Why Punjab has suffered long, steady decline

Punjab has historically been one of the fastest-growing and richest states of India, with one of the lowest poverty rates. Punjab?s farmers are the best in India, boasting the highest rice and wheat yields.

Since the 1980s, the state has lost its economic leadership. Since the 1990s, its GDP growth has been lower than the national average. As measured by the Economic Freedom Index, its rank has slipped badly from 6th position in 2005 to 12th position in 2011

Punjab has historically been one of the fastest-growing and richest states of India, with one of the lowest poverty rates. Punjab?s farmers are the best in India, boasting the highest rice and wheat yields. The state was at the very heart of the green revolution which, starting in the mid-1960s, ended Indian starvation and heavy dependence on food aid. Punjab was among the first states to provide weather-proof roads and electricity to all villages, these being important facilitators of the green revolution. Electricity was required to provide irrigation through tubewells, and good roads were essential to move inputs to farms and produce out to markets. Punjab has always boasted a tradition of entrepreneurship, and willingness to travel to other states and countries in search of work. This has produced a large return stream of cash remittances, estimated to be the second largest of any state after Kerala.

However, since the 1980s, the state has lost its economic leadership among states, and steadily slipped behind other states. Since the 1990s, (see graph), Punjab?s GDP growth has been lower than the national average. According to government data (CSO estimates November, 2011), the state?s GDP growth in 1994-2002 was 4.32% per year, against the national average of 6.16%; and in the period 2002-11 Punjab?s rate was 6.61% against the national 7.95%. By global standards, these were reasonable rates of growth. But relative to other Indian states, Punjab kept slipping.

A major weakness has been a high fiscal deficit, which is the highest among all major states?budgeted at 3.4% of GDP for 2011-12. The high fiscal deficit arises mainly out of huge unwarranted subsidies, the chief culprit being free power to farmers.

As measured by the Economic Freedom Index in this report, Punjab?s rank has slipped badly from the 6th position in 2005 to the 12th position in 2011. This does not reflect a major deterioration in its freedom rating, which has dipped just marginally from 0.41 to 0.39. But it has failed to keep up with other states, many of whom have improved their freedom ratings dramatically. Gujarat, the freest state, has gone up from 0.46 to 0.64. Haryana, which used to be the most backward part of Punjab until it split away in the 1960s, has improved its index value from 0.47 to 0.55, and has consistently ranked as the fourth-freest state from 2005 to 2011. This drives home the overall story of Punjab?s steady relative decline, even though in absolute terms its performance has not been too bad.

However, there is one clear silver lining. At the local level, Punjab?s cities have created a relatively good business climate. Ludhiana, the biggest city in the state, is reckoned by the Doing Business studies of the IFC/World Bank to have the best business climate among major Indian cities. However, too much should not be read into this?the correct interpretation is that Punjab is less of a laggard than other states, but far behind places elsewhere in the world. India ranks just 134th out of 183 countries in ease of doing business, so being India?s best does not mean excellence by international standards.

Why has Punjab suffered a relative decline in the last two decades? Politicians and academics in Punjab reel out a long list of reasons, but most of these turn out to be exaggerated or downright false.

Myth-1: India has fought several wars with Pakistan across the Punjab border, and fears of fresh wars have kept industry away from Punjab. There was indeed a time, in the 1960s and 1970s, when the central government sometimes seemed hesitant to build major public sector industrial projects in Punjab because of its location next to Pakistan. But the public sector has long ceased to be the driving force of industry in India, and economic reforms starting in the 1980s and accelerating in the 1990s have put the private sector in the driver?s seat. The private sector has invested massively in two other border states, Gujarat and Rajasthan, but much less in Punjab.

Myth-2: Sikh terrorism caused Punjab?s decline. Sikh terrorism ended two decades ago, and Punjab?s decline has continued nevertheless. Today, many Indian states face Maoist insurrections, which sometimes are as threatening as Sikh militancy once was in Punjab. Yet this violence has not come in the way of India achieving its fastest growth in history. The most entrenched Maoist-held areas are in the state of Chhattisgarh, which has huge forests, relatively few roads, and limited administrative breadth. The Maoists control very large areas in the state. Yet Chhattisgarh has been, in the last decade, one of India?s fastest growing states, averaging 9.1% per year between 2002-03 and 2010-11. It is a major producer of steel, sponge iron and aluminum. No doubt it has the advantage of big mineral deposits, but Maoists have seriously disrupted this. The contrast between economic growth in Punjab and Chhattisgarh demonstrates that terrorism does not necessarily mean economic decline, and can co-exist with double-digit growth. Besides, almost two decades have passed since the end of terrorism in Punjab, so it is a poor excuse for the state?s continuing weak performance.

