Pre-1991 thinking

Statist mindset runs through draft capital goods policy

The government has issued a draft of a "national capital goods policy" for India, which has reportedly been piloted by the Department of Heavy Industry at the Centre. As the policy draft itself points out, growth in the sector over the past three years has been only 0.3 per cent annually. An essential problem, as the policy sees it, is one of "low self-reliance": 40-45 per cent of India's demand for capital goods is met by imports, although domestic capacity utilisation across its sub-sectors is only around 60-70 per cent. This is, according to the paper, a consequence of several problems: public procurement policy provides insufficient incentives for domestic capital-goods producers; "limited positive bias is provided for domestic value-addition"; and duties on imports are too low. This is of course besides the familiar complaints about delays in project implementation. As an explanation for poor technological capability in the sector, the policy points not just to poor patenting and skilling infrastructure but also to "inadequate fiscal incentives". Finally, there are understandable worries about an "inverted duty structure", in which import duties on finished products are lower than those on certain inputs into those products.

Given this diagnosis of the problems, it is unsurprising that the policy recommendations in this draft lean heavily towards state intervention. Certainly, few could argue with an overall aim to introduce a stable and uniform goods and services tax competitive with import duties, and parity between import and domestic production taxes. What is unfortunate, however, is that the real answers that are suggested for each sub-sector basically focus on intervention through various government schemes. Tinkering with the duty structure is dangerous; government should move away from discretionary tax rates and a specific exemptions regime. Various fiscal incentives are also considered by the policy to be crucial, such as an increase in the tax incentives on capital incentives by 10 percentage points, and interest subsidies to small and medium-scale enterprises. Similarly, the policy envisages that the government's public procurement of goods should focus on 30-40 per cent domestic value-addition in each sub-sector and a "minimum domestic value addition" should be prescribed for high-technology and high-value imports, along with mandatory "technology transfer".

If these measures do not inspire hope, that is because they are but variations of policies that India has seen for many decades - forget about new thinking, they predate the 1991 reforms in their essentials. The import-substitution mindset they typify is more than just outdated - it never worked in India. The government seems to have ignored the biggest lesson of Indian economic history since 1947. What is left out is as revealing as what is put in: At no point are easier regulations suggested; in fact, further regulatory hurdles on the private sector are proposed, with "stricter laws to regulate import of second-hand equipment", and "creation of regulations to stop usage of spurious spare parts which reduce equipment life". Much additional power has been demanded by bureaucrats - for example, the right to "define specific Indian standards and local certification for foreign players to participate in Indian bids".

The main thrust of this draft policy is backward. It ignores the need for the domestic capital goods industry to become part of global supply chains, which needs easy imports as well as exports. What is needed is clear, simple and competitive taxes, as well as the skilling of the workforce. This is, of course, the province of other government departments. If this is the state of government thinking on such subjects, it could be that the best possible boost to the capital-goods sector would come from the elimination of the department of heavy industry.