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We have tried to change our thinking at multiple levels in Economic Survey: KV Subramanian

To view an economy as being in a virtuous or a vicious cycle works, says the CEA.

Updated: Jul 05, 2019, 12.49 PM IST
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ETMarkets.com
 Krishnamurthy Subramanian- CEA-1200
As Einstein used to say if you keep doing the same thing, you cannot expect a different outcome. You have to start doing things differently and that is what we have tried to do in The Economic Survey, says KV Subramanian, Chief Economic Advisor. Excerpts from his interview with ETNOW.

Economic surveys tend to be little idealistic -- as you said the blue sky thinking -- and for that reason it sometimes tend to be a little long on vision and short on details. Does the latest economic survey fall into that same “trap”? You have talked about shifting gears, increasing private sector investment but the government has not quite succeeded. How do we get there one, two, three, four, five?
A philosophical question like that deserves a philosophic answer. If you look at any transformation across the world, it has happened always started with an idea and that is the job of someone in my role to provide. As Einstein used to say if you keep doing the same thing, you cannot expect a different outcome. You have to start doing things differently and that is what we have tried to do in The Economic Survey.

We decided, made a conscious choice to not go into specific details as our main intent was to try and change our thinking and we have tried to do that at multiple levels. One, instead of viewing different problems like jobs, exports, in silos, we have tried to view them as a system because they are complimentary to each other. Second, economic thinking itself has evolved a lot in the last 10 years and I have been fortunate enough to research in this area to witness the change that has happened. To view an economy as basically being in a virtuous or a vicious cycle this concept of an equilibrium does quite work well.

But how do you get into that virtuous cycle?
If you read the first chapter, one of the first sets of evidence that has been provided is looking at countries that were at a similar stage when they started their growth process and what did they do in order to get to where they are and the incontrovertible evidence that comes through all of them is that they actually set out on a very high investment path and it is that investment that led to productivity increases.

Those productivity increases then get translated into an export intensive sector because if you have to compete in international markets, you have to be very productive and competitive. And the various aspects of that virtuous cycle feeds in. Let me be very, very emphatic here and say that this is not just something. This is an important idea that we need to take on board.

Apart from this, we also keep talking about job creation. But the fact is that unless firms grow enough to be able to generate jobs and exploit economies of scale, small firms instead of creating enough jobs, they also destroy jobs. It is the larger firms that achieve that stability to be able to create permanent jobs. These are important changes in mindset and that is why I will not under emphasise that the risk we ran actually when we were making a choice about what to focus on is as we had gone down the path of looking at the details, the big picture would have gotten missed.

Indisputable but high investment must come from high savings and our savings rate actually that has been falling.
We have looked at that as well and one of the favourable demographics especially one of the key factors is the dependency ratio which is the number of children elderly people have to depend on when that decreases and what that does in the economy is savings increase. Why? Because if I have five kids to rely on my retirement, then I would not save as much. But if I only have one kid and if the possibility is that maybe that kid for whatever reason is not able to support me, I have to take care of myself and therefore I end up saving for retirement. This is something that happens in all economies as lifespan increases. As the dependency ratios go down in economies, savings go up.

You were talking about the decrease in savings. The main thing that has happened is household assets have actually declined, not the financial savings. You have to be careful in terms of what we are looking for. Our emphasis on household assets seem to have gone down because there has been more emphasis on consumption but the key point we are making is if savings have to be at a level to drive investment, then you cannot have your cake and eat it too. You have to have less consumption and that is why these countries that grew, emphasised exports because domestic consumption is not going to create the demand for the investment and the virtuous cycle. It is the foreign demand which is basically given by exports that creates this virtuous cycle.

The key point is that when in the press conference I showed this as well that for China, you saw our consumption as a percentage of GDP going down significantly, while their investment and savings increase exponentially. Even if you look at it in terms of development time, does this work for developing economies? I have to emphasise again that that is why we have shown it as a function of development scale.

Each of those countries from whom we picked up this evidence were at a stage when they started growing using this investment driven virtuous cycle. They were at a stage when they possibly in a worse condition than us and yet it was the investment driven virtuous cycle that enabled them to reach where they have reached. So, this is the model that is eminently applicable for India because we have not borrowed from something that the OECD countries are doing. Those countries are at a different stage. We have borrowed from countries that were at a similar stage and yet have followed this path.

Yes, how?
One of the key things that is important is right now we have to recognise that domestic capital is basically at a premium in some sense. In contrast and this sort of the wedge is very strong globally, the liquidity conditions and the interest rate environment is extremely benign and therefore this is a wonderful opportunity for us to tap into some of that foreign capital which is looking for opportunities.

Both the demand and supply side will work because if we actually are committing to an investment driven path or which basically leads to 8% growth than that foreign capital looks for opportunities to actually make good returns as well. At the same time because of the liquidity and the interest rate conditions we also have the opportunity to go and utilise that so this is something which we have to really because if you think about it this kind of benign interest rate environment and the liquidity conditions may not prevail five years from now.

When the going is good we should basically exploit it really to further because savings right now as and we recognise very well savings are not going to increase immediately. In the short run you have to enable the foreign capital to come in and foster investment so that investment is triggered in this cycle. Once it is triggered, it takes care of itself and becomes sustainable.

You are also talking about how there is a need to push private investment. This is something that the government has been trying for a very long time but that really has not happened. How do you expect that change to come in? Also, you are talking about an optimal tax policy. Can that really be done at a time like this when revenue itself is a big concern for the government and also the point on cost of capital?
So let me respond to your second point. Optimal tax policy does not mean tax cuts. I think let us make that very very clear optimal tax policy we have talked about one of the cardinal principles of investment is that expected returns has to correlate with risk and now risk and return if you think about it, there is upside and there is downside as well.

