What India needs to do to finally become a superpower

For the past 25 years, India has been rising in stature. It is continually called an upcoming superpower but has been unable to reach the promised status. India’s importance in the world is more due to its immense population and potential as a market than any objective assessment of development. India is classified by the World Bank as a lower-middle income country below the likes of Namibia, Botswana and Gabon. In terms of human development, we are more comparable to the countries of Sub-Saharan Africa than the other BRICS nations whom we like to consider our peers. Before India projects any power in the world, it needs to be comparable to first-world countries in terms of income and institutions. The path to a modern first-world country involves evolution on four parameters – an effective government, rule of law, accountability and finally economic growth. It is not necessary that all of these happen simultaneously, but improvement on all parameters is essential.

Effective governance

Of the four factors, an effective government is the most important criterion. A country can become rich with a big or a small government (France vs USA) but not without an effective one. Since the 1950s, many countries have gone from being poor to either middle-income or rich. These include countries from Taiwan, South Korea, and Thailand to Chile. Indians always like to compare themselves to China considering the proximity and similarity in size. Though China and India were comparable in 1978, in the 40 years since, the difference has become stark. In social indicators like female education and child mortality, Bangladesh has overtaken India and we are compared to Sub-Saharan Africa. In the long run, the feasibility of high economic growth is threatened by the underdevelopment of social and physical infrastructure and the neglect of human capabilities.

In India, the state is present in all aspects of people’s lives and the government largely functions with a feudal attitude – in modern parlance, “neopatrimonialism” (Shmuel Eisenstadt, ‘Traditional Patrimonialism and Modern Neopatrimonialism’). The elected representatives use state resources to secure the loyalty of their clients in the general population by promising to solve certain problems or by providing government jobs and other benefits. The system thus supplants the bureaucratic structure and undermines institutions and the rule of law. This has been observed everywhere in new democracies from Asia to Africa and is a problem that is hard to solve.

Why the political model needs to change?

Samuel Huntington (‘Political Order in Changing Societies’, 1968) argued that, as societies modernise, they become more complex. The institution of the local chief (“big-man”) which can serve a nomadic tribe or a small village cannot support a kingdom. In most developed countries (except the United States), democracy followed industrialisation. That is to say that as nations industrialised, there arose a middle class; as the middle class grew, it organised itself into a political force demanding representation before universal suffrage was granted (though in order of landowners, followed by all men, and only then women). If the social mobilisation bred by economic growth exceeds the capacity of the political institutions, the result can be a revolution.

In countries where the advent of democracy and universal suffrage has preceded industrialisation, the result has been chaos or ineffective governments. In these countries, leaders retain their old feudal and ‘clientalistic’ affiliations which come in handy during elections. Such a patronage network results in governance becoming personality- and cult-based rather than impersonal and rule-based. Weak institutions lead to weak law enforcement and conflict, and conflict leads to poverty.

Rule of law

Rule of law means that decisions are taken based on sound legal principles, rather than arbitrary exercise of power. Accountability, transparency, strong judiciary, separation of powers – all of these count towards rule of law. In the last ‘Rule of Law’ index, India ranked 66th among 113 countries. The general structure of Indian law enforcement is sound, however, as we all know redress is hard to come with courts and police overburdened. A large part of the banking NPA problem can also be ascribed to the extremely long time it takes for courts to resolve cases. Enforcement for the rule of law directly depends on state capacity discussed above.


Taiwan and South Korea developed as authoritarian states, but as the countries grew richer, a new middle class emerged which organised itself politically and demanded representation. The state institutions developed to accommodate these, and the two countries are now counted among developed countries with equally developed democratic institutions (in terms of Huntington, in the correct order).

The Arab Spring was an event where a growing educated middle class demanded democratic accountability, but autocratic regimes maintained by resource revenues did not evolve to accommodate the peoples’ demand of employment or representation. When economic growth failed to produce meaningful employment opportunities, people in the region, particularly the youth with high expectations for their governments, took to the streets. At first, they demanded not the overthrow of their leaders but jobs.

China is an authoritarian state which is largely not accountable to its people. But it is stable because it delivers what its citizens demand, i.e., economic growth and rising incomes. As China becomes richer, the Communist Party structure will be tested on how resilient it is and how it manages to deliver what people demand. If growth stalls, the truce between the people and the Party may break.

India does fairly well in terms of democratic accountability with a large number of political parties and largely fair elections. However, ineffective governance makes the government unable to provide what the populace demands. This is a problem as we are now facing a demographic transition with a large number of youth joining the workforce in the near future. Long-term unemployment and weak employment prospects can only fuel social unrest and a tendency toward radicalisation.

Economic growth

At some point, all governments are expected to deliver on the aspirations of the people. This implies that they have to work towards improving the living conditions and increasing the wealth of the populace. The Indian state has a very patchy record of delivering economic well-being. After twenty-five years of economic liberalisation, the middle class is still non-existent. Estimates by Goldman Sachs and McKinsey Global Institute put India’s middle class at 5 percent of the population while those by Branko Milanovic and Edward and Sumner in separate studies put it at less than 1 percent of the population.

Weak government effectiveness also leads to an inability to redistribute the fruits of economic growth. Unlike other countries, the Gini coefficient (which is a measure of inequality) for India increases when transfer payments from the government are included in the calculation. This means that even subsidies and transfer payments in India are captured by the well-off while large masses remain underemployed earning only a subsistence living. This exclusion from economic growth leads to dissatisfaction which can turn violent like the protests by Patidars in Gujarat, Jats in Haryana and the ever-present Maoist movement in central India. What is new here is that the new protests are from hitherto dominant social groups.

India fascinates the world and financial markets because it has so much potential. Soon to have the world’s largest population to drive consumption, it is still very poor with per capita GDP below $2,000 per annum. This is less than one fourth of China and less than 20 times that of the USA. Indians quite often claim that China can get things done because it is not a democracy. (This may not be true: Daron Acemoglu, Suresh Naidu, James Robinson and Pascual Restrepo in their 2014 column titled ‘Democracy causes economic development?’ discuss new evidence showing that democracy has a robust and sizable pro-growth effect.) The excuse allows lessons about China’s administrative systems, technological prowess and other capabilities to be ignored. For all the vagaries of growth, India has managed to entrench a democratic ethos. India has the advantage to be able to grow from a very low base and there are many low-hanging fruits in reforming markets for land, labor and capital, cutting red-tape and investment in infrastructure. India scores well in terms of accountability and economic growth, but it will continue to be a developing country till it increases state capacity.


This article first appeared in Governance Now.

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Why RBI needs to tap insurance, pension funds for infra finance and not go for long term finance banks

Since the Reserve Bank of India released its discussion paper on Wholesale and Long-Term Finance Banks (WLTF), much ink has been spilt over how it is much needed or how it has been tried before with ICICI, IDBI, IDFC etc. and failed. India’s infrastructure is generally accepted as inadequate and inefficient. India could do with sizeable investments in power, roads, railways, public transport and a hundred other basic infrastructure projects. Finance Minister Arun Jaitley had pegged the required investment over the next 10 years at $1.5 trillion; about 75 percent of India’s 2016 GDP.

Why can’t banks handle the lending?

The RBI discussion paper states that there is a declining trend in bank credit towards services, industrial and small and medium enterprises. This decline is attributed to the asset quality on banks’ balance sheets. The RBI has twisted itself into a knot here by acknowledging that the problem is the NPAs on bank balance sheets and not an unwillingness to lend.

