Larry Summers in India: Provokes Serious Discussion On United States' Unsustainable International Borrowings

Speaking at the Reserve Bank of India in Mumbai to give this year’s L.K. Jha Memorial Lecture on March 24, 2006, Dr. Summers complemented India for her achievements over the past decade, in terms of remarkable changes in the economy, financial system, education, and health care - and the vast improvement realised in the lives of literally hundreds of millions of people as a consequence. Dr. Summars noted that the change in India's relations with the United States has been a profoundly positive development - he hoped that it will prove lasting.

Dr. Summers focused his speech on three aspects of the prevailing global financial flows which stand out as being without precedent: first, the net flow of capital is substantially from developing countries and emerging markets towards the industrialized world and principally to the United States, as the world's greatest power as well as the world's greatest borrower. Second, the build up in U.S. net foreign debt is substantially mirrored in reserve accumulation by emerging markets. And third, the expected the real returns on the reserve accumulation tend to be low and risks very high.

Dr. Summers called this as the "capital flows paradox" and remarked that it requires a careful thought especially because it is simply nsustainable and problematic. "There is a hard-landing risk – not just an American risk, but a global risk at a time when the U.S. external deficit is creating nearly an export stimulus demand approaching 2 percent of global GDP!"

Dr. Summers suggests that this "capital flows paradox" has made prevailing G7/G8 obsolete, as a dominant forum for international financial discussion. It is neither in a position to discuss many of the most important domestic policy adjustments necessary for global stability nor does these groups include the largest official suppliers of cross border flows of capital. Any attempt to manage jointly any increase in U.S. savings and an offsetting increase in global demand from global sources will clearly require a forum that is broader than the G7/G8 -- so also for any global attempt to think through the implications of the massive reserve accumulation by some of the developing countries. A food for thought to the IMF and the World Bank!

Dr. Summers noted that there is a need for creating a new forum that structurally has political clout over the international institutions and at least some ability to influence domestic policy decisions of individual countries. He noted three areas of focus in the next several years: "First, the formulation of a global strategy for managing U.S. current account deficit downwards without excessive risk to global growth; Second, the role and governance of the existing international financial institutions in the current environment; and Third, the question of (effective and efficient) deployment of developing countries' reserves with acceptable levels of real returns and risk management. Thanks to Dr. Summers for choosing this topic and addressing it so forcefully.

Let us hope Dr. Summers gets back into a key policy-making position where he can make a difference in the changing the course of the World Financial System including the two international institutions, the IMF and the World Bank.

You can read Dr. Summer's full speech on Reserve Bank of India's website.

CHRONIC ABSENTEEISM IN INDIA'S SCHOOLS AND HEALTH CLINICS

"A recent World Bank survey found that 25% of government primary school teachers in India are absent from work.

Only 50% of teachers are actually engaged in the act of teaching while at work, according to researchers.

These statistics represent average numbers taken across many states. The numbers are not so harsh across all of India and several Indian states fare much better.

The survey is part of a broader World Bank research project on absenteeism, which set out to measure how widespread the problem is in six countries in the world, including India and Bangladesh.

Survey teams paid unexpected visits to random primary schools and health clinics. They recorded that on average 19% of teachers and 35% of health workers weren’t at work on the surveyed day in the six countries.

Teachers and health workers are extremely unlikely to be fired for absence, researchers found. Only 1 in 3,000 head teachers had ever fired a teacher for repeated absence.

Better pay also doesn’t lower absenteeism. Older teachers, more educated teachers, and head teachers have better salaries but are also absent more frequently, according to a related research paper on absence among Indian teachers. Also contract teachers are paid much less than regular teachers but have similar absence rates.

Absenteeism among teachers and medical personnel is widely cited in development literature as a barrier to improving education and health levels in developing countries.

Developing countries often spend 80% to 90% of their education budgets on teachers, without getting the most basic of returns – getting teachers to show up to work. What can policymakers do? Working conditions are more likely to influence teachers’ absenteeism than fear of losing pay."

(Source World Bank Internet Release)

By Leaving Parliament Mrs. Gandhi Might Gain, So Also The Congress Party

Commenting on Mrs. Gandhi's resignation as a Member of Parliament, the International Herald Tribune’s correspondent Amelia Gentleman says. “In real terms, little has changed. Despite Mrs. Gandhi’s public renunciation of her seat in Parliament, taken to deflate a brewing political dispute over an esoteric bit of parliamentary law, Gandhi remains at the head of the governing Congress party, wielding significant political influence”.

