#60 Because It's Worth It

Independence Day Musings, Defence Imports Embargo, and Robin Hood Taxes

Aug 16, 2020

This newsletter is really a weekly public policy thought-letter. While excellent newsletters on specific themes within public policy already exist, this thought-letter is about frameworks, mental models, and key ideas that will hopefully help you think about any public policy problem in imaginative ways. It seeks to answer just one question: how do I think about a particular public policy problem/solution?

Happy Independence Day

— Raghu Sanjaylal Jaitley

It is easy to lapse into cynicism while talking about India. We are guilty of it often. There are policyWTFs galore, economic reasoning is scarce, the politics can be depressing and the public discourse terrible. These are all true. We take no pleasure in bringing these up. We discuss them with passion because we believe in India. In what we have built so far and what we could become in future.

We write this newsletter with a critical gaze. We don’t write enough about why we remain optimistic about India. This is the Independence Day weekend. No better time, I guess, to redress the balance.

As the poet and satirist, Harishankar Parsai wrote:

मैं सोच रहा, सिर पर अपार
दिन, मास, वर्ष का धरे भार
पल, प्रतिपल का अंबार लगा
आखिर पाया तो क्या पाया?

So, what makes us hopeful about our future?

We, The People Are Good

Don’t let a few trolls or a handful of screaming anchors colour your view. We are nice people. Many wrote us off at the time of independence. Ours was an experiment doomed to fail. There are naysayers even now about our prospects. We survived then. We will survive in future too. Because we are a unique people.

We are a compassionate, friendly and a stoic lot. We confound them who measure us using conventional metrics of success. Like Shailendra wrote:

जो जिससे मिला सीखा हमने, ग़ैरों को भी अपनाया हमने
मतलब के लिए अँधे होकर, रोटी को नहीं पूजा हमने

We take life in our stride. This isn’t fatalism. This stems from a deeper understanding of our place in the universe. As Sahir Ludhianvi summed up:

जो मिल गया उसी को मुकद्दर समझ लिया
जो खो गया मैं उसको भुलाता चला गया

Don’t bet against us.

Our Constitution Is Our Guide

Our Constitution has its flaws. Some consider it too liberal; others think it makes the state overbearing. Some find it too long; others feel it comes up short. This may all be true. However, there is no doubt our constitution has strengthened our democracy, protected the weak and continues to act as a tool for social change.

Tagore wrote:

“Where the clear stream of reason has not lost its way
Into the dreary desert sand of dead habit
Where the mind is led forward by thee
Into ever-widening thought and action
Into that heaven of freedom, my Father, let my country awake.”

Our Constitution is still our best bet to reach that ‘heaven of freedom’. Its structure has stood firm in the face of attacks while being flexible to adapt to the needs of a modern society. 73 years is not too long in the history of a nation. Yet, given how it has fared so far, our Constitution will most likely stand the test of time.

We Have Common Ends And Means

Despite the cacophony and noise in our public discourse, there’s a strong consensus among us on what is good for India and how to achieve it. Surveys, polls and elections over the years have shown our preference for an open and progressive society, our belief in the fairness of the system and our confidence about our future. Our preoccupation with the faultlines in our polity blinds us to the obvious reality that’s around us. We continue to move past historic prejudices, suspicions and biases that fractured us. Ties that bind us get stronger every passing year.

There have been occasional blips in this journey and there are times we appeared lost, yet, history will judge us favourably for what we have done in these 73 years. Of course, the work is incomplete and the pledge that Nehru spoke of at the stroke of midnight hour still remains unfulfilled:

To bring freedom and opportunity to the common man, to the peasants and workers of India; to fight and end poverty and ignorance and disease; to build up a prosperous, democratic and progressive nation, and to create social, economic and political institutions which will ensure justice and fullness of life to every man and woman.
We have hard work ahead. There is no resting for any one of us till we redeem our pledge in full, till we make all the people of India what destiny intended them to be.

We are all in it. Together.

It’s Worth It

What we have achieved so far is precious. That’s worth reminding ourselves today. We will go back to writing the future editions lamenting our state of affairs.

We will do so because we know it’s worth it.

Addendum

— Pranay Kotasthane

The stories we tell ourselves about ourselves are important. Narratives are powerful; they make the unreal real. And the freedom movement is a pivotal moment of the India narrative. It was as much a moral and social movement as it was a political one.