There are several reasons why the new differentiated bank license is being considered.

a. Creating Wholesale and Long-Term Finance banks will create an additional source of long-term financing for small, medium and large businesses and the infrastructure sector but one wonders that the same would be true if the RBI just issued a new banking license.

b. WLTF banks could liven up things in the debt and equity markets by playing market makers for products in this space. However, considering that banks and NBFCs are already doing this, what value is being added here?

c. WLTF could help ease the pressure on banks now stuck with long-term loans and NPAs. A new bank too would have zero NPAs!

d. Expertise in project appraisal and credit monitoring is also cited as a benefit for setting up specialised banks but if this were true, it implies that the current bank credit appraisal and procedures are wrong which would mean that both banks and RBI as their regulators have been doing a very bad job for the past eight decades!

The RBI note does say that WLTF banks may

a. find it tough to raise long-term funds

b. have to raise funds at uneconomic costs

c. not get bankable big companies to fund since they may find it cheaper to raise money on their own

d. face asset-liability mismatches

e. face the possibility of bad loans when they lend

The first two are the exact reasons that the previous avatar of WLTF banks i.e. development finance institutions went out of business or converted themselves to banks. While the last two are the exact reasons that are given as a justification for the need for WLTF banks instead of banks lending to infrastructure. There is no innovation in setting up an institution to borrow from the market and lend to infrastructure projects. NBFCs and banks do the same thing at a lower cost. It only forces infrastructure lending because other investment avenues are closed (similar to pension and insurance funds being closed from lending to infrastructure), thus creating multiple pools of capital none of which benefit from diversification. This would also sow the seeds of a future crisis by actively creating a concentrated lending portfolio.

Source of funds

Before 1991, infrastructure was financed mainly by the government; after the crisis in 1990, the government embarked on a path towards fiscal responsibility and private investment flowed into telecommunications, power, roads and airports among others. The government now believes that it does not have the resources to meet all of India’s infrastructure requirements and hence it has tried to attract private capital, promoting PPP in highways, roads, and airports among others.

If any project is thought of independently, it can be financed by either debt, equity or a mix of the two. The tax benefit afforded to debt capital (tax-deductibility of interest payments) creates an incentive to leverage as much as possible so as to pay the least possible tax in the future and also to get the highest return on equity. Companies would build projects with 100 percent debt if banks allowed them, but the standard for infrastructure projects is an 80-20 debt to equity ratio.

The point to note here is that if the investment is financed by debt it has a higher probability of default. Governments are able to borrow much more cheaply than private companies and this difference in cost of funds increases further because infrastructure is executed via special purpose vehicles to protect the private companies from project liabilities. The lack of credit history and high leverage of these vehicles raises the cost of debt even further.

India has a fairly high savings rate of 31.6 percent of GDP of which almost 60 percent is household savings. Of these savings, 40 percent are in financial assets. Financial savings comprise of currency, deposits, shares and debentures, insurance funds, pension and provident funds and claims on government. Of the financial savings, 57 percent are in cash and deposits, leaving only a small portion of savings in contractual/long term savings. The main issue here for India is not the unavailability of funds for lending but the composition of savings and financial intermediation to channel available savings into infrastructure investment.

Restrictions on pension and insurance companies

To fund infrastructure projects with long gestation periods, companies need access to long term funds. Globally long-term capital is raised via capital markets where the major investors are pension and insurance managers. In India, these managers are severely constrained by regulations. For instance,

a. IRDA requires 75 percent investment (of insurance company’s funds) in AAA rated papers and only up to 15 percent can be invested in other investments (including rated lower than AA). Further, it allows up to 5 percent investment in A or lower rated papers. Such restrictions need to be relaxed if India is to develop a bond market.

b. IRDA allows exposure of up to 25 percent of the net worth of companies. Since infrastructure companies are highly leveraged, their net worth is correspondingly low, which prevents insurance companies from lending large sums to infrastructure companies.

c. The PFRDA has specified no mandate to invest in infrastructure, while banks, NBFCs and insurance companies are mandated to invest in infrastructure. Pension funds with their long-term horizon are especially well suited to finance infrastructure projects and regulators should mandate pension funds to invest in infrastructure projects.

d. Pension funds in India usually invest in government securities, AAA rated papers or AA rated papers of financial institutions. This is an extremely conservative approach and limits the returns for investors while restricting flow of credit into the broader economy.

Such restrictions along with weak enforcement of bankruptcy and extremely long litigation times have stunted the growth of a bond market in India. Insurance, pension companies and debt mutual funds are heavily invested in government securities, a classic case of crowding out. Masala bonds and foreign borrowing are a source but to a limited extent as external borrowing is subject to macro-stability restrictions of the RBI.

Final say

The real issues faced by infrastructure projects relate to clearances and land acquisition which are governance issues rather than banking. The inability to secure land, environmental, municipal and various other approvals in time has led to many infrastructure projects choking up bank balance sheets. Creating more financing institutions will surely increase the supply of credit but that does not guarantee project viability. If governance is not improved, funds lent out today will in the future become NPAs like the ones choking the banks today.

It has been put forward that establishment of WLTF banks will enhance competition, which will lead to more efficient allocation of financial resources. But if this is true, RBI should have given out more than two banking licenses it gave out in 2014. The NBFC-bank-insurance-pension structure is good enough to lend to infrastructure and new “specialized banks” won’t add anything but a new complication to the system and a new source of risk. Only the real estate/infrastructure sector has to slow down for these WLTF banks to collapse. Banks on the other hand have more diverse lending books and can survive downturn in one specific sector. The RBI should focus on working with various regulators to ease the flow of funds rather creating future sources of systemic risk.


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Populism – Past and Future

The rise of populism has been one of the broad political themes of the past decade. Till 2000, populism was confined to obscure corners of the world in Latin America and the former Soviet block, and was largely ignored by the developed countries. This revolt of common people against the elite or the “system” is symbolised by Nicolas Maduro and Hugo Chavez in Venezuela, Rodrigo Durete in the Philippines and Recep Tayyip Erdogan in Turkey. In India, the populist wave started in 2011, when Anna Hazare and Arvind Kejriwal led the India Against Corruption movement.

The last time populism was popular across the world was in the 1930s. Over the last few years, it has re-emerged as a major force in the developed world, with the rise of the UK Independence Party, the National Front in France and Podemos in Spain, to give a few examples.

There are a number of similarities between the mid-1930s and current economic conditions – high levels of debt, high levels of central bank debt monetisation, low interest rates and increasing inequality. There are also a number of important differences like better economic conditions, a global liberal consensus and a longer history of democratic institutions. Since most of the classical populists were disdainful of the opposition and curbed press freedom and free speech, while considering the progression of populism, it is important to observe how conflict is being handled in the current context. It is unlikely that the current crop of populists will follow in the footsteps of their predecessors, though it would help to keep history in context to see if the template is followed.


The roots of the current round of populism lie in the economic system which resulted in the financialisation of the economy. The main characteristics of this ‘neoliberal regime’ are globalisation, labour market flexibility and the maximisation of shareholder value. These ideals combined to create a mix of rising inequality (within countries) and a lower labour share of the GDP, which resulted in low economic growth and lower productivity growth – as exposed by Thomas Piketty in his tome Capital in the 21st Century. These trends were exposed by the collapse of the global debt bubble in 2008-09.


