Raghuram Rajan says Demonetisation, GST and Covid will Hold Back the Economy

· Lower Middle Class Slipping Back into Poverty

Three jhatkas (jolts) in the form of demonetisation, poor implementation of the Goods and Services Tax (GST) and the Covid-induced lockdown have hurt the Indian economy’s process of recovery from the global financial crisis, said Raghuram Rajan.

The former governor of the Reserve Bank of India (RBI) is also sceptical about the Finance Ministry saying India will see a V-shaped recovery.

Rajan made the remarks while in conversation with ThePrint’s Editor-in-Chief Shekhar Gupta at a digital Off The Cuff event held 16 October.

Read the full interaction here:

Shekhar Gupta (SG): Welcome to this edition of Off The Cuff. When you have Raghuram Rajan on Off The Cuff, I won’t waste time with introductions; all of you know him. And we have to leave all the time possible to him. So, I will speak as little as possible.

Raghu, I’m so happy to have you on Off The Cuff. It’s your first Off The Cuff. I think we’ve had several Walk The Talk conversations. I think a couple in really freezing Davos … and (I have) been in your alma mater IIT. So, thank you very much.

You look quite alright for all the crisis of the Covid situation in America.

Raghuram Rajan (RR): Well, I think the lack of travel does wonders to your health, right. It makes you sort of focus on healthy eating and healthy living. It’s unfortunate that many of us have rediscovered health when the rest of the world is not doing so well.

SG: That’s important but you know, I was just going over some old papers … like what you do back home where you now clean up your drawers and this and that … And I found some old boarding passes and I felt so nostalgic.

RR: Absolutely, I mean there are some flights in East Asia which are just round trips back to the place you started, just to give people the sense of airline food. I mean, some things we miss which seem extraordinary.

SG: As long as we don’t end up like Mr Clooney … where we spend the rest of our lives flying. But you know what else has changed in the world … and the biggest change is the economy, relations economies, community economies, world economy, trade. So, give me a Raghu’s eye view of this world about seven or eight months into Covid.

RR: Well, it’s not over yet, right. What we see in Europe and the United States is cases are growing again. East Asia has been much more successful in containing the virus but you know, of course India — we’re still battling it. South America is still a battle.

The difference between industrial countries and emerging markets is one of spending capacity. What’s happening in industrial countries is thus far, they’ve managed to protect their households and workers. Of course, the longer this lasts, the harder they find it. In the United States, you see this discussion about a second stimulus package which seems to be breaking down for political reasons. But the virus is still with us and therefore, demand is still low and firms are still being hit by the lack of demand, (and) many firms are closing. So, the kind of distress on the households’ side and on the firms’ side that we are going to see have still not come out in full. So, don’t be misled by the levels of the stock market. There are a lot of problems to deal with.

In India, because of the limited spending we’ve done in protecting households as well as small and medium firms, there is a lot of distress that we will have to deal with going forward and there are concerns that we have actually gotten more impoverished as a result of this crisis. I mean, this is hopefully a once in a lifetime event but it’s a huge event and we should not minimise the effect.

SG: How do you define … just explain what you mean by maybe we’ve become more impoverished?

RR: Well, think about it this way. And I think even economists sometimes get confused about the terminology. What we’ve had is a virus which has hit people’s livelihoods. People can’t go out to work in the restaurant, in the hotel … you know, as a tour guide, etc, because that business has completely collapsed.

So, we’ve seen a revival of manufacturing in India. We’ve seen pent up demand, the rich households want to buy cars now because it’s sort of more difficult traveling. Some of them will buy a car, second hand cars, etc. So you see demand coming back for manufactured goods.

But you know, over time, this stabilises because you’ve got a significant portion of the population which still doesn’t have good jobs. The jobs haven’t come back. And so their demand is not going to be expressed.

On the one hand, demand is weak but demand being weak also then compromises the firms that were supplying that demand. They’re not seeing any revenues, they’re seeing costs, they’re seeing debt pile up, and many of them decide, well, better to close. But if they close, then the jobs are gone but also the supply becomes more constricted.

And so what you have is this battle between demand and supply, both of them settling at a much lower level. And that means the growth potential of the economy is much more subdued. But many households which used to have jobs, which had climbed up the ladder out of poverty into the lower middle class, or somebody was a waiter and somebody was a cook in a restaurant — those jobs are gone. And these people now have no livelihoods and are slipping back into poverty. So their kids now go out, and you know, are back at the waste dump looking for, you know, anything they can find that they can send to the raddiwala.

SG: You think this could be happening at a large enough level, at a mass level? Or, is this anecdotal?

RR: Unless India is different from what is happening in South America, what is happening even in the United States, this has to be happening. Now, obviously, we don’t have data. We need to get better data on what is going on.

A few months ago, we had an anecdotal survey and some survey data suggesting people were skipping meals. The point is that it would be hard to say that relief efforts in India have been on par with relief efforts in the rest of the world. If the rest of the world is already suffering significantly, India must be suffering.