Independence day is a good occasion to pick up a few strands from those times; strands that remind us that we can be better and we can do better. I’ll just leave you with two books that have helped me understand the India story better.

The Gandhi-Tagore debates. Few other things reveal more about India of those times than the series of exchanges between Gandhi and Tagore. Both great men used quintessentially Indian philosophical foundations and yet came to opposing conclusions on topics such as nationalism, freedom, and reason. Despite core disagreements in their worldviews, their dialogue continued for nearly 25 years in an exemplarily civil manner.
No wonder then that Jawaharlal Nehru had this to say about these debates:
"No two persons could probably differ so much as Gandhi and Tagore.. the surprising thing is that both of these men with so much in common and drawing inspiration from the same wells of wisdom and thought and culture, should differ from each other so greatly!... I think of the richness of India's age-long cultural genius, which can throw up in the same generation two such master-types, typical of her in every way, yet representing different aspects of her many-sided personality."
Thankfully, these letters have been compiled in an excellent book The Mahatma and the Poet by Sabyasachi Bhattacharya. Do consider taking some time off to read this collection. It’s worth it.
Ambedkar’s writings: Bold. That’s the word that comes to my mind when I read Ambedkar. His writings — ranging from agricultural economics to Pakistan and from linguistic states to caste — inspire in many different ways. Thankfully, most of his writings are available for free on the Ministry of External Affairs website. If you’re short on time, read his The Grammar of Anarchy speech.

PS: Every independence day, I read Nehru’s Tryst with Destiny speech. It is a reminder of India’s many achievements and aspirations.

India Policy Watch #1: Defence Imports Embargo

Insights on burning policy issues in India

— Pranay Kotasthane

The Ministry of Defence announced an embargo on the import of 101 items. What struck me first was the auspicious number 101. Not 99, not 100, but just 101 — it reminded me of the cash envelopes gifted by relatives who really loved me.

That apart, the stated intent behind the move is:

“to apprise the Indian defence industry about the anticipated requirements of the Armed Forces so that they are better prepared to realise the goal of indigenisation… [the list] also offers a great opportunity to the Indian defence industry to rise to the occasion to manufacture the items in the negative list by using their own design and development capabilities or adopting the technologies designed and developed by Defence Research and Development Organisation (DRDO) to meet the requirements of the Armed Forces in the coming years.

At the surface, there’s not much to argue with the goal (indigenisation). However, the means to achieve that goal (imports embargo) is likely to be counterproductive.

What’s the Market Failure?

The defence industry, in general, suffers from one major market failure: concentrated market power. Because defence is a public good (non-rivalrous and non-excludable), the government is almost exclusively responsible for it. This, in turn, means that the government is the only significant buyer of defence products in an economy, what economists refer to as a monopsony. This is a market failure because companies that manufacture defence products are dependent on just one buyer. They are hence wary of investing large amounts because if they fall out of favour with the sole buyer, they have no other fallback option. Consequently, defence production is underprovided.

Concentrated market power ails Indian defence sector specifically in three ways. On the demand side, the monopsony problem gets accentuated due to complicated procurement policies, payment delays, and long decision-making cycles. These factors dissuade even established manufacturers from producing defence goods.

On the supply side, defence production also exhibits monopolistic characteristics in India. Ordnance Factories and Defence PSUs — both government entities — are the biggest producers of defence products. A monopoly position allows these companies to function inefficiently and yet remain afloat. Another reason why private players stay away from this sector.

The third issue relating to market power is that the government plays the role of both the monopolist and the monopsonist. Since both the suppliers (Defence PSUs) and the ‘demanders’ (Armed Forces) are part of the Ministry of Defence, private players often get the short shrift. It’s like a cricket game where both the umpire and a player are on the same side. This situation further dissuades any private investment in this sector.

What Does an Import Embargo Do?

So, does an import embargo resolve the problem of concentration of market power? The implied logic is that by banning foreign competitors, the monopsonist is signalling its faith in domestic players. How is this likely to play out in reality?

One, the import embargo will increase costs for the government. There is a long-held belief in defence circles that an indigenous defence industrial base will be a more affordable one. While that may be true in the long-run, it would require massive investments in R&D and manufacturing in the short run. With the ability to import substitutes cut off, India will have to rapidly invest in building a domestic supply chain. This is where the problem lies. COVID-19 has led to a drop in government revenues and the possibility of a substantial increase in government expenditure on defence R&D seems quite low.