As the citizens of the world realised that the system was dysfunctional and serving capital, not households, they rebelled by choosing populist parties that promised to change the status quo. The impact of globalisation is felt not so much as the movement of labour but more as the free movement of goods and services. This results in lower domestic prices but also reduces domestic demand and production (leading to job loss). In the decades after the Second World War, the state was more paternalistic and managed the masses’ exposure to the market vagaries by providing employment and social security. This contract – that elites keep the power but take care of the masses – is what has broken down in the past three decades. Post the 1980s, states began to pare back their influence on the market. ‘Fiscal prudence’ and ‘small government’ became the buzz words, and governments systematically went about weakening labour unions, “liberalising” labour markets and pulling back on social security, in the belief that competitive markets would emerge for these services, and propagated the idea that government intervention in markets is bad.

Populism is a response to this neoliberalism. The argument that the rise of populism reflects rising social and economic inequalities was first made by Seymour Lipset and Daniel Bell in the 1950s, while studying its rise in the 1920s. Their argument mirrors the modern case that populist support is generally stronger among older people, men, the less educated and religious and ethnic majorities.


The above economic explanation is not completely valid, as populism has also arisen in several of the most egalitarian, best educated and most secure societies in the world like those in Sweden and Denmark. An alternative explanation is a thesis based on cultural backlash. This theory predicts that support for populism will be stronger among those holding traditional cultural values, which mostly comprises the older and less educated groups of the population.

Combining the two theses, Cas Mudde defined populism as a loose set of ideas that share three core beliefs: anti-establishment, authoritarianism and nativism. Here populism emphasises faith in the wisdom and virtue of ordinary people and embraces a resentment against existing authorities. Populists display authoritarian leanings and favour direct democracy via opinion polls and plebiscites rather than institutional checks and balances. Populists come in all shapes and sizes, spanning the economic spectrum (from Vladimir Lenin to Adolf Hitler) and political spectrum (Benito Mussolini to Juan Perón). But they take advantage of a similar set of conditions to gain power.

Populists come to power during sustained weak economic conditions. They take advantage of a policy logjam where consensus is difficult, giving rise to the “need” for a strong leader. They also use increasing inequality, channeling the rage of the masses against the “establishment”. Voters are garnered by using the polarisation brought about by wealth gaps or xenophobia.

On gaining power, populists of the past shared many core beliefs and goals: they always claim to work for the “people”, promote nationalism as a social glue necessary to take difficult steps and have a general disregard for debate and disagreement. In addition, populists almost always follow protectionist economic policies.

Going by past examples, economic growth in the next decade will be determined more by populist policies, not by fiscal and monetary policies as we have grown accustomed to. Classical populist economic policies include protectionism, nationalism, infrastructure building, increased military spending and often capital controls. However, we no longer live in the classical world of the 20th century. The advent of the internet has changed the structure of economies, consequently altering the political economy of populism. In the 20th century, authoritarians tried to control the media to control the narrative. Without exception, press in countries ruled by populist regimes were sponsored and controlled by the state. In the 21st century, the press is countered by spreading so much information that people don’t know what to concentrate on, or by propagating false news whereby trust in the media is eroded. The internet also allows for greater monitoring and control of people.

However, it is hard to see how the values which drove populism in the early years will yield similar results today. The modern template of authoritarian regimes is China. Unfortunately, China does not have an ideology and it only projects economic power. Unlike past populists like Hitler, Lenin, Franklin D. Roosevelt (nazism, communism and socialism respectively) who had a new world vision (decidedly wrong in retrospect but modern when judged by their time), the current crop of populists are revisionists in their outlook, pointing to a better past. Vladimir’s Putin’s Russia looks back to the Soviet (of maybe Czarist) era as a time of Russian greatness; Indian leaders point to a mythical time when India was the proverbial golden bird (pre-Islamic India) or to Vedic times (all knowledge resides in the Vedas).

The success of regimes depends on their economic success. Protectionism and infrastructure building in the future may not create the jobs that they did in the 1930s. Politically speaking, the Chinese will not steal our jobs but robots will. After all, you cannot stop the import of computer algorithms. Populism may be on the rise but it will not last unless it delivers either economic growth or a more equitable income distribution. Since China was the first “modern” populist state, we should see how their political system evolves in the next decade for a glimpse into the future of the world.

This article first appeared in thewire.

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Political Funding

On November 8, 2016, when Prime Minister Narendra Modi declared 86% of the currency in circulation as illegal tender to curb illicit wealth, he promised to take more steps to curb the generation of black money. On December 31, he put the issue of political funding to the fore. To his credit, political funding, which is discussed in hushed tones in civil society and was persona non grata for the longest time, can now be discussed and the means to reform party funding debated in the open.

In keeping with the discussion, the Union Budget 2017 announced certain experimental political party funding methods, which sought to protect the need for privacy and secrecy, while changing the method of payment from cash to electronic money—this, as we now believe, is the panacea for all ailments.

The Budget announced two measures for political funding: (1) capping the cash donation limit at R2,000, and (2) issuance of electoral bonds. Currently, parties are entitled to receive donations below R20,000 in cash. Post April 1, 2017, this amount will stand at R2,000. The announcement is being envisaged as a reform that will crack the whip on the cesspool of black cash that finds its way into funding of political parties.

It was encouraging to see all the political parties unanimously support this announcement. Admittedly, any party that would had not supported this announcement would have invited unwanted attention and further investigation.

On second thoughts, while the spirit of the announcement is reformative, it is worth assessing the impact of this announcement on status quo. How will this change the existing rules of the game?

First, donations are just one of the many sources of funds for a party. For all national parties, donations contribute less than 50% to the total party funds, with the Communist Party of India (CPI) being the only exception. The new rules do nothing to bring about more transparency in the functioning of political parties. Now, all political parties—except the Aam Aadmi Party (AAP)—are united in their opposition to bringing them under the RTI. Neither do they have any desire to have their books audited like any transparent organisation should.

Second, the accompanying chart represents disclosed donations as percentage of the total income of a party. The brilliance of this chart is that the Bahujan Samaj Party (BSP) has not disclosed any donations, as the party claims that all donation received by it is under R20,000—most of it being as low as R1. In light of this, the new R2,000 limit will have no effect on donation declarations of the BSP. One can also assume all other political parties would take the lead of the BSP and claim that all their cash donations are less than R2,000.

It must be noted that the total income of the Indian National Congress (INC) was R765 crore in 2014-15, of which R141.5 crore was received through 280 donors—the average donation being R51 lakh. Similarly, the total income of the Bharatiya Janata Party (BJP) was R970.4 crore in 2014-15, of which R437.4 crore was received through 1,234 donors—the average donation being R35 lakh.

The finance minister does not mention anything about mapping donations to unique donors. As a result, one is likely to see the number of donors (including fictitious ones) multiply and the average donation get adjusted accordingly. The inability of the announcement to address cases such as the BSP weakens its merit. The way to bring transparency in donations would have been to ban cash donations completely.

Third, the proposal of floating electoral bonds is fraught with transparency and income-tax issues that would make a hawala operator froth. The bonds would make donations to political parties completely anonymous. In an age when people in the US are worried about how Russia helped Donald Trump get elected, electoral bonds would make it easy not only for corporations but also the proverbial ‘foreign hand’ to lean on elections in India. An amendment to Section 13A of the Income-tax Act proposed in the Budget would exempt political parties from keeping records of donations made via electoral bonds, thereby taking away any semblance or pretence of transparency.

The finance minister has not announced any provisions that would bring political parties under the tax scanner. Currently, political parties enjoy tax exemption on income from property, voluntary contributions, capital gains and others. This has resulted in parties being set up for the purpose of siphoning money and evading taxation. A quick glance through the donor list reveals the high number of trusts and charitable institutions that donate large sums to each party, year on year. According to the Election Commission (EC), there are more than 1,500 registered political parties that have not contested elections between 2005 and 2015. In this reference, the EC delisted 255 parties that had never participated in any election since their inception. The remaining parties continue to avail tax exemption.