SG: We’ll come back to growth but let’s look at this stimulus package. Look at America, Europe and India. So what happened with the first stimulus package in each one of these three?

RR: Well, I think a couple of numbers are useful to look at. In industrial countries, the International Monetary Fund (IMF) estimates about 9 per cent of GDP in fiscal stimulus and about 11 per cent of GDP in credit stimulus — you know, easy loans, etc. Therefore, around 20 per cent of GDP.

In the US, it went much further. It’s probably 10 to 12 or even 14 per cent of GDP in fiscal stimulus plus enormous credit stimulus from the Federal Reserve.

The point, however, is it has been huge in those countries. In most emerging markets, it’s been much lower, except Brazil. (For) India, the IMF now estimates taking everything into account including recent measures, about 2 per cent of GDP in fiscal and about 4-5 per cent in credit measures.

Now, that’s, you know, if you don’t total it all up, it’s about 7 per cent compared to 20 per cent. But, you must remember, we’re not the same economy. We have far poorer households, we have small and medium enterprises (MSMEs) with far less access to credit. And, of course, we’ve had a pretty severe Covid outbreak, the second largest in the world so far. Maybe we’re approaching, you know, that unfortunate first place. But I really think that the damage that is done here, because of the thinner buffers, can be even more significant than industrial countries. And therefore, the lack of support tells more in terms of the underlying health of the economy.

Now, can we do anything about it? We can talk about that, but it is a tough situation, a very tough situation.

SG: Which of these three, do you think has had the best returns for its stimulus: America, Europe & Britain or India?

RR: The stimulus has been tackling different problems and as a result, it has to be weighed in that way. Europe was trying to tackle a short-term problem, and basically kept trying to freeze the economy as it was; keep people in their jobs, don’t let them get unemployed, etc. Now, it’s finding that it’s not a short-term problem — you can’t sort of open up suddenly (because) Covid reappears in a big way. Therefore, now they’re going back into a second lockdown and as a result, what they’re seeing is that the support they gave (which was) extremely expensivem, will need to be continued for a much longer time.

But they have the resources. They’re fairly rich, they also have processes by which they can get some money. For example, in Germany, they have the short work programs by which workers are held down. So, they have enough to tackle the virus (situation), if it lasts to about mid next year. Beyond that, of course, all bets are off.

In the US, it was much more short-term — very, very focused on the short term — but not about keeping things in place (but rather) support to the families, support to the businesses.

Now, because of the political fighting between the Democrats and Republicans, that support is going to end. What the US did essentially allowed more restructuring (and) reorganisation in the economy, which has been good because they will have to be some element of reorganisation. But it’s also ended the support. It was huge support initially, but that support has ended. So unless they redo something else, there are going to be consequences in the next few months as economic activity slows considerably.

In India, I would say that the focus has been much more on basic food support, and so on (and) less on the other stuff. I think the damage done to small and medium enterprises, which were already in a bad way before the crisis — remember, we already insisted on forbearance, not recognising the loan losses to them before the pandemic hit. And of course, things have gotten worse with the pandemic. So jobs, livelihoods are going to be more impaired.

I think we could do more in relief to the households. We could target MSMEs a little more with support. For example, the MSMEs that have been taxpaying — try and give them some relief, so that they can survive, maybe via some tax transfers back to them. But I think we have to be much more clever about the use of our resources … partly because we were already running a large fiscal deficit before the pandemic, we already had high levels of debt. We started the pandemic in a bad situation.

SG: And our growth rate was declining already.

RR: Absolutely. There will be a temptation to say all our problems are because of the pandemic. No, we’ve had problems for long before then.

SG: So the Government of India said Rs 20 lakh crore stimulus? How do you see it?

RR: Well, I think we have to be careful about the numbers. Sometimes the numbers are meant just to give people a sense of comfort, rather than reflect reality. Most economists, when they saw the Rs 20 lakh crore number, said only a fraction of this is actually fiscal support. There was around Rs 3 lakh crore targeted at the MSMEs in terms of credit support but as I understand it, that current support has typically gone to the better functioning MSMEs rather than the ones that were in desperate need for credit.

They are all these things, announcements, there’s a gap between announcement and delivery and then delivery — we need to see whether it met the purposes of what was needed. I would still say that, on the relief side, especially direct relief to the poorer households, we have to figure out: Is it reaching in adequate measure? Or do we need to do more because a lot of that was predicated on a three-month window and now this looks like (it is) lasting more, especially in certain sectors in certain jobs where it’s unlikely we’ll get activity back to that level for quite some time.

SG: I have a question from my colleague, Y.P. Rajesh, who is our managing editor. He says, what was the inflection point? What was the turning point that broke the momentum of India’s economy? When did the slowdown start and became so deep rooted? Was it with demonetisation or something else?

