Weak regulation hurt public policy in 2025; fixing it is 2026's big task

From aviation to finance, regulatory failures marked India's economy in 2025, exposing weak state capacity and the urgent need to redesign how regulators function

What happened in the Indian economy in 2025? A series of problems that surfaced — from civil aviation to public health — were linked to regulation. The Indian state has developed a potent regulatory arm, with interventions all across the economy carried out by “statutory regulatory authorities” (SRAs). But SRAs have inherited the sources of Indian state failure: Too much central planning, too little rule of law, and low state capability. This has turned into a major bottleneck for the possibility of exuberant private investment. What is required is not tinkering with the output of SRAs — one specific state intervention at a time — but changes in how SRAs are designed and how they work.

 

Consider the problems of IndiGo earlier this month. Crew mismanagement and the inability of the dominant carrier to comply with new Flight Duty Time Limitation (FDTL) norms were ultimately rooted in the weakness of the Directorate General of Civil Aviation (DGCA). When the foundations of a state organisation are weak, the response in a crisis is just an organisational rout.

 

In the same sector, only a few months prior, we were jolted by the tragic plane crash in Ahmedabad. That catastrophe, which prompted this column to discuss the structural flaws of the DGCA, highlighted the inadequacy of India’s air safety oversight. Whether it is the ultimate failure of safety or the operational failure of commercial scheduling, the underlying vulnerability is the same: A regulator compromised by its administrative status and lack of autonomy and in-house capacity.

 

Moving beyond aviation, the country was shaken earlier this year by the renewed spectre of cough syrup-related deaths, which once again drew adverse attention to the Central Drugs Standard Control Organisation (CDSCO) and state drug regulators. In finance, we have seen difficulties of non-banking financial companies (NBFCs), governance failures in cooperative banks, and the big gap between the financial sector that growth in India requires, vs the stunted financial sector that has emerged out of the central planning system. The digital world is bedevilled by an array of problems such as data breaches, digital fraud, market power, and quality of service.

 

Through all these is a common thread. India has developed tentacles of a deeply interventionist regulatory state, without commensurate knowledge of how to make regulation work. Small tinkering at the output stage of these organisations will not help. Tens of tinkerers at the output stage are no match for thousands of public servants in SRAs guarding their turf and producing new outputs every day. What is required is foundational change.

 

From the foundations of public economics, regulation is the tool to be rolled out for two kinds of market failure:

 

1. Information Asymmetry: Consumers cannot possibly ascertain the safety of an aircraft’s maintenance, the purity of a medicine, or the solvency of a cooperative bank. They rely entirely on the regulator to ensure minimum standards.

 

2. Negative Externalities: The cost of failure — a plane crash, mass poisoning, or a systemic financial collapse — is borne not just by the direct participants, but by society at large. This calls for ex-ante preventive action by the state.

 

Regulation attempts to modify behaviour, enforce compliance, and impose penalties without fear or favour, to force firms and other economic agents to behave in ways that diminish these two kinds of market failure. To do this, SRAs require five features:

 

1. Empowerment: They must possess the legislative mandate, powers, and resources (financial and human) to write quality regulations, conduct sophisticated supervision, investigation, and enforcement.

 

2. Arm’s-length status: They must operate at arm’s length from the executive government. When a regulator is an administrative office under a ministry (as the DGCA currently is), its budget, personnel, and decision-making authority tend to be inferior.

 

3. Focus on consumer protection: Their primary mandate must be clearly defined in terms of consumer and public welfare outcomes, not industry promotion.

 

4. Accountability: They must be accountable to the legislature for their outcomes, ensuring they act independently but not arbitrarily.

 

5. Checks and balances & rule of law: The primary legislation that creates the SRA must deliver surgically limited power to the SRA, demand high-quality processes, and put the board (dominated by independent directors) in control of the top management, defining objectives and holding the managers accountable.

 

India now has nearly two dozen SRAs at the Union level, spanning finance, energy, telecom, and competition. However, these institutions are spread across a wide spectrum on the characteristics mentioned above. By and large, the full set of these features are missing for most SRAs. Hence, their performance is sub-optimal.  Departments of government are frequently unsatisfied with the capabilities of regulators, and engage in back-seat driving, which creates a spiral of low performance. Most employees of regulators and of departments that house SRAs are mired in practical detail and lack a strategic sense of how performance can be improved. Hence the immediate solution agenda, as seen by such personnel, is generally not a path to progress.

 

Advanced economies have walked this journey. They have achieved state capability in departments of government and in SRAs (which also requires the correct protocols for engagement between the two). So we know that this can be done. But their recipes cannot be readily transplanted into India owing to differences in invisible infrastructure. What is needed is a deeply authentic regulatory reforms community in India, which combines the full theoretical knowledge with the gritty Indian reality. New knowledge and action are required at all levels of the government to learn how to make SRAs work. This will require debate and research, multiple experiments to change how SRAs function, and feedback loops and careful examination of empirical evidence to learn what works.

 

Over the years, we have spread the tentacles of state intervention and hobbled private-sector growth through SRAs. In response, the private sector has become more wary of investing in India. The priority now is to learn to make the Indian regulatory state work.

 

  The author is an honorary senior fellow at the Isaac Centre for Public Policy, and a former civil servants