Political funding reforms must take into cognisance the nature of permissible income and expenses of parties. In addition, political parties receive support in kind, such as helicopters, sponsored rallies, election merchandise, campaign support, etc. Also, disclosure requirements of political parties must be linked to the income received by a party in a financial year, with special disclosures in case the party participated in elections during the year in question.

In the past few months, the government has talked about its passion for a swachh Bharat by attempting to attack black cash through demonetisation, followed by announcements related to funding of political parties in the Union Budget. It is praiseworthy that we can finally discuss political funding. However, it is also clear that policy-makers did not go all the way to ensure transparency whether by design or oversight.

This article first appeared in Financial Express.

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Grads with Grades that go nowhere

Since 1991, India has been among the fastest growing economies in the world. World Bank estimated that in the 1960s, approximately 45 percent of the population lived below the poverty line. This figure is now down to around 23%. Per capita income has risen from $250 in 1992 to $1627 in 2014. This has made Indians more ambitious. Traditionally, the government distributed the increased income from development on providing free food and education. Now, with the rise of a more urban India, aspirations have changed. Instead of worrying about the next meal, most Indians now think about public services, inflation and infrastructure. They ask for better education, jobs and faster development as a path to prosperity.

India has been a vastly unequal society for centuries, with the majority of the population denied access to education via the caste system. But in modern India, social mobility has finally become possible and education is seen as a mode of social upliftment.

Education is seen to provide access to stable jobs. India has expanded education in the past two decades, with millions of peoples graduating from colleges. India now has about 700 degree granting institutions which have over 40 thousand affiliated colleges churning out graduates every year.    

Type of Institution Number
Central University (Public) 47
State University (Public) 356
Deemed Universities 122
Private Universities 252
Total Degree Granting Institutions 777
Affiliated Colleges (Public or Private) 40,760

Source: UGC

Education Level Enrolments in lakhs
Graduate 26.67
Post Graduate 8.5
Doctoral 1.3
Diploma/Certificate 2.27
Total 39.7

Source: UGC

With a large number of students graduating every year, India faces the challenge of putting them into productive employment. As I have discussed in the previous article (Looking for a Good Job in December 16-31, 2016 issue of Governance Now), if these people aren’t put to work, a sense of disillusionment may creep into the youth.

Unfortunately, the quality of education in majority of the institutions is such that most graduates are unemployable. The blame lies principally on the poor quality of education in India. Millions of job seekers have impressive sounding diplomas but many don’t have the skills promised by those certificates from substandard colleges and technical institutes. Apart from a few elite universities, Indian universities impart subpar education and do not find a place in world rankings for higher education institutions.

Most universities conduct no research to speak of and most of the faculty do not have any papers published in journals of high repute. Bemoaning the lack of quality would miss the point that they are not expected or incentivised to conduct research and alas have fallen behind their peers globally. Reflecting the sad state, India granted 6,153 patents in 2014 compared to over 2,00,000 filed by China (WIPO 2015). The pedagogy in universities has not changed in decades and they are ill-equipped to impart education that would be useful in the current century.

The vocational training sector in India is similarly lacking. China has nearly 5,00,000 senior higher secondary vocational schools, whereas we have about 5,100 ITI’s and 6,000 VET schools in all. Germany, Indonesia, Japan, Korea, Israel and China have supported vocational education at school level on a large scale since the 1970s. Strategy to achieve full employment must include an important component: to ensure that all new entrants to the workforce are equipped with the knowledge and skill needed for high productivity and high quality of work.

To match the skills of the labour force to the requirements of the industry, the national skill development corporation (NSDC) was launched as a public-private partnership to upgrade the skills of the growing Indian workforce. According to NSDC, about 2 percent of the existing workforce has undergone formal skill training and only 20 percent of the existing workforce has marketable skills. Whereas, 90% of the formal jobs in India are skill based and require vocational training. As a result, there is a significant ‘skill-gap’ between the supply of skilled labour and the market demand for applicants with job-ready skills; leaving 68 percent of India’s businesses struggling to find qualified applicants. But unlike in the US and Europe, where many highly skilled applicants are fighting over few jobs, only a minority of working-age Indians are qualified for skilled occupations. With millions of young people entering the job market each year, the sheer number dwarf any government sponsored programme to impart skill training to first time job seekers.


It would be overly optimistic to expect the industry to generate enough employment to engage all of India’s graduates every year. There are certainly some impressive Indian manufacturers, but their likes prefer to employ sophisticated machinery rather than abundant labour. This is partly down to archaic socialist regulations which dis-incentivise hiring more labour and shift it towards capital. This is at a complete tangent to India’s cheapest resource i.e., labour. The development of China was largely on the back of its cheap labour force which not only found productive work but allowed China to move over half a billion people out of poverty. We on the other hand have innumerable tin-pot workshops, employing handfuls of people and outdated methods. What India lacks is a ‘Mittelstand’ of midsized, labour-hungry firms. During 2000-2008, India’s boom years, India created more jobs in construction than in manufacturing reflecting the sad state.

Over 84 percent of India’s employment is in the informal sector i.e. small and unincorporated enterprises. (Erstwhile) planning commission’s report ‘Creating a Vibrant Entrepreneurial Ecosystem in India’ said that “India needs to create 1- 1.5 crore (10-15 million) jobs per year for the next decade to provide gainful employment to its young population. Accelerating entrepreneurship and business creation is crucial for such large-scale employment generation.” The 2012 report goes on to state that, “India has the potential to build 2,500 highly scalable businesses within the next 10 years… that means 10,000 start-ups will need to be spawned to get to 2,500 large-scale businesses”.

World Bank’s report ‘Doing Business 2016’ ranked India at 130 out of 189 global economies in terms of ease of starting a business. Starting a business and securing permits are especially difficult. India is placed at almost the last position in enforcement of contracts. First-generation entrepreneurs are significantly affected by such an environment where the cost and time involved in establishing a business become deterrents especially to business ideas that need a first-mover advantage. Exiting a business takes even longer.

The ecosystem for starting and running new ventures has many gaps. Regulations and procedures are restrictive and time-consuming and add significant cost for an emerging venture. Banks and financial institutions are wary of lending to first-generation entrepreneurs and to micro, small and medium enterprises (MSMEs) in general, due to various norms like tangible asset coverage, debt to equity ratio etc., even though such enterprises make a major contribution to the economy, employment, and exports. This imposes constraints on their credit absorption capacity and consequently, growth.

Development and aspirations

The aim of development lies in the aspirations of the people. Once people have basic requirements like food, shelter and security, people require education and social growth. Education is an enabler, a pre-requisite. When poor people desire to educate their children, they see it as a step towards social and upward economic mobility, respect and access to better services. Education determines the socioeconomic status; moving from lower working class up to middle class, for education leads to economic opportunity. It is through education that young people secure higher status jobs than their parents.  Thus, education provides the channel not only to better socioeconomic status, but also to social mobility.

Social infrastructure has enormous externalities. Education and health are social goods in which social marginal productivity exceeds private marginal productivity. Therefore, private investment capital in such social infrastructure is likely to fall far short of what is needed. Therefore, the state must provide adequate resources, financial and others and social infrastructural projects. At the same time, the quality of implementation must improve to maximise the return from investments. This has been lacking so far.

No doubt enrolment has improved a lot and reached 100% at the primary. e. However, quality of education remains a big issue. This is borne out by the ASER surveys conducted by Pratham every year. The PISA tests that rank countries according the status of their school going population, found that a majority of students in Class VIII cannot either read Class II material and could not complete basic (Grade II or III) mathematics.