RR: So, one way of thinking about it is that we really haven’t had a serious set of reforms. We’ve had sporadic reforms, and some things that you could count as reforms but a serious set of growth-enhancing — and I’m not talking about redistribution — since 2004 (or even) NDA 1.

We had the UPA which was paralysed by some amount of opposition displeasure in UPA 2. No significant sort of growth enhancing reforms, then. So there’s been redistribution, like MNREGA, but not growth.

Even this government, over the six years, it’s been a lot more about redistribution but fairly little on creating a much stronger environment for growth. You can doubt some measures like GST, were not greatly rolled out, but the bankruptcy code (and) the inflation targeting framework — these are all positive steps. But the question is, has it come together to give private industry an incentive to invest? The answer is it hasn’t. I mean, you look at investment, it has been really, really weak, even before Covid and of course, after Covid, because of the disruption, it can be weaker.

So one argument is we really haven’t done significant growth financing reforms. The government announced some measures just now; we can come to that. But really over the last seven years we haven’t.

Second is yes, it was trudging along, but it was getting back after the global financial crisis and then jhatka of demonetisation, of badly rolled out GST and a third jhatka was Covid lockdown without relief. Lockdown may have been sensible, given the circumstances, but without relief, which caused the migrants to start leaving, caused the sort of damage to the economy. You could argue that these three have actually increased the body blow to the Indian economy.

SG: There is a tendency to to be the daring paratrooper to jump without checking the parachute.

RR: Why have we not prepared enough? That’s a deep question. I would argue that sometimes what happens is the leadership gets frustrated that nothing is moving. So here’s another jhatka to see how we can move it forward but you need to prepare for the jhatka, you need to prepare to make sure it works as advertised, you need to take counsel. To some extent, if you don’t, you can do more damage than good.

SG: Was demonetisation a jhatka?

RR: It was and I would argue that everything we know about it says it was ill-advised.

SG: But was there preparation or no preparation? Was there checking of the parachute?

RR: In hindsight and even with foresight, you should have had enough cash in the ATMs, in the tijoris of the SBI, as well as the banks to pay out when people wanted the money. In fact, the money was not printed. We had printed some but not enough. The expectation was it would take place with enough preparation, if it had to be done, and that was entirely a political decision.

SG: But if you ask me, the political instinct was that maybe anything between Rs 5-8 lakh crore will not come back, that people will destroy their currency. In fact, there’s been a very interesting statement from Nripendra Misra, who was principal secretary to the Prime Minister, saying that the 2000 rupee note came as a compulsion. Although the prime minister was reluctant, because there was a shortage of currency notes.

RR: Well, I can attest to that. The idea was to print everything before it was done, if there was a political decision to do it. The only way it could be done in reasonable time, and I won’t tell you what that reasonable time was but it was certainly longer than what happened, was to print large currency notes and you couldn’t do it with small small currency notes. We can always look back from decisions and see whether they were good ones or not.

SG: Do you think that the IMF is now underestimating, overestimating, correctly estimating what will happen to India’s economy this year, that is 10 and a half per cent decline?

RR: The truth is nobody knows. I certainly won’t pretend I know what the true state of damages is. Remember, there are two things. This is not the usual recession where firms see lower demand. If all that happened was firms saw 10 per cent lower demand, they will still be surviving, they will shrink their business, they will survive. But this is very asymmetric. Auto manufacturers are seeing demand come back; they’re ramping up, they’re big firms, they can last.

But the restaurant, the hotel and the service sector enterprises, they shut shop because they couldn’t last. They let their workers go, some may have gone back to the village. So, the potential growth of the economy has also been hurt. It’s not just the actual growth this year, it’s ability to grow. Most people are saying V-shaped recovery … but that relies on the economy not being damaged.

If it is damaged, it takes much longer to come back simply because even if there’s demand, there’s not enough supply. In fact, some people are looking at the inflation numbers and saying this is also a reflection that the supply is damaged. This is something we need to be very conscious about because unlike the industrial countries who have offered a lot of relief to the small and medium enterprises (and) a huge amount of lending, we haven’t been able to do that. And given that they were already damaged, it means that perhaps the damage is greater.

So I would not worry just about this year’s growth. I mean, whatever the number — 10 per cent that the IMF is suggesting is already terrible — but even if we go a little lower, what we should be worried about is the longer-term damage to a growth current trajectory. That is why we should be prepared as we come back to refloat the economy, to have credit going to the entities that needed it, to help a lot of new enterprises … so that they can replace the enterprises that have gone out of business. That should be what we should be preparing for now. How do we get that credit going and that means cleaning up the mess that is in the corporate sector (and) in the financial sector as quickly as we can.

SG: This is a very unusual kind of crisis. Just to tell you a personal story. On the day in the week that the lockdown began, and I haven’t had the courage to go back to the dentist or the dentist hasn’t opened the clinic. But I think I can manage without it. So, I think a lot of people are postponing a lot of things right now.