Amelia says the style of Mrs. Gandhi's announcement was strongly reminiscent of her "decision to turn down the position of prime minister in 2004 after rightist opposition politicians said her Italian origins made her ineligible for the post. Then her supporters hailed her "high political morality" and "sacrifice," and supportive newspapers dubbed her Saint Sonia”.

In this context, Mrs. Gandhi said that she is not in politics for a “personal gain” – meaning she is there only to serve India’s vast population. Also, for the Congress party characterized by its infamous greed for power and internal bickering, it is convenient have Mrs. Gandhi as a unifying force.

As the story goes, “Earlier this week no one could have anticipated that a simmering conflict between the head of India's governing political dynasty and the grande dame of the country's leading Bollywood acting clan would result in Gandhi's resignation from Parliament”!

Meanwhile, Mrs. Gandhi is planning to visit her constituency this weekend to begin campaigning for a special election that all observers believe she will certainly win. "India likes people who renounce things. This is something that Sonia has played on before," said one political commentator, Kalyani Shankar. "They like the image of politicians to be people who make sacrifices - like Gandhi, who gave up his clothes, food, his house" she said.

BJP and the leftist parties are on the defensive --- looks like, the country is going back to be ruled by Congress on its own once again. What do you think?

Interest Rate Subsidies on Farm Loans Could Get Out of Hands Soon!

In their meeting with Finance Minister Mr. P. Chidambaram on March 23, public-sector bank chairmen propose to ask for government subvention equal to 2.5 to 3 percentage points on agricultural short-term loans, to be able to lend at the government-directed interest rate of 7%, if they must cover their banks' transaction costs, and leave them with a reasonable spread. .

The government directive to lend short-term agricultural loans at 7 per cent per annum is applicable only to public sector banks and cooperative banks and not to private banks. Further NABARD refinance packages at subsidized interest rates will be available only to regional rural banks and cooperative banks and not to public sector banks.

If the public sector banks do not receive the needed budgetary subventions, they will inevitably be constrained to cross- subsidize agricultural loans by increasing interest rates for loans to other sectors. Some banks have already announced to do so with a possible increase of 1% p.a. in interest rates on loans to all other sectors.

If past experience is any guide, the government may nominally (on paper) allocate money for subventions to public sector banks and NABARD but in practice there may not be available necessary cash (liquidity) to release these allocations to banks.

If public sector banks are constrained to cross- subsidize short-term agricultural loans, the only alternative for them will be just to reduce their lending for agriculture – which means farmers are denied access to credit. What farmers want is access to adequate credit and not necessarily cheap credit.

What a mess? Instead of making the country's rural financial system market-oriented, competitive and efficient to be able to undertake viable financial intermediation on their own, the government has one more time chosen a subsidy instrument that will hurt all including the government, banks, farmers and borrowers in non-agricultural sectors.

Interest rate distortions do not help the economy, the savers, the borrowers and the financial intermediaries. Should we urge the government to reverse this wrong policy?

Sonia Gandhi resigns as MP! And Many More Resignations To Follow.

Sorry for my long silence . We must be humble though to acknowledge that the world does not stop for us.

Meanwhile, India's political scene is quite heated up as several MPs are caught in a "conflict of interest" issue for holding offices of profit while being a MP?

Here, earning some income is not an issue as MPs have other sources of funds. Some MPs just want to continue with their old institutions or their supporters want them to stay on so that they can benefit from their (MPs') association.

Mrs. Sonia Gandhi, who declined the Prime Minister's position for reasons best known to her, is also caught in this spiral and had to resign.

May be, there will be several by-elections taking place soon -- leading to some important changes in political allignments and power structures.

In any case, this one event is of great significance to Indian democracy which is indeed maturing as every day passes! This is encouraging.

India’s Budget for FY2006-07: Interest Subsidies on Agricultural Loans

Do you think if the interest subsidy scheme launched by the new budget is based on rational economic decision-making? Will this program help boost the flow of credit into agriculture – or may end up reducing it? Past domestic and international experience with interest subsidies on rural lending, dependent as they are on government budgetary funds -- does not support this policy.