In many education outcomes, we are marginally better than sub-Saharan countries and worse than Bangladesh. This dichotomy has occurred in India because after independence, the state saw itself as the provider of services rather than a supplier of services. The state does not necessarily have to operate or manage social infrastructure, but it is necessary for the state to provide guidelines and monitor its operation.

Demographic predictions warn that the promise of demographic dividend will not last long, in any case not beyond 2050, when India’s population stabilises, and starts ageing. India needs to take advantage of its demography in the next couple of decades. The challenge for the country is in planning and acting towards converting its demographic ‘burden’ into enhanced opportunities for growth by skilling the increased youth population according to the requirements of employers. From Tahrir Square to Wall Street, growing economic inequalities and a persistent lack of jobs have caused demonstrators in many countries to demand real change from their governments. Research reveals that damages of long-term unemployment to the economic, political, and cultural life in the country are the major cause of eroding social integration in the long run (Beleva, UNESCO). Taking cue from international episodes, the good and the bad, India has to start planning now to ensure that social integration is preserved and not broken by lack of political will or strain of political competition.

This article first appeared in GovernanceNow.

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And the city softly sings the blues

India is a largely rural country with 68% of its population living in villages. As per the 2011 census, approximately 32% of the population or 38cr people stay in Indian cities. This figure is expected to grow rapidly to 59cr by 2030 [Mckinsey] with rural to urban migration being the main driver of urbanization. Rural to urban migration is key to the demographic perspective of urbanization. Urbanization has been the result of multiple factors like industrialization, employment opportunities and social factors.

Fifty years ago, agriculture accounted for half of India’s GDP and was responsible for more than three-fourths of the jobs in the country.  Today, it accounts for 13.7% of GDP but still employs 51% of Indian’s unorganized workforce while agricultural productivity has remained more or less stagnant in the last 50 years. As India has developed into a more services based economy, agriculture has become more crowded and less profitable. It has forced hundreds of millions of rural inhabitants into choosing between two options; remain in the villages, surviving through low-return and subsistence farming, and, struggle to find non-farm related opportunities due to limited market access or marketable skills or migrate as part of the 100mn plus urban migration to urban centers where the lack of marketable skills and inability to connect to gainful employment leads many to be exploited.

The growth of urban population as well as the pace of urbanization has been generally slow in India compared to other Asian countries. For India’s demographic dividend that to pay out, India needs thriving cities not just the metros but cities like Madurai, Gwalior and Amritsar with population more than 10lacs to start supporting a modern sustainable economy. It is estimated [Mckinsey] that by 2030, Indian cities can produce 70% of the net new jobs in the economy and sustain ~59cr people. We have not really come to terms with the reality of an urban future. Politicians still debate whether the prosperity of the future lies in villages or cities and many people believe that urbanization is anti-rural. This is clearly a myth as cities shift the workforce away from the least productive sector of the economy (agriculture) towards more productive jobs that will be important for the eventual rise of per capita income in the country.

Cities deliver a higher quality of life for its citizens. Urban scale benefits mean the cost of delivering basic services is 30 to 40 percent cheaper in concentrated population centers than in sparsely populated areas. Cities provide better access to sources of income, health facilities, education and other social amenities.

While cities may be melting pots that have helped mitigate traditional caste-based discrimination, urban spaces are generating newer forms of inequalities and exclusions that go beyond caste. Urban development in India is a story of sharp contrasts. On one had we have glitzy buildings, shopping arcades, corporate offices, and neatly laid out residential complexes that provide a clean, safe, and healthy existence, there also exist shanty towns, slums, and the informal economy where people live in sub-human conditions and earn a living by doing odd jobs, including casual labor at construction sites, domestic work, rickshaw pulling, security guard duty, street vending, and hawking. While their contributions are indispensable to the smooth working of urban spaces, these people, their needs are overlooked in the planning and vision of urban development. In fact, urban planning is completely ignored in India.

In British times, cities were segmented into blocks, wards and colonies, whereby people belonging to similar socio economic brackets lived together. This spatial segregation of the rich and the poor made it easier for the government as well as private agencies to determine the level and quality of basic amenities to match the affordability of the local community or the power structure and almost effectively institutionalizing the disparity. When newly migrated people came into urban centers, the poor were pushed out to urban peripheries or marginal lands within the cities, resulting in the growth of slums. The growth of slums or squatter settlements has resulted in serious social, economic and environmental problems. About 25% of India’s urban families live in slums, squatter settlements or refugee colonies due to the non-availability of affordable habitat in modern urban settlements.

India places no restriction on internal migration like China. People are free to move across States in search of opportunities. However, local governments and the middle class view economically poor migrants as outsiders making illegitimate claims to life in cities. In urban India, economic class has become the new caste. The caste anonymity is not enough to allow access to all urban spaces. Gated communities and private spaces restrict entry to most poor people. In Bombay, housing is often restricted on the basis of religion, food habits and even marital status. While such exclusionary practices are not legalized, little is being done towards the active enforcement of rights that allow for an integrated society.

Much depends on a city’s ability to create an enabling environment for new entrants. This involves planning for services such as access to safe housing, water, electricity, schools, and healthcare. However, institutional and state policy efforts to this end seem to have been sparse. In urban India, government services can only be accessed through a host of official documents such as property lease or ownership papers, PAN cards, bank statements, bills, and voter IDs, essentially leaving poor migrants to accesses basic services at a premium in the black market economy.

Urban Saturation

India’s urbanization has its own quirks. So far, we have not been able to create multitudes of cities with their own eco-system. We have instead relied upon the major cities to drive urbanization and it is to these cities that most of the countries migrant labor flocks in search for better opportunities. India’s urban centers are hence fast becoming congested. Local governments have not been able to ramp up public goods to match the inflow of people to cities.


Housing in Indian metros is notoriously expensive. China’s mega-cities have seen a five-fold increase in property prices over the past decade. Yet despite these astounding increases, property prices in Beijing and Shanghai are still only half those of their Indian counterparts of New Delhi and Mumbai; without comparable infrastructure. India’s excessively high property prices reflect a combination of two archaic practices: reserving large parcels of valuable urban land for government use and outdated and overly rigid building codes that discourage concentrated development of commercial activity and housing in the core of cities. This pushes development to the outer suburbs, making it difficult to realize the agglomeration benefits that drive productivity gains. Correspondingly, people have to either commute huge distances for work or live in expensive and sup-par housing. In every city, almost 50% of the population lives in slums. As these are illegal colonies, they do not have any civic amenities like drinking water, sewage, electricity etc.

Urban Transport

As cities are growing, distances to be travelled are increasing. With more than half the population being poor or belonging to low income groups, public transport is a necessity. Unfortunately, we are just waking up to this challenge. While poor migrants do not have access to adequate and affordable transport facility, richer people are able to buy cars for their travel. The main reason for this condition is that the low income forces people to live in areas with cheap accommodation which necessitates extensive travel. Further, since they cannot afford to pay high fares for using public transport, fares have to be kept low resulting in bus services sustaining such annual losses as hamper their expansion or maintenance of a fleet adequate to meet city needs. As the number of motor vehicles is rising, traffic jams and pollution is increasing. Only recently local and state governments have woken up to this problem and metro rail systems are being setup. Calcutta and Delhi have well managed metro rail systems but they are inadequate. Mumbai and Chennai have had a long history of local trains but even these are proving inadequate with populations in these cities growing rapidly. People have to rely mostly on bus transport but their number is not enough nor is the roads able to accommodate all the vehicles now in use.


