MacroScan - Approaching the Eleventh Plan

The most remarkable thing about the Planning Commission's Approach to the Eleventh Plan is that there appears to be no planning in it. Planning in the economic sense requires, at the minimum, a constrained maximisation exercise - that is, a clear definition of the social goals, which are then sought to be attained as far as possible subject to the prevailing resource, economic, social and technological constraints. This in turn requires a specification of the proposed mechanisms or measures to be employed to attain these goals.

This was certainly present in the earlier Plans of the Government of India. Even in the 1980s, the Plan documents at least had the semblance of such minimum discipline, though it could be argued that by then the governments in power had less inclination to even try and follow them in practice. But the current Approach Paper does not even attempt to provide a clear statement of goals and mechanisms. Instead, it adopts an uncritical ''trickle-down'' approach to economic growth, by making the basic objective the achievement of a certain target annual GDP growth figure - either 7,8 or 9 per cent per annum - and effectively assuming that all social goals will be achieved by this.

This is almost criminal since the Approach has tucked away in it the first official acknowledgement that the country has been told a fairy tale about poverty reduction during the 1990s. Till now the growth-first argument has made much of the contested official claim that poverty declined from 36 per cent in 1993-94 to 26 per cent in 1999-2000 or by 10 per cent over a 6 year period. It is now revealed that the comparable figure for 2004-05 is 28 per cent, which implies only 8 per cent reduction over a 11 year period. This implies that despite all the hype on growth, it is now official that the rate of poverty reduction after 1990 has been at only half the rate between 1977 to 1990.

In addition to this glaring confusion on whether growth itself is the objective, or a means to achieving something more meaningful, the Approach has reduced its ''planning'' exercise to a relatively crude calculation of the projected growth scenarios and the associated requirements of public and private savings and investment as well as sectoral growth rates. These numbers are derived not just through extrapolating from the past but by making (often heroic) assumptions regarding what are perceived to be desired changes, without any consideration of how these different numbers are to be achieved.

This approach deserves to be explained in more detail. Chart 1 describes some of the main macroeconomic indicators of the previous two Plan periods. Average annual GDP growth in the Tenth Plan is estimated to be 7 per cent, below the plan target of 8 per cent but still above the annual rate of any previous Plan period.
Chart 1 >>

However, certain features of this growth process need to be noted. First, this respectable average rate of growth resulted from a combination of poor performance in agriculture and improved performance in the other two sectors. More significantly, it was associated with not just higher investment rates but significantly higher savings rates, which in the event have turned out to be higher than investment rates. This is why the current account has actually been in surplus over the Plan period, at an average of 0.7 per cent of GDP.

This needs to be compared with the projections of the Tenth Plan, as shown in Chart 2. It is evident from this that even if the Tenth Plan had approximated the aggregate rates of investment and growth, its projections of the structure of that growth have been completely belied. Thus, agriculture in particular has performed well below target. Most surprisingly, however, the savings rate has been well above target while the investment rate has nevertheless been below target! This is why the GDP growth has been associated with current account surplus rather than deficit.
Chart 2 >>

But it points to a very disturbing feature of the past growth, which is that over the Tenth Plan, the investment rate has fallen well below the potential provided by the domestic savings rate as well as a feasible current account deficit. In other words, investment has seriously underperformed.

In any reasonable planning exercise, surely the first question following upon this should be: why has this happened? Of course, to take investment and growth alone as the basic macroeconomic targets is deeply problematic, as we shall discuss below. But if they are to be taken as targets, then it is incumbent upon the planners to assess the past performance and consider why the outcomes were so different from those that were expected. And the answer to this question should at least inform the strategy for the next plan.

Thus, one major difference between the anticipated and actual in the indicators, which has contributed to the final outcome, is the much lower rate of public investment. This has been only around 7 per cent of GDP compared to the Tenth Plan target of 8.4 per cent. This has critically affected not only the aggregate investment rate but also private investment, since there are well known synergies between public and private investment. And the relatively inadequate performance of public investment is related to the misplaced perceptions of fiscal constraint that have prevented the government from increasing much needed public investment despite favourable macroeconomic conditions.

This has been marked for both direct public investment (the ''capital expenditure'' of the government) and investment of Public Sector Enterprises, many of whom currently hold their profits as reserves or to provide savings for use by government and private sectors rather than being encouraged to engage in active expansion and investment themselves. Indeed, the inadequate investment by PSEs, amounting to a huge waste of public assets as well as enormous unutilised investment potential, was a major crime of omission of the previous NDA government that has thus far been continued by the UPA government. This is worth remembering every time the central government cries wolf about the shortage of resources available for public investment, and argues that FDI is the only alternative to generate growth or, even worse, when it divests its own shares in cash rich PSUs and claims that the proceeds will increase public investment.