The interest rate subsidy program also ignores the earlier government committee recommendation that interest subsidy element in credit for the priority sectors (including agriculture) should be totally eliminated! What is important for intended beneficiaries is the timely and adequate availability of credit rather than the cost of credit!

Finance Minister Mr. Chidambaram’s budget speech on February 28 started with a quotation from Swami Vivekanand: “We reap what we sow – we are the makers of our own destiny”. So true! But will India’s millions of farmers, poor and non-poor, be able to reap more produce and improve their own destiny by interest subsides?

At issue is not whether farmers deserve subsidies – we have to address this question taking into account a range of macro-and micro-economic aspects, including the need for targeting scare resources to farmers below certain income levels or those below the poverty line (BPLs) --- but the problem is that the interest rate subsidy might allow prosperous farmers (especially those growing cash crops like sugar cane, horticulture, and livestock) to grab this assistance to the exclusion of the poor farmers – usually those dependent on producing grain crops in rain-fed areas. Since they lack access to bank credit – either because they are not viable or the credit institutions serving them have become non-viable -- how the interest-rate subsidies will reach them?

The new budget initiative is expected to provide a one-time relief to farmers, who availed of crop loans from Scheduled Commercial Banks (SCBs), Regional Rural Banks (RRBs), and Primary Agricultural Credit Societies (PACS) for Kharif and Rabi of 2005-06, in an amount equal to 2 percentage points of the borrowers’ interest liability on the principal amount up to Rs. 100,000. This amount will be credited to their bank accounts before March 31, 2006. GOI will provide a budget allocation of Rs. 1700 crores for this purpose.

Also, with effect from Kharif 2006-07, farmers will receive from SCBs, RRBs and PACS, short-term credit at a low interest of 7 per cent, on loans below the threshold of Rs. 300,000. GOI will provide a subvention to NABARD for this – it is unclear yet how NABARD will administer this scheme. The cost of this new policy to the taxpayer is not readily available but could run into crores of rupees.

In India, the public sector involvement in rural credit started with the All India Rural Credit Survey Report in 1954. It not only did endure over the past five decades but over time deepened and played a dominant role. The government could do this because much of the commercial banking sector came into the public ownership in 1969 and while the cooperatives came to be subject to state control and funding as an outcome of public policy to ensure increased and sustained supply for priority sectors including agricultural production, and for poverty alleviation objectives.

Not long ago, in 1991 and 1998, the two Committees chaired by Mr. M. Narasimham- the Committee on Financial System and the Committee on Banking System Reforms -- took note of the problems with government -directed credit provided on concessional terms (including interest-subsidies) and recommended that it be phased out with required changes in interest rate policies.

As regards commercial banks’ directed credit program (including priority sector lending), Narasimham Committee I (1991) noted that they had played a useful purpose in extending reach of the banking system to cover sectors, which were neglected hitherto. Despite considerable unproductive lending, there was evidence that that contribution of bank credit to growth of agriculture and small industry did make an impact. However, this Committee called for re-examination of the relevance of directed credit programs at least in respect of those (a) who were able to stand on their own feet and (b) to whom directed credit programs with the interest concessionality had become a source of rent.

While recognizing that during the two decades -- 1970s and 80s, - the banking and credit policies had been deployed with a re-distributive objective, the Narasimham Committee believed that the pursuit of such an objective should be the instrumentality of the fiscal sector rather than of the credit system.

In part, the interest subsidy scheme will indeed be funded by fiscal resources but its distortionary effect on the banking sector will be quite serious in that due to GOI regulation that interest rates on agricultural loans up to Rs. 300,000 should not exceed 7% p.a., the banking system will not be ble to lend to these clientele from its own resources -- except without loss, thereby limiting the access of millions of farmers to credit that cannot be subsidized by the government due to fiscal constraints.

Narasimham Committee II (1998) revisited issues concerning banking sector’s directed credit and interest rates and observed that the asset quality had further suffered as a result of directed lending, an outcome not much different from international experience. Directed credit apart from leading to possible misapplication or misallocation of credit resources, had led to an increase in non-performing loans and adversely affected efficiency and viability of banks.

