A statement on economic governance

The cover diagram may kick off another debate.

Last year, the cover of the pre-Budget Economic Survey depicted the concept of coupons equilibrium. Economists had defined the printed diagram as an important concept providing micro-foundations for Keynesian macroeconomics. The concept roughly means that distributing vouchers or coupons to a target group is a more effective option than reducing market prices to help the poor.

This year, the Economic Survey used on its cover the classic IS-LM diagram developed by well-known economist, John Hicks, to elucidate Keynesian macroeconomics. The diagram helps economists demonstrate the relationship between interest rates and the real output in the goods and services market and the money market.

Last year, the coupons equilibrium diagram sparked a debate within the government over the need for implementing a direct cash transfer scheme for the poor, instead of paying subsidies through an inefficient and leaky system. A pilot scheme to implement a direct cash transfer scheme with the help of Nandan Nilekani’s Unique Identification Authority of India is on the cards.

This year, the IS-LM diagram may well kick off a fresh debate on the relationship between the interest rates and their impact on output of goods and services, and this at a time when the Reserve Bank of India is debating whether it should further tighten the monetary policy.

In other words, Chief Economic Advisor Kaushik Basu has made yet another major statement on economic governance, by simply depicting a diagram on the cover of the Economic Survey for 2010-11, which his finance minister, Pranab Mukherjee, tabled in Parliament today.

For non-economists, the cover of this year’s Economic Survey is perhaps the only daunting element in the entire 456-page document. The rest of the document is even more refreshing than the one he presented last year. Like last year’s document, the Economic Survey for 2010-11 also should rank high on the readability index. More charts, graphs and tables are now supplemented with readable boxes on new theories, cross-country comparisons, effectiveness of policies and studies on how well India has cemented its position in the league of top nations.

The second chapter, Micro-foundations of Macroeconomic Development, continues to score with its fresh ideas. It argues that not all price increases should be met with government interventions. “Prices rise and fall in response to changing demand and supply scenarios in the country. Prices are signals to consumers and producers to alter their behaviour in response to exogenous changes in the economy. It is not advisable for Government to step in and flatten out all these price fluctuations,” the chapter argues.

The same chapter has a box, which warns that as the Indian economy’s gross domestic product (GDP) grows and its per capita GDP also crosses a certain level, the required purchasing power parity adjustment will become lower. By implication, this would mean goods and services in India would become much more expensive. In other words, the box argues, of course with necessary caveats, that with high growth and higher per capita GDP, Indians will have to reconcile themselves with higher prices.

There is also a cross-country comparison of inflation rates in India and 14 other countries including China. What it shows is that the food inflation in India is higher than only one among those 14 countries surveyed. In other words, 12 countries had a higher food inflation rate than India in 2010. This was a major improvement compared to 2009, when India’s food inflation rate was the highest. In terms of general inflation, India’s performance in 2010 was a little less impressive, with only six of the surveyed countries clocking higher inflation rates than India.

The survey also argues that for India to develop faster and do better as an economy, it is important to foster the culture of honesty and trustworthiness. “So once we recognise that honesty, integrity and trustworthiness are not just good moral qualities in themselves but qualities that, when imbibed by a society, lead to economic progress and human development, people will have a tendency to acquire these qualities,” it concludes.

Finally, in keeping with the tradition of revealing the latest numbers on government deficits, this year’s Survey also notes that the fiscal deficit for the current year would be 4.8 per cent of GDP, and not 5.5 per cent projected by the finance minister in the Budget in February 2010. The Survey also projects lower revenue and primary deficit numbers for the current year. This broadly confirms the belief that the finance minister, in his 2011-12 Budget on Monday, would unveil a reasonably satisfying fiscal consolidation strategy.