RR: Absolutely. In some cases, it means there’s pent up demand. So when you feel confident about the dentist, you’ll find it hard to get an appointment because everybody else feels confident at that point. But some of it also means long term, right? So if you have heart problems and you don’t get attended to, it is quite possible that you have a much more severe sort of problem down the line, simply because you’ve been postponing maintenance over this period.

SG: I’ll go back to my political editor D.K. Singh, who asks you a politically loaded question. The IMF projection that this year Bangladesh’s per capita GDP will exceed India’s. What does it mean?

RR: Bangladesh is a country that has benefited from some sort of openness from the West because it was considered a relatively poor country. And that should be a wake-up call for us, right? Because Bangladesh was always “the basket case”, undeservedly. Whenever you wanted to think of bad things in South Asia, you point to Bangladesh, but it’s been a miracle, which has grown faster than Pakistan, faster than India over the last few years. That should also be a wake up call, because we always keep pointing to, other factors which cause us to slow down [and..]. The reality is Bangladesh has suffered from the same kinds of factors have benefited from the same kind of factors and it’s exploited this time to grow faster. To take supply chains from China, for example. People are saying, we’ll go to Bangladesh, we’ll go to Vietnam – far less talk about going to India. So, the question we have to ask ourselves is, what are we doing wrong? Remember in the 90s, it was China’s progressing so much, why aren’t we and that created a little bit of a spur for reforms. I think it’s very important to ask ourselves, why is Bangladesh doing so well while we have been stuck? What is it that’s wrong with our leadership and our policies that we’re not doing well? If we ask those questions stridently, it’s very hard to evade, and to give obfuscating answers which we’ve had a lot of these last few years.

SG: But you tell us, Dr Rajan, your diagnosis. What has India done wrong?

RR: Obviously, we should have extended that period of reforms because we started ghosting. We saw a 9 per cent growth and it was too easy and we got entangled in political sort of infighting, when, in fact, we should have extended those reforms to improve growth. Something that you know, China, which has no political infighting, I don’t think that’s the greatest political system in the world, but certainly…

SG: They only fight with the rest of the world.

RR: But nevertheless, they have continued the reforms constantly … and I would say China’s also dialing back in many ways since this administration, but it has been quite effective before that in propelling growth. Even this administration, in its recovery from Covid, has been quite effective. I would think that we need to look at our attitude towards reforms, but we need a coherent strategy. The point is that we had an implicit consensus that we would continue opening up and essentially be integrated with the world and that will help us grow very fast. Of course, that would give us the resources to deal with many internal issues. So growth would paper over many problems but if it didn’t, we could improve redistribution significantly. What we did was we had strong growth created, we redistributed some of that quite effectively — I would say that we had some good systems for redistribution — but we’ve taken our eye off the growth ball. Reforms can’t be sporadic, they have to be continuous based on consensus so that the reform doesn’t become a reason to agitate.

We need to look back and say, why did we stop and how do we start again? At this point, given where we are, our only sensible strategy is to continue opening up and rely on a strong export-led push at this point, given that domestic demand is going to be weak for the foreseeable future. And there are success stories. I just read about Royal Enfield, which has now increased the value of their brand significantly, and selling Enfield motorcycles in the United States. I mean, that seems to be a wonderful sort of success story, to talk about how they’ve sort of branded themselves but also made improvements in the quality of the motorcycle, so that it appeals to aficionados around the world.

India can do it. India can be a part of the AI (artificial intelligence) revolution. India can be a part of long-range services. Now that we know how to do it on Zoom and do interviews on Zoom, we can teach on Zoom and we can do so much more. But what we need to do is remove the barriers. A lot of what holds India back is impediments that we deliberately put on ourselves. This was a story in 1991, it is a story still. Unless we focus on these and remove them — and not the cosmetics, it’s very easy to say, “oh, we’re improving these rankings, we’re doing this,” but you talk to people on the ground, they say nothing has changed. You need to focus steadily on it. I have no doubt we can catch up. I think it’s really important for every reason, including our own national security, that we get the economy back and strong as soon as possible.

SG: Two big things that have been done now. Labour and agriculture reforms, these new changes. One, what do you think of that? But before that, also, you talked about removing barriers, but doesn’t it look like we are actually installing more barriers? As we talk today, we banned the import of air conditioners.

RR: We need a consistent reform framework. We say we want to export to the rest of the world. Well, you can only export if you also allow to import, especially when you look at inputs.

Also from the political economy, if you direct barriers to other people’s goods, they’re not going to be happy taking your imports from you, if you are banning their exports to you. So you have to be a little careful not to be seen as overly protectionist. One of the problems with raising tariffs is it’s completely arbitrary. You raise tariffs here, you raise tariffs there — who’s gonna invest if they know that a few months down the line somebody petitions and gets the tariffs raised, your business is no longer sort of viable? We had achieved a certain amount of clarity and consensus on this. We’ve gone the other way.