In an environment of directed credit (or priority lending), bank managers are under pressure to meet the targets and in the process credit discipline suffers; borrowers willingly default because they believe creditors will not take legal action against those considered to be in the priority sectors.

Narasimham Committee (II) reemphasized that except for priority lending up to 10% of net bank credit earmarked for lending to weaker sections, the rest of the directed credit be phase out while continuing to lend for agriculture and small scale sector on commercial considerations and on the basis of creditworthiness.

Thus, if the expected benefits of the proposed interest subsidies are so much in question, why did you think the government thought of reintroducing this failed program in this year's budget?




(Note: The views expressed in this post are purely personal).

"End of Great Poverty Debate In Sight" says Mr. Surjit Bhalla

For the past several years, there has been a considerable debate going on among “real” economists and “political” economists about what happened to poverty in India during 1990s.

The debate concerned both political and statistical issues in India's poverty. Following the introduction of economic reforms in early 1990s, India witnessed high rates of economic growth but the effect of this growth on poverty remained a controversial topic. GOI’s official numbers showed an acceleration in the rate of poverty reduction from 36 percent of population in 1993-94 to 26 percent in 1999-2000. Many economists challenged these numbers as showing both too little and too much poverty reduction!

Mr. Bhalla says that the 1999-00 NSS survey which provided the basis for these numbers became controversial for two reasons: first, it showed a largish poverty decline in the post reform 1990s; second, the NSS had asked for food consumption according to two separate recall periods—7 and 30 days. The critics from the leftist parties said that because of this statistical “lapse”, the 1990s poverty decline was more mirage than reality, and therefore how economic reforms had not produced extra growth, etc. In response to this criticism, NSSO changed the survey design to that which prevailed in 1993-94 and before.

Both sides of the poverty debate perceived the poverty reduction claims as political, as hidden were important statistical issues such as discrepancies between surveys and national accounts, the effects of questionnaire design, reporting periods, survey non-response, repair of imperfect data, choice of poverty lines, and interplay between statistics and politics. However, there was general consenses that even if official numbers seemed too optimistic, particularly for rural India, the poverty in India did reduce during 1990s.

Mr. Surjit Bhalla expects this poverty debate should end soon as the data from 2004-05 NSS data becomes available. His educated speculation is as follows: "Per capita consumption in the first pre-reform 10-year period (1983 to 1993-94) rose at a low rate of 1.7 per cent per annum. In the next 11-year post-reform period (1993-94 to 2004-05), per capita consumption has risen at more than twice that rate—3.9 percent per annum. These data merely reflect the higher GDP growth that has occurred in India post the 1991 economic reforms, introduced first by the then reformist Congress. These rates are for national accounts data; the NSS survey mean consumption, the basis for poverty calculations, increased at a lower 1.0 percent annual rate in the 1983 to 1993-94 period; this survey growth rate is also expected to more than double, in keeping with the trend revealed by national accounts data”.

We will have further updates on this topic as we go along, as poverty numbers have underlying political implications. They tell us which government did better or worse than the other….and the party in power generally wants to tell the poeple that no other except itself is concerned about improving the lot of India’s poor..... they also do not want to loudly say that the other party had in fact done better?

On our part, we should look at these data and government policies as objectively as we could, without worrying about which party is in power.

What do you think? Please comment.

Congratulations Mr. Prime Minister

Congratulations to India and its Prime Minister, Mr. Manmohan Singh for reaching an historic understanding with the US President Mr. George Bush, on the US sharing its nuclear know-how with India.

The understanding when turns into a formal treaty will take India out of a five-decade old stalemet on NPT and allow it to secure new technology that is vital to generate much needed electricity to sustain India’s economic development including international competitiveness in the new era of globalization.

The new agreement will open doors for US and India to collaboaratively work on many other scientific fields including high-end electronics, biotechnology, space science, and nanotechnology.

Hopefully, the political battles both in India and US on the new necluear energy deal for civilian purposes will get sorted out soon. India loses nothing by separating its civilian atomic power plants from those engaged in production of military weapons to satisfy the World that India is taking all needed precautions to prevent proliferation.

India was consistent in saying that NPT was in principle discriminatory and without diluting this position, it has succeeded in securing a remakable deal with USA, thanks to the Prime Ministers political acumen and bold leadership.