All cities are under-policed. Rich citizens are able to pay for their own security with gated communities and private security arrangements. This is a sad reflection on the capacity of the authorities to provide security to inhabitants. Similarly, healthcare, waste disposal, almost every public service is overburdened in cities.

Rural Infrastructure

The sad truth is that even with all these problems, Indian cities manage to provide better conditions for inhabitants than villages. The state of rural infrastructure is pathetic. Currently, 45% of rural India does not have access to a stable power supply, 10% have no access to drinking water, and 70% have no access to toilet facilities. The average distance to all weather roads is 2km.

Rural health outcomes are alarming to say the least. 20% of rural households have none of the three basic services viz. safe drinking water, sanitation and electricity and only 18 per cent have access to all three. Access to basic facilities is glaringly unequal among income and social groups. Only 5% of the lowest expenditure quintile and about 10% of the SC/ST group have all three facilities. But deprivation is so high in rural areas that only 39% of even the highest expenditure quintile and only 33% of advanced social groups have access to all three basic facilities.

The major work in Indian villages is agriculture and allied activities apart from some small businesses. Agricultural productivity has not increased much in the past decade and to improve rural incomes, people will have to be moved to more productive work like trade or industry. The value added in agriculture in 2012 was INR 63,000 per agricultural worker, less than a fourth of the average figure for non-agricultural workers. At INR 170/day, this is barely higher than the minimum daily wage of unskilled agricultural labor. For the millions working in agriculture, the possibilities of escaping poverty depend on the availability of jobs in more productive sectors.

As long as rural infrastructure languishes, migration will continue to happen putting immense pressure on cities. Along with infrastructure, the government also needs to focus on rural employment. NREGA by providing a baseline support to rural workers has increased rural welfare immensely. But to take Indian villages into the next century, aside from improved infrastructure, employment has to be generated in the villages.

India is undoubtedly becoming urban. As our cities become more congested, the quality of life in the cities is also taking a beating. If the quality of life in cities keeps deteriorating, we may have to face a reality where people prefer to live subsistence lives in villages than move to cities in search of opportunities and social mobility. A job is essentially looked upon as a tool for social mobility. It provides income and via income access to services that improve the quality of one’s life. In a more interconnected world, the poor can observe how the rich live and people in developing countries are aware of what social infrastructures are available in developed countries. If India is not able to meet the rising aspirations of the upcoming generation, if youth are idle and are denied basic service, a sense of disillusionment and exclusion will grow. The 100 smart cities project looks good on paper but a city cannot be smart as long as basic amenities are not provided for. If urban services are not provided for in all these 100 cities, hi-tech gadgetry will be of no consequence. It behooves the government to focus on basic infrastructure rather than make castles in the sky or in this case in air-waves.

This article was first published in Governance Now.

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RBI’s Demonetisation Cross

CThe sequence of events leading to the demonetisation move are becoming more convoluted as more information is revealed. At this point, it is starting to resemble a comedy of errors at best and an insidious plot at worst. We attempt to delineate the sequence of events that led to November 8, 2016, and understand the role of one of India’s most credible institution, Reserve Bank of India (RBI) in the larger scheme of things.

The central bank has informed the Parliamentary Committee that it acted on the government’s advice on demonetisation. This is at odds with the minister of state of power, coal, new and renewable energy, Piyush Goyal’s remarks in the Rajya Sabha. He said that the government merely approved the RBI Board’s decision.

The RBI note to the Parliamentary Committee says that “the introduction of new series of notes could provide a very rare and profound opportunity to tackle all the three problems of counterfeiting, terrorist financing and black money by demonetizing the banknotes in high denominations… Though no firm decision was taken initially, whether to demonetize or not, preparations still went on for introduction of new series notes, as that was needed in any case.” RBI cannot make these claims with a straight face. First, it is evident that RBI was grossly unprepared for the move. Second, all three above-stated reasons for demonetisation have been proven false. RBI has itself stated that there are no additional security features in the new notes; so, the problem of counterfeiting will persist. Finally, several people, including terrorists, have already been caught possessing crores of new currency notes.

In a separate RTI response, RBI had stated that the decision to introduce new notes of R2,000 denomination was taken in a meeting on May 19, 2016. However, the minutes of the RBI Board meeting only mention the design of the new notes. As per the RBI Act, it is mandated to reveal the decision to introduce the new notes which it did not. Similarly, the government waited till November 8 to notify the new notes.

On November 8, the prime minister announced the demonetisation of the 500- and 1,000-rupee bills. He also made certain announcements related to dates for exchange of currency notes at banks (December 30, 2016), at RBI counters (March 31, 2016) and withdrawal limits at ATMs/through cheques. Alongside, he mentioned the objectives of demonetisation and the secrecy of the move. He also introduced the 2,000-rupee bill. Indians lauded as this a step towards penalising the growing breed of corrupt and extinguishing the existing stock of black cash in the economy. Consequences of sucking out 86% of the currency included long queues at banks, malpractices at bank branches, and attenuated consumption, but the nation has stood by the decision believing in the intent of the act.

Reserve Bank of India, as the issuer of currency, was responsible for replenishing currency in the system. As days passed, RBI issued multiple notifications on how, why and who could withdraw how much currency. At last count, in a 50-day period the RBI issued 74 such notifications. This is astounding agility for any central bank and raises questions if RBI was at all prepared for such an act? Or does it indicate that the RBI Board succumbed to external pressures to approve demonetisation? If RBI is an independent regulator, insulated from all political influence and could not see itself implementing the move, there is little reason why it did not refuse to be an accomplice. And finally, if RBI’s economic talent pool was on ground with this, cognizant of leaving a nation with 15% of the currency in circulation, the citizens have a right to know the reasoning.

The institution denied a RTI query on disclosure of minutes of the board meeting on the demonetisation decision, citing exemption clause Section 8(1)(g), i.e., endanger(ing) the life or physical safety of any person or identify(ing) the source of information or assistance given in confidence for law enforcement or security purposes. While the intent of demonetisation has been fluid beginning from targeting black money, and counterfeiting to digitising the economy.

Post the demonetisation announcement, RBI disclosed data related to the receipt of old currency on a daily basis. Regular reporting of data, in line with the ethos of the institution was appreciated by the public. According to the last disclosure made on December 12, 2016, RBI had received R12.44 lakh crore. However, it abruptly stopped sharing the data when it seemed imminent that most of the approximately R15 lakh crore of demonetised notes will be returned.

 The increasing opacity of RBI’s role in demonetisation goes against the global trend of increasing monetary policy transparency. We should ask RBI to disclose detailed notes of the minutes of its Board meeting. As of now, there is no clarity on the nature of background work undertaken by RBI to assess the move and the institution’s conviction to go ahead and implement the same. It is unfortunate that the very custodian of demonetisation is unable to exonerate itself by coming out with reliable facts, that would convince the common man and investors alike, of its intentions and independence. If policymakers have decided to operate in secret, then we should consider amending our Constitution to reflect that the government is not responsible to the people.
This article first appeared in Financial Express.
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Calling for a Head

We will state our baseline assumption first; the “implementation” of the demonetization exercise, though admittedly an historically unprecedented exercise in its scale and timelines, could still have been far better. We will not get into whether the exercise was justified or not or the reasons for its failure, but focus on the institutional failure in the exercise.

