Coalitions and the economy

The economy is relatively immune to whether the political regime in New Delhi is weak or strong. It has become Central government-proof

Are coalition governments bad for the economy? This question has arisen because of the high probability that the coming Lok Sabha election may give us a hung parliament. The concern is not about nominal coalitions like what we have now but weak coalitions where power is dispersed among many partners.

We have had several such weak coalitions in the past. The first was the Janata government, which took office in March 1977 after the emergency and lasted for about two and a half years. The second was the short-lived government headed initially by V P Singh, which was in power for just less than a year from December 1989. The third was the coalition that came to power in 1996, led initially by Deve Gowda followed by the short-lived Vajpayee government of 1998-99.

Some key indicators of economic performance during these three episodes, averaged over the financial years in which the government was in power, are given in the table. For purposes of comparison, the table also reports the same indicators averaged over three years before and after the tenure of the weak government.

The first episode, 1977-79, does not show any weakness in economic performance. The growth rate accelerated, the investment rate rose and so did the public savings rate. The wholesale inflation rate was significantly lower than in the years before or after the tenure of the government. The current account was also healthier and showed a surplus. 

The second episode, 1990-91, and the third, 1996-99, show some slight weakening growth and public savings. But the main outlier is the current account deficit in 1990-91, the year when the big exchange crisis broke. But any reasonable reading of the economic history of the eighties would conclude that the origins of this crisis lay in the policies of the previous strong one-party government.

Several initiatives undertaken by these supposedly weak governments continue to date like the employment guarantee scheme in Madhu Dandvate’s Budget or the 10-20-30 per cent income-tax rate structure introduced in P Chidambaran’s 1997-98 Budget.

What this shows is that the economy is relatively immune to whether the political regime in New Delhi is weak or strong. The explanation probably lies in the shift the liberalisation process has brought about in economic control from the government to commercial enterprises, whose plans in a decontrolled economy are swayed more by their perceptions of shifts in demand and supply.

The interventionist capacity of the Central government has come down in several ways. The share of the public sector in gross fixed investment has come down from a peak of 60 per cent in the mid-eighties to around 25 per cent now. Much of this is in public enterprises that get little or no budgetary support and operate very much like market-oriented private enterprises. Direct capital expenditure, excluding financial transfers, in the Central Budget is just about 1 per cent of GDP with a large chunk being for defence. The states are more important as their budgetary developmental capital expenditure is about 3 per cent of GDP.

The Central government does own banks and insurance companies. But the way in which it has managed them has hardly contributed to sound economic management. With the goods and services tax (GST) in place, the control of the indirect tax regime rests with the GST Council. The direct tax structure is now well-set and only marginal changes are made in the annual Budget. The responsibility for monetary policy has been delegated to the RBI. Customs duties and trade policy are constrained by international agreements and the competitive logic of liberalisation. For all of these reasons, the capacity of the Central government to change the short- or medium-term trajectory of the economy is now limited, except when it tries to break free from constraints with unwise measures like demonetisation.

One may say to those who worry about the looming prospects of a coalition government in Delhi: 

If in your newspaper or on TV you sometimes see Reports of confusion in the corridors of Delhi, Relax; even though Raisina rowdies shout from the roof, the economy has become Central government proof.

The delinking of the short-short-term economic performance from the state of our politics does not mean that the government does not matter for long-term development. It does in areas like agriculture and some areas of infrastructure where the market does not, or is not allowed to, operate efficiently. It also matters in areas like health, education, social security, science and technology, where long-term and strategic development objectives would not be served adequately by atomistic markets. The real problem here is that both weak and strong governments have been guilty of sins of omission and commission, substituting sloganeering for effective action.

The bureaucracies and institutions that have to implement policies and programmes in agriculture, health, education, social security and most areas of infrastructure are under the direct control of state governments. Hence, we need stable and well-run administrations at the state level in order to promote long-term development. We also need this to cope with the fragmentation of political capital between national and regional parties.

Deepened decentralisation and related financial devolution are the key to better design and more effective implementation of the governmental effort on long-term development issues. Focusing on the states as the primary actors in these areas will allow a clearer recognition of the diversity of social and economic conditions and people’s priorities in this vast country. Many of our states are quite large and further decentralisation to regions within states and to municipalities and panchayati raj institutions is necessary.

The Central government should stop co-opting fiscal resources and interfering in programme design in the mistaken belief that it knows better. No more targeting without planning in Central schemes with grand goals and snappy acronyms. The Central government, freed from micro-managing development, can focus its attention on what only it can do — defence, foreign policy, national security, macro-economic stability, foreign trade and investment, promoting science and technology, interstate commerce, and interstate infrastructure. This is the true spirit of our constitution.

nitin-desai@hotmail.com