Two, in an effort to reduce these costs, the government will turn to incumbents which, in this case, are Defence PSUs. A large number of contracts from the embargo list will go to these government entities. And without a change in the incentives, these PSUs will run into similar problems as they have done in the past — poor quality of products, cost overruns, and massive delays. This will affect the armed forces even harder given that the option to procure substitutes from foreign players is no longer available.

What Should Be Done?

To get our defence manufacturing going, the root cause of concentrated market power needs to be addressed.

First, the government needs to get rid of its near-monopoly over defence production. Divest stakes in defence PSUs so that their incentives can be geared up towards efficiency.

Second, exports need to be encouraged to get over the problem of monopsony. Restrictions on the import content of the final products are counterproductive. If our companies are shielded from external competition, they won’t be able to raise their game.

Third, India needs a defence procurement regulator independent of the Defence ministry so that the regulator can consider bids of DPSUs and private players at par.

Until these changes happen I’m not holding my 101 breaths.

India Policy Watch #2: Billionaires, Caste And Justice

Insights on burning policy issues in India

— Raghu Sanjaylal Jaitley

Things happen in mysterious ways while writing a biweekly newsletter. You are forever looking at what’s happening around you to see if it could fit the next edition. Often this process is laboured. Occasionally, it is obvious. But only rarely, if ever, you stumble upon a connection that’s elegant, compelling, yet not obvious. Now that I have set your expectations, I will need to live up to it with what’s coming up next.

I will try.

Is Every Billionaire A Policy Failure?

So, last week I came across these two news items involving two leading lights of the left (progressive?) wing of Democratic party. The first one was the so-called Bernie Sanders pandemic tax proposal. As Sanders writes in The Guardian:

While tens of millions of Americans are now facing economic desperation – unemployment, loss of healthcare, evictions, hunger – the very rich are becoming much richer.
$731,000,000,000 (that’s $731 billion). That’s how much the wealth of 467 billionaires increased since the Federal Reserve started taking emergency actions to prop up the stock market in March.
The extraordinary wealth gains that billionaires have made during the pandemic come at a time when 92 million Americans are uninsured or underinsured and tens of millions of Americans are facing evictions or foreclosures.

Sanders has introduced a bill in the Senate called the Make Billionaires Pay Act 1 which proposes a one-time 60 per cent tax on wealth gains made by these 467 billionaires during the pandemic (since March 2020). This would raise about $420 billion which is enough money to pay all out-of-pocket medical expenses for every American for a whole year. Sanders writes:

Now, I understand that there are some people out there who may believe that a 60% tax sounds like a pretty steep tax increase. Well, let me ease those concerns. Even after paying this tax, these 467 billionaires will still come out ahead by $310bn. Trust me. Their families will survive.

Then last week, I came across this tweet from Alexandria Ocasio-Cortez (AOC):

Billionaires need the working class. The working class does not need billionaires.

Firstly what struck me was how far has the discourse moved from the Reaganite ‘free market- small government’ consensus that dominated American politics for the last 4 decades. It is almost impossible to imagine mainstream US politicians making such statements even five years back. The second thing, of course, was how wrong they all were considering we in India have seen this film before and we know how it ends. Anyway, as I was writing a response to this, the latest episode of the excellent Econ Central podcast (Amit Varma & Vivek Kaul) dropped that covered the same topic. There are overlaps in our arguments on this (listen to the podcast).

So, where do Sanders and AOC go wrong with this?

The increase in wealth during the pandemic for most of these 467 billionaires came about because of the rise in stock prices of their companies. They aren’t sitting on $730 billion of cash out of which the government can coerce 60 per cent out. These are notional gains in most cases. I’m sure Sanders knows this, but he doesn’t care about this distinction. The rhetoric would lose steam otherwise.
These gains during pandemic haven’t been made through illegal means. In fact, many of these companies were the lifelines for ordinary Americans in this period delivering essential goods and services. Not having these companies or their founders would have been a huge net negative for society.
Most of these billionaires weren’t born one. They started a company, built a product or service, delivered value to their customers and provided employment to millions of people. In the process, they became billionaires. Companies have scaled up faster over the last two decades on account of network effects. So, we have seen a quicker emergence of tech billionaires (through their equity holding) during this time.
Lastly, what stops this from going from billionaires to millionaires? And, then to anyone who makes more money than an arbitrary threshold that Sanders or AOC don’t like. This isn’t an implausible scenario. What then is an incentive for anyone to take risk, use their enterprise and build a company? To quote Gary Kasparov who knows a thing or two about living through a regime which believed in such things:

“Talking about Socialism is a huge luxury, a luxury that was paid for by the successes of capitalism. Income inequality is a huge problem, absolutely. But the idea that the solution is more government, more regulation, more debt, and less risk is dangerously absurd.”
“The failure of capitalism is still much better than the success of socialism.”

In the meanwhile, a couple of days back I started on Isabel Wilkerson’s Caste: The Origins of our Discontents. Wilkerson is Pulitzer winning journalist who wrote the excellent The Warmth of Other Suns, a comprehensive history of the Great Migration of the black community from Jim Crow south to north and west of America in the first half of the twentieth century. Caste is rather more ambitious. Wilkerson unravels the structural and systemic basis of racism to reveal it is analogous to the hierarchy-based caste system of India and a cousin of Nazi-era horrors of the holocaust. My reflexive reaction to the premise was this is stretching things a bit. But in chapter upon chapter of clear, persuasive prose Wilkerson dismantles racism to show us what it is – a system of privilege that is looking for a vector to propagate it over generations. Racism, for Wilkerson, is only skin deep. Go further, and you will find caste in its bones. As Wilkerson writes:

A caste system is an artificial construction, a fixed and embedded ranking of human value that sets the presumed supremacy of one group against the presumed inferiority of other groups on the basis of ancestry and often immutable traits, traits that would be neutral in the abstract but are ascribed life-and-death meaning in a hierarchy favoring the dominant caste whose forebears designed it. A caste system uses rigid, often arbitrary boundaries to keep the ranked groupings apart, distinct from one another and in their assigned places.
As we go about our daily lives, caste is the wordless usher in a darkened theater, flashlight cast down in the aisles, guiding us to our assigned seats for a performance. The hierarchy of caste is not about feelings or morality. It is about power—which groups have it and which do not. It is about resources—which caste is seen as worthy of them and which are not, who gets to acquire and control them and who does not. It is about respect, authority, and assumptions of competence—who is accorded these and who is not.

While reading this, I went back to Rawls’ concept of ‘justice as fairness’. Rawls takes you through a thought experiment. He defines an original position where no one knows their place in society. That is they are devoid of any information (race, gender, social class, religion etc) about themselves, about anyone else and about the society and its history. Rawls calls it the ‘veil of ignorance’. With this, Rawls asks the question – how would people come to an agreement on a universal standard of justice for the society?

From behind this veil, Rawls argues that self-interested rational people would arrive at two principles of justice (I’m paraphrasing them here):

Each individual has a claim to equal basic rights and liberties which is compatible with the rights and liberties of others.
Social and economic inequalities are to satisfy two conditions: (a) They might be attached to positions and offices that are open to all (equality of opportunity); and (b), they are to be of the greatest benefit to the least advantaged members of society.

And from here Rawls arrives at the notion of luck in the discussion of justice. For Rawls, the starting position for person in a society is the resultant of their social lottery (economic and social context in which they are born) and natural lottery (the biological gifts they are born with). This means a system of natural liberty or equality of opportunities is unjust because the starting positions aren’t the same.

Coming back to the arguments of Sanders and AOC, the billionaire tax is without a sound economic or moral basis. However, when this wealth and privilege perpetuates over generations providing an advantage of a starting position and a network that’s embedded within the social fabric, almost like caste, it is worth asking if that’s fair.

Rawls would call it unjust. Wilkerson would term it another kind of caste system. That, more than a pandemic-related tax or a proposal to limit the number of billionaires, is worth thinking about.

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HomeWork

Reading and listening recommendations on public policy matters

[Video] Prof. Michael Sandel on John Rawls’ principles of justice and on distributive justice
[Article] Paul Graham on Income Inequality
[Article] Ajay Shah’s lucid article on what the National Education Policy 2020 does to address market failures
[Article] Another public sector bank bailout is likely and the involvement of the Fifteenth Finance Commission doesn’t augur well for the states, writes M Govinda Rao.

That’s all for this weekend. Read and share.