Punjab politicians say that the state accumulated huge debts because of low revenues and the high cost of combating terrorism in the terrorist era, and claim that New Delhi has not given enough debt relief to Punjab to get rid of this historical burden. This is disputed strongly by New Delhi. A former finance ministry official who dealt with Punjab?s debt problems says that debt relief for the terrorist era has been given in ample measure by the Twelfth and Thirteenth Finance Commission. The real problem, says the official, is that slow GDP growth has meant slow revenue growth, and its fiscal impact has been compounded by huge non-productive subsidies, mainly for electricity.

Myth-3: Punjab is very distant from the sea, and so is unable to grow as fast as states with ports. Geography is not destiny. Land-locked areas may have disadvantages, but are capable of becoming rich and fast-growing if they follow the right policies. Just as badly land-locked as Punjab are the two neighbouring hill-states of Himachal Pradesh and Uttarakhand, both of which have grown much faster than Punjab. Until the 1980s, New Delhi followed a ?freight equalisation policy? that enabled all states to get industrial inputs like coal and steel at the same government-ordained price. Once freight equalisation was abandoned in the 1990s, Punjab?s distance from coal mines and steel plants became a disadvantage. However, many other states were just as disadvantaged in distance from coal mines and steel plants but fared well. The best example of this was Gujarat, which became India?s fastest-growing major state even as Punjab kept slipping.

Myth-4: Punjab has no metallic minerals or coal, and so loses out to states that do. Good agricultural soil is a form of mineral wealth, and this was the driver of all great ancient civilisations from Egypt to China. And Punjab has this sort of mineral wealth in abundance?its soils are excellent for agriculture, and rank among the best in India. This is one reason why its agricultural yields are the highest among any state. Mineral wealth is by no means a key determinant of either industrialisation or GDP. Maharashtra, Tamil Nadu and Gujarat are India?s most industrialised states, with high GDPs. None of them has major minerals. Maharashtra has substantial coal reserves for power generation, but Gujarat and Tamil Nadu do not. Looking across the globe, we find that countries like Japan, Korea and now China have shown it is possible to import minerals from across the world and yet produce internationally competitive industries and become miracle economies. Punjab itself was the fifth-most industrialised state in India in the 1980s, despite the lack of nearby minerals or coal.

To regain its place in the sun, Punjab?s politicians need to abandon old myths about why it is in trouble and face up to some ugly realities. The state needs to tackle its chronic fiscal deficit, something that holds back investment in education, health and infrastructure, and focuses public spending on various unproductive subsidies, the most fiscally crippling of which is free power for farmers. It needs to end perverse incentives that encourage land speculation and push up land prices so high as to make industrial investment uneconomic. It needs to end chronic power shortages and rehabilitate the state?s deteriorating transmission system, and this cannot be done without charging farmers for power. Agricultural marketing is riddled with controls, and needs to be freed from the grip of a trading class with huge political clout.

The positive news is that Punjab has managed to attract private investment in power, so electricity shortages should lessen in coming years. It has also shifted from old public sector monopolies to public-private partnerships in health, education and infrastructure, and these promise to improve efficiency and outcomes as well as accelerate investment. Its Right to Service Act is a promising first step in improving administrative efficiency and justice for citizens. Punjab has recently allowed long-term farm leases, and this could attract big investments and raise productivity in agriculture. It has a good business climate by Indian standards, and Ludhiana is ranked the most business-friendly of the country?s top 17 cities. The best recent news is that trade between India and Pakistan looks like getting normalised after decades of bitter hostility and confrontation. Punjab looks like becoming the gateway of Indian trade with Pakistan, and that will give its economy a big boost. It needs to build on this.

This is an edited extract from the second chapter of the Economic Freedom Rankings for the States of India, 2012 report, by the Cato Institute, Washington DC, and Indicus Analytics, New Delhi, in partnership with Friedrich Naumann Stiftung

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First published on: 08-11-2012 at 01:25 IST