emerged years ago and that we now have to live with. As a matter of fact, new ones are created all the time. Like when a new technology threatens redundancy for some sectors of the economy and the government steps in to protect those at risk. This compels the economy to carry on with the burden of a sub-optimal technology or system with lasting consequences.

The government’s refusal to permit FDI in the retail sector for fear of its impact on the local kirana stores and the ban on some large retailers like Reliance Fresh by certain state governments are just the recent examples. India has a hugely inefficient retail sector with high levels of wastage (of perishables) and very high mark-up in prices from the time goods leave the producers to when they reach the consumer. A large format retailer sourcing directly from the producer and who also sells directly to the consumer would make a lot of sense. And yet, thanks to the government, we’ll now live with this inefficiency for a few years more.

Similarly, decades of socialist oversight have so distorted the labour market that the overwhelming majority of our workforce (over 90%) toil in the unorganised sector with little or no benefits. The tiny minority who gained an early entry into the organised sector (the entrenched labour aristocracy) have benefited hugely and their unions are now the main stumbling blocks for much-needed labour law reforms.

It follows therefore that what we call economic or structural reforms is nothing but the practical process of removing the distortions that have taken hold in the economy. It also follows that the starting point for any serious effort in this direction would be pain. This is the pain felt by that section which was so far profiting from the distortions and are now deprived of their easy pickings. Experience would suggest that such groups are rarely anything more than a minority. But quite often they are organised and have a voice louder than their numbers. Also, economies where poverty and backwardness go back over many years are likely to have many such distortions often feeding on each other. In this scenario, it can happen that while the different groups benefiting from the various distortions individually remain in a minority, collectively, their numbers can add up to a majority and more. And typically these countries would present the greatest obstacles to economic reforms. Since everyone gets to dip a finger in the pie, the minimum consensus for change of any sort will be sorely missing.

In a society where everyone gets to take advantage of a prevailing atmosphere of lawlessness, it can be taken for granted that support for enforcing law and order will be minimal. That everyone suffers in some way or the other from the lawlessness will probably not make a difference. It used to be said about Australia that a thief running away from a policeman in hot pursuit was more likely to get help from bystanders, simply because too many Australians have ancestors who came to grief on the wrong side of the law. In India, many of our otherwise law-abiding citizens would feel uneasy about reforms in the electricity sector, what with an unwelcome prospect of accurate metering. Not surprisingly then, even when economic reforms make perfect sense, it is always difficult to get it started. And where the process has begun in earnest, it will always present an easy target for the anti-propaganda.

I once saw a Polish film on television in the days when Doordarshan was the only channel available and they had this wonderful late night series of the best in international cinema. It opens with an elderly, unkempt man with a flowing white beard living in seclusion in the woods. He was in fact a doctor who, for some reason I could not make out, had fallen out of favour with society. One day, he is approached by a man who brings his young son along. The boy is crippled in one leg and has not walked since a childhood accident. We see the doctor examining the boy and telling the father that he can be cured by an operation on the knee. The father agrees (possibly because he was his last hope) and we see the boy lying on a makeshift table, his eyes trustingly following the doctor as he goes about preparing himself for the ‘operation.’ The doctor is now ready. What follows is a moment I shall never forget. As the camera closes in on him, we see him positioning a hammer over the boy’s kneecap. “Don’t.” I remember screaming within myself. “The man is a quack.”

Well, as it turned out, he was a brilliant doctor who knew precisely what he was doing. After the accident, the bones in the boy’s knee had healed improperly and had fused into each other in a wrong manner preventing proper movement. By bringing down the hammer on it, the existing improper alignments were dislodged and in the operation that followed, he ensured that it would set again in the right way. Needless to add, the boy was able to walk again.

I know the director of the film would not have had this in mind. The fact is, I see a metaphor for how distortions in an economy often need to be undone with the shattering impact of a hammer so that a crippled economy can be made to walk again. And one day, it may even sprint.

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