This past and current practice of inadequate public sector investment (by both government and PSEs) in turn has already had adverse implications for the future. As Table 1 indicates, even the Planning Commission's own projections essentially show PSE profits (and therefore savings out of profits) as more or less constant as GDP increases, such that a higher rate of GDP growth is actually associated with a lower contribution of PSE savings.
Table 1 >>

This in turn creates more pressure on government savings, such that the government is forced into an even more contractionary fiscal stance in these projected growth scenarios, and moving from dissaving to positive saving amounting to 2.4 per cent of GDP in the highest growth scenario.

This is actually a travesty of the idea of public sector involvement in a developing economy, since it takes the government sector and public sector enterprises away from being net investors to being net savers and providers of resources for private investment. Since there are many areas where private investment will continue to be lacking or socially sub-optimal, because of externalities and social returns being higher than private expected returns, that means that all such areas will be underprovided. These include critical areas such as infrastructure, health, sanitation and education, and so on. Yet, amazingly, the Planning Commission actually appears to be envisaging such a scenario in future.

This self-imposed constraint upon crucial public expenditure is one of the chief macroeconomic drawbacks of the Approach Paper. The government may argue that the Fiscal Responsibility and Budget Management Act has left it no choice but to bring fiscal and revenue deficits down to the targets specified in the Act. But the FRBMA has actually become an unnecessary millstone around the government's neck, preventing it from undertaking necessary expenditures to improve the condition of citizens and to ensure a desirable pattern of growth.

The Approach Paper's section on financing the public sector plan does indeed recognise some of the difficulties posed by the rigid and indeed unreasonable demands of the FRBMA, and even suggests a postponement of the targets for fiscal and revenue deficits, by a period of two years. But the more plausible argument, of course, is simply that this Act should be scrapped by the same Parliament that chose to bring it in, because it is illogical, puts bizarre constraints on necessary and desirable revenue spending, does not allow anti-cyclical fiscal stances and also - as apparently recognised here by the Planning Commission - militates against higher economic growth.

However, the more pertinent question in this context relates to the growth obsession that is evident in much of the document. In this Approach Paper, the lack of realism or even awareness of recent national and international experience in this regard is evident. The simplistic and discredited ''trickle down'' argument is assumed to operate in its more benign and dynamic form, despite all evidence to the contrary. This completely belies the very title of the document - which suggests that the government wants to move towards more inclusive growth - since there is no consideration of changes in the pattern of growth that would be required to make it more inclusive.

The most critical aspect of growth that determines whether it is more ''inclusive'' is the extent to which it generates productive employment. This is where growth in India has been so lacking in the past fifteen years, since agrarian crisis combined with lack of adequate employment generation in other sectors have been the primary causes for the inequalising growth process so far. Yet, in the listing of the major challenges facing the government at the start of the document, there is no mention of employment generation!

Further, there is no concern with ensuring that the pattern of growth will be such as to generate more employment, or ideas about how to go about this. Instead, as will be described in the next edition of MacroScan, several policy initiatives suggested (such as liberalising the entry of foreign players into retail trade) would actually damage employment among small retailers and petty traders even further, rather than increase it.

Similarly, the other great economic challenge facing the country at present - the agrarian crisis reflected in high and unsustainable levels of peasant debt and the lack of viability of cultivation because of the cost-price relationship for many crops - is barely considered in this document. The Plan projections blithely assume (Table 1) that GDP in agriculture will grow much faster than it has done for the past decade, yet suggests no ways to ensure this. It is simply assumed that diversification into horticulture (which is not feasible for most dryland areas) and contract farming will automatically generate much higher income growth from agriculture. There is no discussion of any planned and systematic state intervention to address the structural and conjunctural forces currently devastating crop production.

In general therefore, the macroeconomic presumptions of the approach are faulty and unlikely to generate anything resembling more inclusive growth. Several other features of the proposed approach, which will be discussed in the next edition of MacroScan, are likely to lead to greater economic exclusion and more fragile economic circumstances for millions of people. The Approach Paper is particularly worrying because it suggests that even the Planning Commission, which is the agency within the government that is charged with the task of looking ahead and thinking strategically about the economy, has no intention of doing so.