On December 30 2016, the President signed the Specified Bank Notes (Cessation of Liabilities) Ordinance, 2016 which extinguished liabilities of the Reserve Bank for the currency withdrawn. From January 2 2017, the next working day post the signing of the ordinance, the RBI was not liable to exchange old notes for new. Only NRIs who can prove that they were not in the country during the 50-day period are now allowed to exchange their old currency at the RBI. On November 8 2016, the RBI had clearly said that those who are unable to exchange old notes during November 8 to December 30 2016 in banks shall be able to do the same at RBI offices till March 30, 2017. It is unclear why RBI and the incumbent Government waited till the last day to rescind the March 30, 2017 deadline. Considering that RBI released 74 notifications in the 50-day period, there is little rationale to justify this last-minute rescindment.  To add to the woes of common man, the announcement came over the new year weekend, and was absorbed only when business opened on January 2 2017. Prior to this, on November, 24 RBI had advanced the date of exchanging old currency at branches from December 30 to November 24 itself. Preponement of critical deadlines, without any reasonable explanation from the central bank, not only questions the foresight of policymakers; it also creates a trust deficit among the citizens. The Reserve Bank of India is known for exemplary policy making and execution. However, when it issued bizarre notifications such as those which mandated depositors to provide explanations for depositing old currency towards the fag end of the 50-day period, its institutional repute appeared to be on a free fall.

The demonetization drive led to an acute cash crunch. People had to wait for hours to withdraw cash. The country’s 2.2 lakh ATMs needed to be recalibrated for the new currency notes. This took more than six weeks and reportedly is still going on in rural areas. So, while people were eligible to withdraw INR 2,500 per day from the ATMs, more than 90% of the machines did not work in the first few weeks. In response to an RTI query, RBI stated that it had printed bills of INR 2,000 amounting to INR 4.95 lakh crore of currency before November 8. In light of the mayhem caused by sucking out 86% of the currency in circulation, it is worth understanding what had prevented RBI from circulating these bills into the system or was it mindful of the “top secret”.

Post the demonetization announcement, RBI disclosed data related to receipt of old currency on a daily basis. According to the last disclosure made on December 12, 2016, RBI had received INR 12.44 lakh crore. However, it abruptly stopped sharing the data when it seemed imminent that most of the approximately INR 15 lakh crore of SBNs will be returned. It followed up this decision with curbs on deposit of currency notes asking for clarification of why the notes were not deposited much before the deadline. It seemed that the RBI does not want to honor the signed commitment on each currency note. This, and many such instances have caused the many to believe, that RBI’s decisions are based on factors undisclosed or unknown. The double counting of currency argument does not hold any water because any banker can tell you that cash is accounted for every night in every bank branch. There is never any double counting if there were we have a bigger problem with the efficacy of the banking system than we imagined. Banks simply do not make mistakes while executing credit or debit entries.

That a demonetization was being contemplated was kept a secret for good reason. But, little was achieved by not keeping even a single RBI official in the loop who could have been consulted on the availability of new currency, printing capacity, readiness of the banking system and other operational procedures. If an RBI official was consulted, then he clearly is not up to the job.

Concerns have been previously raised about the presence of only 8 out of 10 members on the RBI board meeting which approved the demonetization. The RBI Act prescribes 21 board members of which 11 have not been appointed at the moment. Only the number of government appointees is compliant with the RBI Act (at 2). This seriously compromises the independence of the RBI Board. Refusal by the RBI to furnish the minutes of the RBI Board meeting and other information under the RTI has further led to the belief that the RBI has become the opposite of the transparent organization that was hoped with setting up of the MPC, MPC minutes disclosures and an inflation targeting framework. The RTI act mandates that any written record that comes under the RTI and needs to be disclosed if asked for.

The idea of an independent monetary authority is not a very old one. It is a 20th century creation to act as a counterbalance to the populist tendencies of governments. The idea is that if a government is fiscally profligate, an independent central bank will raise interest rates to control inflation thereby maintaining monetary stability in the country. This idea gained worldwide acceptance after inflation wreaked havoc with economies from Germany to Latin America. The RBI governor on behalf of the Government of India is the guarantor who signs on currency notes promising to pay holder. He is the most well informed person on the banking sector in the country. If he had an iota of doubt about the capacity of the banking system to handle the exercise he should have shut the idea down. The prerogative was on him and the RBI board. On the other hand, if they succumbed to pressure from the government, then investors should reconsider India as an investment destination. I would like to direct Dr. Patel to his own brilliant report on monetary policy which argued for an independent MPC and why central banks should have an independent and targeted focus.

The Government announced demonetization in less than two months of Dr. Patel’s appointment as the RBI head. The nation expected him to speak on the announcement, and address the concerns caused by a act of such humongous scale. Dr. Urijit Patel’s silence on a decision, that comes under the realms of the RBI Act, led to wide spread speculation, on both, his stance and consent. Even a single press address by Dr. Patel would have gone a long way in reposing the faith of common man, in the institution that was responsible for implementing the exercise as the banking regulator.

The RBI as the issuer of currency in India and the banking regulator has done an extremely shoddy job of handling the exercise and as it stands, the current leadership has substantially harmed the institutional credibility of a venerated institution. It goes without saying that Dr. Urjit Patel had big shoes to fill. He was well regarded and considered a good fit for the job. Since that veneer has been removed, it is best that the task of restoration of the credibility of the RBI falls to someone else; perhaps Professor Viral Acharya.

This article first appeared in thedialogue.

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Unemployment as a Societal Problem

East Asia went through an economic miracle between 1960 and 1990, with income per capita nearly tripling. The four Asian Tigers, including Hong Kong, Singapore, Taiwan and South Korea, achieved impressive growth rates of more than 7% for more than three decades. Japan went through a similar phase till the 1980s. This prolonged period of economic growth is attributed to export-oriented policies, investment in health and education, high savings rate and capital accumulation. Studies have examined the influence of demographic transition on economic growth [Bloom and Williamson: 1998]. If most of a nation’s population falls within the working ages (15-60), the productivity of this group can produce a ‘demographic dividend’ of economic growth, assuming that policies to take advantage of this are in place. The combined effect of a large working-age population and health, family, labor, financial, and human capital policies can create virtuous cycles of wealth creation.

India faced a similar scenario with fertility rate declining in the 1980s leading us to today; where we are one of the youngest populations in the world and the largest workforce on the planet at the exact time China’s labor force begins to decline. India currently has 120cr people with a median age of 26 years. By 2030, India is projected to have 1.4bn people, of which over 100cr will be in the age group 15-64 (productive workforce).

This is a boon as well as a challenge. To consider the scale of the challenge, the working-age population, aged between 15 and 64, will rise by 12.5cr in the current decade, and by a further 10cr in the following decade. A third of this growth will come from poorer and less literate states, particularly Bihar and Uttar Pradesh [Literacy: 69.8% and 69.7%; GDP per capita: 31k and 37k respectively in 2014]. To employ this population, India needs to create 10cr net new jobs in the next 10 years. From 2002 to 2012, China created 13cr net new jobs in services, however in India, no net new jobs were created from 2005-2010.

India’s youth unemployment rate currently stands at 12.9% compared to an overall 4.9% unemployment rate in the country. Compared to advanced economies, overall rates of unemployment in developing countries are generally lower than observed in developed economies because most individuals cannot support themselves and their families through social protection schemes.

According to a survey [National Employability Report: 2013], almost half the graduates are unemployable in the market, while according to labor ministry statistics, almost one in three graduate up to the age of 29 is unemployed. The Economist estimates that India produces twice as many new graduates each year as it can absorb. The problem lies not just in the quantity of jobs. India’s incomplete economic liberalization since 1991 has left the country with few good employment opportunities for unskilled workers who do not have much education. Statistics verify what is plain to see; all cities have an army of liftmen, guards, peons and delivery boys. About 85% of the jobs are in the informal sector, another 11% are casual jobs with formal companies. IT firms account for only a few tens of lakhs of jobs out of a total of about fifty crore. 23% of Indian workers are categorized as working in “industry”, compared to nearly 30% in China and 22% in Indonesia. However, half of India’s industrial workers are in construction. India’s manufacturing jobs also do not involve exposure to modern machinery, techniques or training. More than half of Indians in the manufacturing sector work in facilities without electricity.