We have taken care of the downside through the IBC process. During upside, when the project does well, if you do not anticipate proportionate return, then your incentive to invest actually gets affected. That is the point we are making. There are many ways to respond and actually implement this big idea of the optimal risk return trade off actually and thereby affecting investment. One among them is tax policy certainly but you can see the way we treat our startups, the way we actually encourage the start ups since these are a lot riskier than traditional firms. The idea here is to ensure that the risk return tradeoffs get aligned with tax policies.

As to your question cost of capital, we have to sift through the leaves and look at what has been going on. One knows that growth happens with a lag. Investment itself is a sticky thing. In the last five years, the drag on investment has been because of the overhang that has been created from the previous five years which is that you have the dual balance sheet problem. As a result of which you know then what happened we basically took corrective measures especially created the bankruptcy code.

Now what the Bankruptcy code does on project financing and on the way you actually do capital budgeting is important because earlier I as an investor in the Indian context could have done some projections that are basically in excel and I do not have to worry whether it transpires in reality because I always knew that there are ways in which I could work this out.

But today if I actually indulge in the same activity I run the risk of actually having to go to IBC and then my company being taken away from me as a result the way I will do capital budget changes now remember the expertise to do capital budgeting carefully is not something that develops overnight. This is a process that is happening that is why I am talking about the overhang from the previous five years which transpired both in terms of the balance sheets of the banks and the balance sheets of the corporates and the culture of actually better capital budgeting. As a result, people will obviously be careful about the way they invest.

It is an important point, particularly because we are talking about investment as a key driver in the cycle. It is definitely possible because of the kind of steps that we are taking especially through the IBC and we also talked about some of the other details ensuring for instance consistency of policy making because that is something that really affects.

In fact you have talked about it and the fact is in fairness to the government policy, uncertainty has come down and despite that investment has also come down. Is there a contradiction here?
No, there is no contradiction-- it is a contradiction. If you look only at the impact of the reduction in the policy uncertainty on investment but recognise that investment is something that is affected by a zillion other variables. So the contradiction is only if you look at it in a limited sense of only the correlation between uncertainty and investment but investment as I just explained is affected a lot by other variables especially the overhang.

So you have to control it for the effect of the other effects. Once you do that, the impact of uncertainty is reduced. Uncertainty in investment will go up but you cannot make this conclusion just by looking at that.

But one way of dealing with the overhang which you in fact have written about earlier would have been to start a bad bank but surprisingly the survey is silent on two big issues that are currently plaguing the country: rural distress and the other one is a problem with the PSU banks and NBFCs. Why?
When we sat down to think about the survey we had a choice to make which is do we go some sectors or do we lay out a path for the next five years? This being a new government and which has come with a mandate, of course, we did not know that when we were working on this, whichever government came will basically be a new government. It is an opportunity for us to set out a new template for trying to put the economy on a fast path.
We are going to write another survey in the next six months. Some of these issues are definitely on our agenda, we will talk about it. This was a conscious choice that we made to let us focus on the big picture.

Your survey also points to various behavioural tools, you are talking about moving from the Swachh Bharat to a newer form of Swachh and Sundar Bharat...
Swasth and Sundar Bharat.

Would you say it is a very simplistic approach because betting big on behavioural changes itself is going to take a very long time or the flip side to this is that is there a need to perhaps recalibrate the policy approach with respect to these sector that you have pointed out?
There is ample research now in behavioural economics which culminated in the Noble Prize in 2017 in this area. So to actually then I mean if I would put the two together we would say basically the Noble Prize has been given for something that is very simplistic. I do not think that would actually be a right characterisation, number one.

Number two, I will recall the time when our honourable prime minister spoke about Swachh Bharat from the ramparts of the Red Fort in 2014, a lot of people said why are we talking about toilets from the ramparts of the Red Fort. This is theory, it is not going to happen.

Again I want to remind you every revolution in this world has started with an idea and that is something that is really important to remember and the characteristic of that revolutionary idea is that 99.9% of people think it is just theory. It is that 0.01% that believes that this is an idea that can bring transformational change. Marginal change actually....

But would not that take very long?
The marginal ideas always look realistic but transformational ideas when they are put always actually have the sceptics that is the interesting nature of transformative idea and behavioural change as we have seen over the last five years indeed, take a look at-- you know we have talked about this which is the Beti Bachao Beti Padhao and the Swachh Bharat mission if we can bring about the kind of change that has happened in five years, especially on sanitation. I have every right and every opportunity to believe that we can indeed do it.

I buy that entirely, while it is great, ideas are important, great ideas are wonderful but at the moment is there a need for concrete action and what would that action be, would that be a fiscal stimulus?
The concrete action comes from ideas that if you do not have good ideas concrete actions cannot happen, concrete actions maybe concrete but maybe barking at the wrong tree. And that is the risk that you actually have, the jobs of someone like me is-- the reason I actually am in this government or for someone like me is there to point out some of those important ideas and we complement, we have a team here who actually will take a look at these ideas and we have provided some of that template as well to be able to, for instance, we have talked about how do you reduce the policy uncertainty with specific suggestions in terms of looking at job creation, we have provided with appropriate grandfathering let us actually move to have a sunset clause on incentives. Many of these are not necessarily new ideas. There are illustrative examples of how you take that policy to the ground level and implement it as well.

Also Read

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Budget 2019: CEA KV Subramanian to table Economic Survey in Parliament

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