All this talk about making in India (and) Aatmanirbhar India, I do hope it is not sort of focused on protectionism. If it is focused on increasing India’s production for the rest of the world, then you absolutely have to ensure you don’t do these other things, because it destroys the environment in which India can be progressive on this. I’m sorry, I missed the first part of your question.

SG: The first part was these two big changes on agriculture and labour reforms. What’s your view on these?

RR: The intent is the right one. I am not an expert in the details. I do worry that the complaint from the agricultural side that rather than increasing competition, if some of these mandis sort of close down, they may not be an avenue for small farmers to sell, etc. I do understand there are lots of vested interests in agriculture, the middleman is an important element there, but I also do understand that existing structures often have a role. And so, really how you build upon it is the only way to destroy them, or can you build upon this and increase the number of players who compete with each other? Not being an expert, I have to rely on other experts here. I do think we need to see how these laws play out, what the consequences are and take remedial action. We can’t treat reforms as fire and forget because what happens then is that it goes in the wrong direction, the unintended direction, and it doesn’t work out as you thought it would. If the critics of the law have some merit, you will see very soon some of the consequences, and then it makes changes and course-corrects.

Ideally, you should have had consensus before. I would think it’s important to build consensus for reforms. If we talk for 20 years, what’s another month or two to talk? But I presume the government wanted to show some signs of movement in order to improve animal spirits. On labour reforms, this has been on the cards for a long time. I think it moves in the right direction. Again, one has to see if existing labour is reasonably protected. You know, if you leave labour unprotected, you basically have industrial strife. With the added flexibility, you need to have protections also. How do you achieve that right mix, I can’t tell right now looking at the law, but as we see roll out, we should see that.

Of course, we need to be bolder. We’ve increased the flexibility from 100 person-firm to a 300-person firm, but many firms are 5,000-10,000 people. Can we at some point see that this is working reasonably, let’s just do away. Maybe that’s embedded in the law. I think there’s some flexibility. But I do think building consensus is important.

SG: A government can change a lot of things by notification (or modification) now.

RR: And there I would say decentralising it to the state governments is an important factor because states have different compulsions, different industries. And therefore they can learn from each other as they operate these things and see what works, and what doesn’t work.

SG: I have a question from Himanshu Reddy who wants to know, with the job market in mind, which industries or sectors are more stable and less stable for the next five years — domestic and global?

RR: That’s a hugely difficult question to answer. Certainly if you look at the impulses from Covid, tech certainly will benefit. That goes without saying. But also if you look at services, the distant services may have more scope. For example from India, servicing certain kinds of activities. Telemedicine, for example, took off in the United States in the first few months of the Covid crisis. And then there’s a question, if you can do telemedicine from downtown Chicago to Hyde Park, in Chicago, which is a suburb, why can’t you do it from India to Chicago? And so there are lots of new opportunities that will be opened up by the crisis. I think for some time, the travel, tourism, hospitality industries are going to be under significant stress. And I think all the hope for a quick resolution to the Covid crisis is out of the window. But stress creates opportunity, right? New hotel chains because the old ones are going out of business, new restaurants, all that will happen. But it will take time and will take credit.

SG: I have a question from Manojit Saha, who you might remember from your days in the RBI. He wants your comment on a statement the RBI governor made — he said the yield curve is a public good. That’s a heavy intellectual question.

RR: Look, I don’t want to second guess what the governor said. I have a rule, I don’t sort of comment on current RBI policy.

SG: Let me read the full sentence. It says financial market stability and the orderly evolution of the yield curve are public goods and both market participants and the RBI have a shared responsibility in this regard.

RR: Look, I again, don’t want to second guess. Let me just say that in industrial countries, there has been a movement towards trying and containing the yield curve. What does that mean? That means keeping the long term interest rates low. Typically central banks used to focus on the short term interest rate. And now they’ve moved towards also targeting the long term interest rate. I think your ability to do that depends a lot on the credibility of the central bank and its ability to expand its balance sheet significantly. I would say the RBI has done a fair amount in this Covid crisis. The question is, as with all emerging markets, how much more can central banks do, especially in the face of rising inflation? And, you know, is that inflation temporary? Is it permanent? Those are the questions they will be asking.

SG: Yeah, so I have a question again, from the political side. What’s your view on the ‘Aatmanirbhar’ slogan?

RR: We’ve had that slogan in, in many ways. You know, I’ve been reading about some of our, you know, early struggles.

SG: In my school days, and I am sure in your early school days as well. You are younger.

RR: Yeah. If you recall, it was the partition of Bengal which prompted the first talks of boycotting foreign goods and swadeshi. And you know, they were Indian economists at that time, who said all our ills came from the port sector. If Aatmanirbhar means that we want import substitution, we want to boycott foreign goods, we’re not going to have foreign ACs as you just said — it’s a strategy we tried (and) it didn’t work.

