Friday, September 26, 2014

Indian economy and its "crony capitalism risk"

Business Standard reports that the Supreme Court's recent decision to cancel 194 coal block allocations made since 1993, coming on the back of the cancellation of 3G telecom spectrum licenses, "reminds all investors that India is a country fraught with political risk". A more appropriate characterization of the risk would be "crony capitalism risk".

As the Indian economy liberalized in the nineties, the old license permit raj, which was underpinned by an unhealthy relationship between businesses, officials, and politicians, contrary to popular perception, got strengthened rather than weakened. A far more entrenched, pervasive, and corrosive nexus emerged as economic growth surged and private participation in many sectors expanded dramatically. Several forces were at play in accentuating this trend.

On the one side, the rising tide of private participation led to the opening of several sectors and hugely valuable public resources - land, coastline, minerals, water, spectrum, airline routes, public sector bank credit, etc - were allotted to corporate groups. The commercial stakes associated with these transactions were on a qualitatively different scale compared to anything done before. Apart from resource allocations, private participation increased in several other areas - project and facilities management, operation and maintenance, quality control, routine services, and so on - often directly substituting public personnel.

On the other, these allocations and contracting were, most often, not only done in an ad-hoc manner without a transparent, competitive, and fair policy framework, but also by system which did not have the institutional capacity to effectively design and manage these contracts. One-sided contracts which very adversely affected public interest passed through the gates of ill-equipped and compromised gate-keepers with minimal due diligence. Corporate greed, the exploding cost of electoral politics and campaign finance, and incentives within the bureaucracy aggressively fueled these forces. India's version of crony capitalism had taken stage.

History teaches us that this phase has been a feature of economic development and structural transformations across the world. The "robber barons" of the gilded age in the United States had their counterparts in East Asian "crony capitalists". The only difference from these experiences may be that our version has had egregious excesses involving massive amounts of public losses, over a very short time, and in an environment where judicial and media activism are at their peaks.

In the late nineties and most of last decade, the massive profit opportunities in opaque and customized resource allocations and public contracts helped corporates, Indian and foreign, enjoy a very high "crony capitalism premium". Then as the tide turned and the backlash started, the premium has been replaced by a steep discount. This should not come as a big surprise. Common sense tells us that there are no free lunches - disproportionate returns are always accompanied by high risks.

It is a tribute to the country's democratic institutions and checks and balances that these excesses are being corrected. It is certain that this cleansing would result in the emergence of a more healthy and stable politico-economic business environment in the country. What is not certain though is how many more cancellations and uncertainty will have to pass before that environment emerges. It is likely that more of such cancellations will happen in the months ahead. Which of oil blocks, airlines routes, space spectrum, and land is coming next?


Shankar said...

Rather than comparisons to the US' gilded age or "crony capitalism" in South Korea, it wuold be more appropriate to compare what has happened in India to what has happened in practically every country in the world after the onset of "liberalisation" reforms in the late 1970s. The US and the UK are no exceptions (Richard Branson is an illustrative example). This is not a "phase" in economic transformation, it is a direct result of the kind of "reforms" that are being promoted. The phrase "crony capitalism" is a nice one in that it basically means "what we don't like just now" (all capitalism has its favours, corruption, regulatory arbitrage and cronyism - perfect competition never occurs in any real world economy). As many have pointed out, the Asian crisis was the direct result of the capital account liberalisations forced on Asian economies by the IMF - which praised them until the crisis, and then suddenly discovered that these "dynamos" were actually "crony capitalist" economies. The same tale took place in Mexico, Argentina, Russia, etc. Rather than waiting for some mythical heyday when all this will end on its own, it's time we took a hard look at what these "reforms" are actually doing.

Pratik Datta said...

Of late (possibly since the Commonwealth Games scam) there seems to be a sudden rule of law awakening in India. Liberalisation must have played an important part since it pushed Indian ways of working to international standards. Just to illustrate, the Bar Council of India (which is still opposed to foreign lawyers practising in India), had always been passive in its function as a regulator of legal education and practise (hardly cancelled any lawyer's license or law school's affiliation). But suddenly it seems to have regained its regulatory sense: