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The only way up

We need to remove obstacles in investment process, ease financing

Written by Krishnamurthy Subramanian |
Updated: December 10, 2014 8:17:34 am
Addressing this should be central to any serious effort to create productive jobs. Labour unions militate to preserve the advantages they receive from stringent labour laws at the cost of 85 per cent of the workforce, employed in the unorganised sector.

To bring economic growth back to at least 6 per cent in the short run and 8 per cent in the long run, the government needs to strengthen the processes for investment by corporates. Investment in the manufacturing sector,  which accounts for only 16 per cent of the GDP (in China, it accounts for about 25 per cent), is essential for growth and job creation.

The steps needed to be taken to reignite the investment cycle fall in two categories. The first set of steps relates to removing the many obstacles in the investment process. The second to enabling the financing of investments.
As far as the obstacles are concerned, the land acquisition act is an important stumbling block that must be corrected. The act provides for “fair compensation” for acquiring farmland for industrial projects. However, it has made acquisition difficult and the process of acquiring land for corporate investment tedious. Modifying the act so that it facilitates land acquisition while ensuring that the interests of farmers are protected is a key step towards reigniting the investment cycle. Like several other laws in India that are unnecessarily complex, the land acquisition act also introduces several avenues for bribe-taking by officials. Take, for example, the provision mandating social impact assessments, which are supposed to be carried out in consultation with representatives of panchayati raj institutions. These representatives are likely to act as powerbrokers, demanding their pound of flesh. Rather than enacting a law that has a simple provision for determining fair compensation, such provisions only create more hurdles for land acquisition. The law must be modified to simplify the process of acquisition while ensuring that fair compensation is paid to landowners.

Second, a meaningful single-window clearance system must be created, where all approvals are packaged together and granted — from cabinet-level nods to the government clerk finally signing off on a component of the project. Even though the UPA administration and the current government have cleared several large projects at the cabinet level, the lack of the streamlining of approvals between the states and the Centre, as well as between the different levels of the bureaucracy, has prohibited these projects from getting off the ground. Bringing all the different levels of the bureaucracy, as well as the polity, under the same roof for a few days through an “investment mela”, could not only speed up approval-granting, but also reduce bribe-taking. The government clerk signing off on a power connection to a factory is unlikely to demand a bribe when he is sitting next to the cabinet secretary or the environment secretary, who provide high-level clearances.

Third, to ensure that labour costs in manufacturing, which inter alia affect the economic viability of investments, are in line with the value added by labour, the stringent laws that prevail both at the Central and the state level need to be rationalised. While the government has taken some steps in this direction, the speedy dismantling of draconian labour laws is essential. In this endeavour, the government must realise that opposition from the labour unions is unavoidable. In any case, the unions represent only 15 per cent of the workforce, which is employed in the organised sector. Labour unions militate to preserve the advantages they receive from stringent labour laws at the cost of 85 per cent of the workforce, employed in the unorganised sector.
Even when one person in a family gets a job in the organised sector, the entire family gets economically uplifted. Political parties need to realise that this 85 per cent of the workforce represents a significantly more attractive political constituency, or “vote bank”, to cater to than the 15 per cent represented by the labour unions.

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As far as the steps needed to ease financing for investments are concerned, the government must utilise the room provided by lower oil prices to keep the fiscal deficit at the promised level despite possible shortfalls in tax revenues. A high fiscal deficit crowds out lending to the private sector because it has to be funded through government borrowing, which is provided by banks. Every additional rupee lent to the government means one rupee less for lending to the private sector. Also, compared to a large corporate firm, small and medium enterprises get disproportionately affected when government debt crowds out credit to the private sector.

While reducing the fiscal deficit will release credit for the private sector, the efficiency with which it is allocated depends on reforming the governance of public-sector banks. The Nayak Committee, set up by the Reserve Bank of India, which submitted its report this May, has recommended the steps that need to be taken for this. Reforming public-sector banks would enable more efficient allocation of scarce credit to the private sector and thereby facilitate efficient investment in the economy.

The writer teaches finance at the Indian School of Business and was a member of the RBI committee on governance of bank boards

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First published on: 10-12-2014 at 12:06:26 am
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