Why do we think it would work this time around? And Arvind Subramanian has written a very nice piece on foreign trade in India, and says that perhaps we think we’re large enough to not need the rest of the world — that would be a mistake. And when I, a few years ago, reacted to Make in India by saying, you know, in the short run we should make ‘for India’, I meant we had a market which is large enough to try but not large enough for our ambition. We can certainly practice within India, and make sure we have a strong market for Enfield motorcycles. But then to really benefit, we should be willing to export it to the world. That’s when we get the jobs etc. And for that, you have to be cost competitive. In order to be cost competitive, you should be willing to import when necessary. For example, your muffler may be cheaper made in Korea. Well your whole motorcycle, stands and loses based on whether you can buy some of these cheaper imports also. So banning imports may actually make your motorcycle cost ineffective and lose you even greater markets. This is the lesson we’ve always known. In order to export you have to be open on imports. You cannot have it both ways — I am going to export but I’m also going to restrict imports and completely ban them. That’s basic economics. We need to figure that out.

SG: The Chinese do that?

RR: No, the Chinese were very open on importing what they needed, when they needed. And what they’ve done, which is very clever, is start by exporting more low end stuff. And importing what was needed. Remember, there was a time when China was the assembly house of the world. Everything was imported, but they put the labor in assembly. Then they figured out how to make all the stuff that I’m importing. The guy next door says I can make it cheaper for you than what you’re getting in from Korea. And the import substitution is a natural consequence of the fact that you have scaled on your exports, the guy can now make 200,000, but he’s sitting next door. So the transportation costs are insignificant. That’s how they grew, not by banning the imports but by moving steadily up the value chain. We can do that also. There is no reason why we can’t. We don’t need to slavishly imitate China, but we certainly have to be careful that we don’t go back to the ’70s through a strategy of basically protecting our producers and limiting competition. We know where that led us.

SG: Right, I’ll make a political comment that in our politics, there is some oomph in the idea of being like Indira Gandhi. That you end up doing what Indira Gandhi did.

RR: Well, as I’ve said in the past that Indira Gandhi is a very controversial figure in India. Certainly, her ability to be victorious in the ’71 war and the kind of respect that she got for that in the country was significant. But, of course, the Emergency was a low point in our history. I think Indira Gandhi started the process of opening up in the early ’80s. Arvind Subramanian and Dani Rodrik write about that early opening up, but it eventually took the government under Narasimha Rao and Manmohan Singh to fully open up in a big way which took us forward.

SG: I have a question from Shyam Sundar SG. He is one of our guests. This is my question also: How do we explain increasing foreign exchange reserves in the middle of this crashing growth?

RR: Well this is the interesting part right? What we are seeing is.. some of it growth induced because we are seeing imports crash. Again because we are not producing enough, because demand is not enough, imports are crashing. Oil prices are also crashing…

SG: I will interrupt for a second, de-growth induced…

RR: Yeah, de-growth. The slowing growth is slowing our imports. Remember, our imports were always much larger than our exports. So if you slow imports considerably.. and your exports because the rest of the world is picking up now, it is recovering. Out exports are doing reasonably well. So exports doing well imports doing very badly because domestic demand is weak. That means our trade deficit has become compressed. And in addition to the trade deficit being compressed, you have news of people like Reliance bringing in money from outside as they are selling shares to other people. So we’ve got FDI picking up. And then because our stock markets are doing well because elsewhere people want diversification, we’re seeing some portfolio investment in India also. So put those three together, you will have a low trade deficit, our services exports are doing okay, remittances are still okay. And therefore, we are seeing that the current account deficit that is how much we essentially rely on the land rest of the world for savings is pretty much zero, maybe positive this year. And then we’ve got capital inflows, all those are leading to an increase in reserves. It’s not very helpful though. Because when that money comes in, certainly we can be more confident, we can be more confident that we can do some things without worry, including if we have a rating downgrade, at least we have plenty of reserves right now. But the problem is it’s also holding up the currency and it is making it more difficult to export. So it’s not entirely an unmitigated blessing. But I would say for India it is far more preferable to have money flowing in than having serious worries about foreign exchange at this point. But we should make use of this. Because if we have a comfortable external position, at least in the short to medium run, we can afford to take more risks on the fiscal side.

SG: How would you do that? Is the government losing the window for this fiscal stimulus?

RR: Well, I would distinguish between relief and stimulus. Relief is protecting the weakened segments of our population, of the households, but also small and medium enterprises. That relief if you don’t provide creates longer term damage. What now is labelled ‘scarring’ in the West. So if you don’t do that, if you don’t provide relief, there’s more scarring. Now is food support the only thing we need to do? We need to provide more cash support. Brazil has done a huge job in offering cash support to poorer households etc. And as a result, Brazil’s growth in this year is 5 per cent. India is double that. And of course India starts out with stronger growth in the first place. So the extent to which we have fallen is significantly more. So one is relief, I would do relief. But I would also set aside funds for stimulus. Because as the economy comes back, we need more jobs. Those jobs are provided by things like construction. So can we put in place plans for expanding construction significantly. And that means both the public sector as well as the private sector. Many construction firms are hampered by high levels of debt, by projects which haven’t gotten finished etc. This is a time to repair all that, so that we’re ready to go. We must focus on ensuring we are not held back by the huge levels of debt and financial distress when the economy is able to run again. Otherwise this is going to be a lost decade, in terms of growth.

