Nobel-winning economist Joseph Eugene Stiglitz is known for his perspicacity and candour. In India to promote his new book, The Price Of Inequality, Stiglitz spoke to FE?s Banikinkar Pattanayak and KG Narendranath on the state of Indian economy and the externalities it has to cope with.
As slowing growth and stubbornly high inflation make some wonder if the Indian economy is overheated, what do you think should be the right fiscal policy?
Well, you can?t separate monetary and fiscal policies. I don?t think I have the required inputs to judge whether the Indian economy is overheated, but that?s indeed a critical issue. The issue is the source of inflation. Is it, for instance, high food prices? High food prices aren?t necessarily the symptom of a broadly over-heated economy. And the decision to raise diesel prices, that?s not the symptom of an over-heated economy. That?s a supply-side measure. So that requires a more careful diagnosis. Some may disagree, but I haven?t found the case that the Indian economy is overheating to be compelling.
Let me say that for a catch-up economy, the limits of growth are much higher than an economy like that of the US. India has the potential for higher productivity increases. An economy in India?s stage of development can, in principle, achieve high growth. And that?s what China has demonstrated, without high inflation. So, some people may be looking at the growth rate and saying, ?Oh, that growth of 9% is too high.? But the fact is, for that kind of an economy, such a high level of growth doesn?t necessarily mean overheating, but it could.
India?s investment and savings rates have dropped sharply since 2007-08. What are the ways to restore these to pre-crisis levels? And where should the more productive kind of investments primarily come from?the private sector or the government sector?
It?s clear that India needs a lot of public investment?in infrastructure, technology, education, health. The government has a lot of scope to spend. But I also think there is a role for the expanded private sector in that spend, which could be restrained. Some people think of restraint through high interest rates.
Are high interest rates or availability of capital as much of a problem in India as they are touted to be?
Some people look at what they call real interest rates. They take normal interest rate and inflation rate and say interest rates aren?t that high. But that?s wrong. The reason is the inflation rate that?s relevant to the firm is not necessarily that (at the retail consumer level). So, it doesn?t do a firm any good to know that the price of food is going up if food is the source of major inflation. If the price of energy is going up, that?s a problem for the firm. So, a lot of discussions that suggest the real interest rates are not that high miss the fact that there is a different real interest rate for firms doing investing; there is also an inflation rate for firms, different from the rate relevant to consumers.
But with the rise in global commodity prices consequent to global stimulus measures, imported inflation has been a big issue in India.
That?s something where the monetary policy (raising interest rates) doesn?t affect directly, although there are intertwined factors like the exchange rate. The point I am making is that if you are raising your interest rates, it isn?t going to bring down the global prices of oil. This is an external factor and you have to deal with it, although it?s an adverse one.
So, what should be the right policy on the exchange rate, as we are not particularly an export-dependent economy?
Well, I still think that having a more competitive exchange rate has two advantages. First, it increases exports. Second, it helps the import-substitution industry. Don?t think about exports alone?think about other industries that come with substitutes. India has a large domestic economy, and it is not like a little island state.
Will the growth impetus for India have to come from the domestic economy?
Yes. By expanding domestic industry, including the import-substitution industry and exports, India will stimulate its economy.
There are issues of natural resources such as telecom spectrum, coal and other minerals getting transferred to the private sector without a transparent policy. Recently, there have been scandals around these in India. What do you think is the best policy for resource transfer?
It?s one of the issues raised in my book, The Price of Inequality. It may not give India much solace to know that this is a global phenomenon. In the US, we also transfer our mining rights to mining companies at below-market prices. But an important difference is we do it in a more transparent manner, but in a process I call ?corruption: American style?. We tried to change this in the Clinton administration but we failed because of the power of money.
Is there benefit to the economy in balance, from such transfers of natural resources at below-market prices?
I think such practices are outrageous. I think it hurts the economy and hurts equality too as we could use that money for better promoting the economic growth. And you could use it even better than we could. In the context of the spectrum auction, like for telecommunications, we designed a very good auction product called innovation in auction design, and we had the best economist theorists to help design the way to get the maximum price. And the result was that we got billions of dollars for the government. So, that was the case where we, the technocrats won and the country won.
Inadequate regulation of the financial sector is said to be the root cause for the crisis in the US. In India, we are trying to open up further in various sectors, including insurance, pensions and perhaps banking at a later stage.
I don?t think that attracting capital is a major problem. I think short-term capital is dangerous because it can come in and out, causing instability. I think the first lesson of the global financial crisis in 2008 is that you need very strong financial sector regulations. The second lesson is that you need, in particular, special regulations for cross-border capital flows, which can be a source of a lot of instability, especially in emerging markets.
The third lesson, which is related to that is, say, in the banking sector. You need to ensure that banks are established on a subsidiary basis, so that they can?t take money easily out of the country. It shouldn?t be branch-expansion but it should be subsidiary-based. Because what can happen is, say, Citibank wants money back in New York and takes all the capital out of its branch in India. So, the volatility in the US gets transmitted to India. So, you need to have regulators willing to enforce strong regulations.
But how will we attract capital?by way of opening up more sectors for foreign investments or are some structural reforms required?
I think FDI is better than short-term capital flows; it is more stable. India is different from many other developing countries, as you have a lot of entrepreneurship in the country. You know how to get global technology, and actually you have access to capital too. I don?t think these FDI restrictions are the most important restrictions on India?s growth. A worry among some economists is that financial markets are basically local by nature, and you have to know who are good; foreigners can?t know that. In the end, it?s going to be Indian entrepreneurship that will help attract the foreign capital.
Isn?t red tape a big issue in attracting capital?
You shouldn?t have much of a bureaucratic control but what I also want to say is I don?t think the inflow of FDI is the central issue for India?s growth now, as it was 25 years ago. FDI doesn?t need to play in most industries, and particularly in financial industries, I don?t see it playing a kind of pivotal role. I think land reform seems to be an important issue. In some places, reforms in infrastructure are required. Assured electricity supply is also a key issue.
But to actually attract private investments in these areas, how important are reform measures in user charges, tariffs?
Yes, but you see, the US has a very disastrous experience with public-private partnerships. For example: Enron. The private sector is very willing to exploit the Indian consumer by working with some corrupt government officials. So the challenge, going forward, is to make sure there is a lot of transparency in any of these partnerships, and you are getting prices that are globally competitive. And the kind of secret agreements that existed in the past are dangerous. So, you need FDI and you need energy. But the best way of getting them is to have a competitive energy sector.
Recently, the US Fed announced the third round of quantitative easing, which has the potential to drive up commodity prices.
Some people say QE3 is not having the predicted effect as oil prices haven?t gone up significantly. The answer is, there is a global slowdown. Normally, we would have said in the face of the slowdown, oil prices should have gone down a lot, but they didn?t. And that suggests an effect, a potential effect, although it?s hard to prove.