The skills mismatch in the youth labor markets has become a persistent and growing trend. Over-education and over-skilling coexist with under-education and under-skilling and increasingly with skills erosion brought about by long-term unemployment. There hasn’t been much growth in manufacturing to create lower-skilled jobs. Young men often have no choice but to stay in low-paying idle jobs. This is a result of supply driven education and a lack of interface between the various stakeholders’ viz. industry, education institutions, and education and labor ministries.

Our leaders have long said they are committed to generating employment, but have shown little stomach for the economic upheaval that rapid job creation entails. China’s policymakers accepted that the process of adding jobs overall often destroyed jobs in particular industries and places. Politicians have preferred economic palliatives such as NREGA and subsidies for the needy. The lack of political resolve means India is unlikely to summon up the single-minded dedication with which South Korea, Taiwan and China created industrial jobs. India’s demographic dividend will yield only a fraction of what it could, and the problem of low-quality employment will continue.

In the rural areas, majority of the population is engaged in the primary sector resulting in low productivity and persistent poverty. There is also a need to increase formal employment which currently constitutes only 8% of the labor force.

Impact of Unemployment: Brain-strain (stressed to be employed)

How is this going to affect India? Hundreds of millions of young people are or soon will be looking for jobs and spouses. If those hopes aren’t fulfilled, aspiration will turn into frustration. And, frustration can manifest itself in rising crime. Long-term youth unemployment drains the motivation and ambition of those it afflicts and makes them more cynical. This is evident all around the world, including developed economies such as the US. Prolonged high levels of youth unemployment may lead to a risk of social instability. Unable to become part of the rising middle class in India, this rising army of unemployed could fuel violence and destructive politics thereby destabilizing the country. It can result in a vicious circle of inter-generational poverty, social exclusion and trigger violence.

Does the frustration of India’s youth help explain the prevalence of sexual harassment and violence against women? India already fares badly in terms of the demographic divide between males and females with 933 women for every 1000 men. This number looks dire with the youth sex ratio standing at 908 and adolescent (10-19) sex ratio at (898). Certainly, the patriarchal society and other reasons play a part, but it is worth exploring the role of economic and social frustration. Women in India describe daily incidents of harassment: taunts, stalking and groping. Most of the time, the culprits are relatively young men with lots of time on their hands and nothing productive to do.

The Justice Verma Committee Report, speaks of the “mass of young, prospect-less men whose sexual harassment of women may tip over into more aggravated assault. These men are fighting for space in an economy that offers mainly casual work.” And concluded that “large-scale disempowerment of urban men is lending intensity to a pre-existing culture of sexual violence”.

Prof. Craig Jeffrey, Professor of Development Geography at Oxford University, an expert on India’s unemployed youth, has a sociological term for the act of loafing around with nothing to do: “timepass.” “Rapid social change in provincial India has created a vast army of educated and semi-educated ‘loafers’ among young men. Young men find themselves with little or no opportunities or resources and find it difficult to get married. They hang about near college campuses or even by the roadside, taking out their frustration on women. ‘Time-passers’ aren’t just unemployed or underemployed; they’re often also unattached. After decades of skewed sex ratios at birth, India now has approximately 37 million more men than women. This excess supply of men, combined with falling fertility rates has led to a ‘marriage squeeze’.” [Craig Jeffery: 2010]

The combination of young men with few prospects and the frustration of being single is especially pronounced in North India, where sex ratios are the most skewed. Sexual harassment is just one of the social pathologies that can arise from these economic and demographic trends.

Insurgency has been in the limelight, which too is related to the challenges of youth unemployment and underemployment [Magioncalda: 2010]. Regions with inadequate employment opportunities have witnessed serious problems. Similarly, the Arab spring, London riots of 2011 and Occupy Wall Street movements were to an extent an expression of the disenchantment with the lack of opportunity in the respective countries. It does not take much for such small-scale movements to become a destabilizing force.

India may discover that demographic dividend has its perils.

This article first appeared in Governance Now

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Fintech Opportunities for Financial Inclusion

There has been so much noise around fintech recently that it is very easy to do both either get caught up in the hype or believe that it is another tulip mania. Matt Levine in a brilliant piece in Bloomberg wrote about the three ways fintech companies are trying to disrupt banking; 1. with the same business model, 2. with more computers or 3. by wearing a hoodie because being cool is a technology. He goes on to elaborate how most fintech companies are not replacing banking but just disaggregating services or making it customer friendly, something that banks can easily co-opt.

While technology companies are gung-ho about their ability to develop a great front end product while banks lag in customer experience, very few have any experience in dealing with the myriad regulations and licenses that come with handing public money. Because of this inherent weakness, fintech companies have been happy to outsource the back-end operations to banks. This essentially amounts to outsourcing the banking to banks. The net effect being that banks remain entrenched in the system without much disruption. A beneficiary of this has been Cross River Bank which is pitches itself as the bank of choice for fintech companies and has in the process become the darling of Silicon Valley venture capitalists, a strategy being replicated in India by RBL Bank. Quite a few people have expressed similar apprehensions with payment banks and online wallets not being a panacea of financial inclusion problems as they are not disruptive enough or have viability issues (Payment Banks).

For all the calls to sobriety, there are many things fintech companies can do to address failures of the banking system in providing access to the financial system at the bottom of the pyramid. At the annual conference of the Bank of International Settlements, a paper discussed that the cost of financial intermediation has remained constant at 2 per cent across many developed countries for the past 100 years, implying that the gains from technology have not been passed to consumers. Eliminating the cost of opening a savings account can increase the uptake, savings levels and reduce informal savings according to studies in Sub-Saharan Africa. Similarly, in Nepal ease of access to basic bank accounts via tellers visiting houses led to significant uptake and increase in welfare (GONESA). These costs of financial intermediation can easily be eliminated by the use of technology.

Accounts which apply behavioral insights can further increase the benefits for the poorest. A study by RAND revealed that less educated people are more likely to choose the default options in any financial product. This should allow companies to make products that further the objective of increasing savings for the poor by introducing commitment or lock-in features to bank accounts.

The poor live risky lives. The limited research into insurance shows significant benefits for the poor from insurance products. Crop insurance and micro-insurance products though proven to be effective from a welfare perspective, do not scale without government subsidy. ICICI Bank has had a crop insurance product for over a decade but it cannot be considered successful by any stretch. Finally, lack of information about credit-worthiness and lack of screening ability among lenders hinders the efficacy of any rural lending programs. Traditional banks are not profitable in these areas without high transaction costs.

Access to digital payment services is a potential platform for providing insurance to the poor because firstly, they reduce financial institutions costs while enabling informal P2P risk sharing by enabling easy payment services. Like in other industries, fintech companies propose disruptive innovations for specific services. Their key advantage is that they aren’t held back by legacy systems like most banks and are more focused on data. Are there viable models to insure poor households? How does a company scale digital credit on a small scale? How to support the delivery of advanced savings products and not the no-fills account that are pervasive in policymaking circles? Finally, finance is just a means to an end. We need to achieve tighter linkages between finance interventions and other sectors to magnify impact. These are some of the key questions that fintech companies can answer to be as transformative as Grameen Bank was.

This article first appeared in thedialogue.

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