SG: One big construction stimulus coming up is the rebuilding of the Central Vista in Delhi. In Lutyens Delhi.

RR: So long you know.. sometimes any kind of construction is helpful. This goes back to Keynes old adage, digging up holes and filling them. But it would be better that this had long term value, that it was a source of value…

SG: Like the Taj Mahal in times of a famine. Now Remya Nair who covers finance and economy for us: She says you’ve been critical of the Modi government’s efforts to reform public sector banks. If you were to be the doctor, you know with the diagnosis for public sector banks. What do you do now? And if you said, “Prime Minister Modi, don’t waste this crisis, fix this big problem,” — what are the things that you will do?

RR: Well, it’s one of those things that doesn’t happen overnight, but you have a pretty good playbook that you can follow. One, is to start reforming the boards of the public sector banks. Give them more professional board members but also give them more ability to determine the strategy of the public sector banks, as well as over time appointments. Who’s the CEO, give them more flexibility. Also over time give them more flexibility in determining pay. The public sector banks’ top officials are relatively underpaid. Now, you’re sort of looking in a limited market, but if you opened it up to private sector people and gave them the commitment that they would be protected from orders from the government, then perhaps there may be more interest in those jobs who attract a stronger talent from a stronger talent group. So that is first on the governance, that is what you need to do.

In order to do that governance properly, you also need to distance the public sector banks from the Ministry of Finance. The big problem has been micromanagement by the Ministry of Finance of everything. And once that happens the bank has very little broader freedom. If you can do both these things, you get a stronger sense of which banks are reasonably governed. And as they’re reasonably governed, there is a scope for reducing the state of the government in those banks. Giving them a little more freedom, letting them get more private sector shareholders. I am not an advocate for privatising by selling to a large business house. I think that could compound the problem. I am saying let us do the wide scale share sale, so that it’s widely held. Maybe a couple of strategic stakeholders that you have in order to improve the quality of management, maybe a fin-tech company or whatever. But don’t sell out in a strategic privatisation to a big corporate entity. That would be a mistake. Instead, improve the governance. Let this be a self governed bank. We have some reasonably good self governed banks. And over time, this will stand us in good stead. I think this will be a mix of public sector banks and private sector banks in the longer run, especially if the public sector banks aren’t under the direct tutelage on a day-to-day basis of the government would be a good thing.

Now that requires a number of other things to happen, for example, some of what the government wants in terms of activities you need to pay for. If you pay for it, then everybody would do it. The private sector would do it, the public sector would do it, there’d be some competition between them. So instead of saying, “aap yeh kareinge“, you have to do this. This is the adesh (order) from the department, financial services. Just say for every additional account you bring in rural areas, we will pay you five rupees a month. Those are ways the mandates can be paid for and there’s then no reason for the government to hold on. And I’ve always said, the way you know, that you’re successful is when they abolish the Department of Financial Services.

SG: Oh, that’s it. You know, I’ve heard ministers for Information and Broadcasting saying in public forums, because it’s something I’ve been writing, that so and so has been writing that my ministry should be abolished … I agree with you. And yet you see the Ministry of Information and Broadcasting gets stronger and stronger as time passes. So those wishes are not easily answered.

RR: Yeah, no, no, it’s tempting. And obviously, the bureaucracy has a vested interest to protect its powers. In fact, to expand them. And you know, to some extent, the uninhibited expansion of bureaucratic power, when the political side is unwilling to take action is part of our problem.

SG: These are also jobs for them, often after retirement…

RR: Yeah yeah, for sure, but also jobs before retirement, right? The number of Secretary posts depends on the number of departments there are. And so why would you give up a department?

SG: So LIC, I think this would be our last question. I know that you have other things to do. The government now says it is going to list LIC. Now the government, although they’ve been talking about privatising a lot of PSU companies has not really been successful unless it’s been a sale of one public sector company to another public sector company, which I call the (inaudible) minor vendor economics from Catch 32. To take it from one pocket, put it in the other. That apart, the government has not succeeded in selling any substantive PSU assets. In this situation, where do you see the listing of LIC in the stock market?

RR: Well, this goes back to how serious is the government. Every budget there is a privatisation number. And by the end of the year we find nothing has really happened. And then they do this one pocket to another. I mean, we have been obfuscating our fiscal situation for a long time. And, you know, when you look at the true public sector borrowing requirement, even before the Covid crisis, it was 10 per cent of the GDP, which is really a huge number for any economy to have. I think this goes back to what we were just talking about. There is no intent to let go of these public sector…whether it’s at the political level or the bureaucrat level, I can’t tell. But you know, every time it’s “oh the stock market is too low”. Well in the midst of crisis the stock market is back at close to 12000 on the Nifty. What more do you want at this point, given our resource constraint? If you were serious about privatisation, you would have prepared these entities and be willing to let go at any time that the market price was reasonable. The truth is, it seems to me there is an unwillingness. Now, on the bureaucratic side, I can even see apart from vested interests. Look at poor Mr. Arun Shourie, after 20 years after he privatised there’s a court case against him, why did you do it?

SG: Therefore in Covid times, leaving his family…

RR: I mean, what message does this send? I mean, everything I know about Mr. Shourie, right from his Express days, is that this is a fine, upstanding individual. And his only mistake is getting on the wrong side of certain debates. Should that be the reason that you’ve been… what message does it send to other public officials? Including ministers after all he was minister of privatisation. He took bold decisions. But, it’s hard to imagine that there was anything other than the interests of the country behind his decisions. And that kind of official is held up. You know, why would any bureaucrat put his name out? And this goes back to the entire paralysis of policy decision making by the bureaucracy, unless the government reassures them. And by action, not by words. You know, make sure that Mr. Shourie is protected, as a signal that in fact, you’re not going to go in that direction. And obviously it’s in the courts. But you know, we we always have ways of working with the courts.

SG: And to put out the facts quite accurately, the government actually has taken a report that there is no case and the case should be withdrawn. But it now has to go through its judicial process. And as you know, in India, the process is the punishment. And which decent honest fellow wants to deal with a criminal case in a court of law. And you’re right, because nobody wants to change anything, unless as long as they have the fear of all these dreaded C’s — CBI, CBC, CAG etc etc. So LIC, do you see any risks fundamentally with listing LIC? What are the benefits?

RR: I do think that, you know, selling parts, bits and pieces of the public sector without any impinging on the governance, so you still hold 51 per cent, is a no brainer. You get resources. What you have to do is make sure it’s spread over time, so that you’re not based on any particular market day or market event, but you get resources over time. So I will put it almost on autopilot. Of course, there are people who try and front-run that, you can try and work around that with SEBI and so on. But I think the real issue on privatisation, which the government has commendably said it wants to do more of is really on governance reform. There’s no point sort of selling and finding that we have a poorly governed public sector enterprise. Which becomes a polygon private sector enterprise and three years down the line, you find it’s a total mess. So what you need to do is start improving the governance now, but also do the privatisation if you’re doing it, in a way that enhances governance. Rather than diminishes it by getting some pretty significant stakeholders, for example, to take part in it. Now, one example of this was when we tried to privatise UTI. We got people like Hero Price (inaudible), to take a role there. But I think since then, we’ve become uncomfortable with the role of investors who put some constraints in the government. So we have to re examine that episode and understand who’s at fault there. But more broadly, I think that represents a good example of how we can bring in investors at the same time as we were sort of privatising to try and improve governance.

SG: I see the wall clock right behind you and I know that we’ve gone over time. But my last-ask question to you is, at the time when you left the Bank, could you have anticipated that Yes Bank would go belly up like this? Had you begun to see problems already?

RR: I don’t want to talk about the details because obviously they’re confidential. Let me say that we had started taking a very close look at Yes Bank because the numbers just didn’t add up. Given what we were hearing on the street at that time. That, you know, there was a certain amount of riskiness in the lending, which wasn’t reflected in the NPA numbers. So our supervisors were taking a much closer look at what they were reporting and how they were reporting. And if you recall, soon after they had to start restating the size of the NPAs etc etc, that they were disclosing based on a much closer scrutiny of the processes they were forming.

SG: Did you ever get any calls from North Block or someplace else to be kind to them?

RR: No, let me say this very very clearly. Surprising as it may seem, through both the UPA and the NDA regime, I never got a call on any specific promoter. “Be kind to these guys, give a license to that person etc etc”. There was a respect perhaps for the RBI and it’s integrity, which I think extended to all my offices also. Again, I don’t want to blanket claim there were no sort of problems in supervision or whatever. But in general, I valued the integrity of the institution and the commitment of its people. And I think people outside do that. And that’s actually a statement about India that if you’re pliant, people know you are pliant, and they take advantage of that. But if you can establish a reputation as an institution or as a person, people find that there’s no point and they stay clear. But I think this was more general, there was a respect for the Reserve Bank, which kept the political establishment from trying to influence it.

SG: In fact, that is why RBI is one of India’s greatest national assets…

RR: I agree, I agree. And I think this is a more general point also again. We have a lot of strong institutions. And we should try and respect them, and ensure that they are allowed to do their job because when they do their job, we can be a first world country. It is when we undermine them, that we become a third world country. And I think we need to understand that because that’s the difference between success and failure.

SG: I think that’s a brilliant note to conclude this on.