ALLEGATIONS about corruption and corporate scandals cost the United Progressive Alliance (UPA) government and Prime Minister Manmohan Singh the economy’s trust and the Lok Sabha elections in 2014. Cronyism, many commentators had hoped, would reduce considerably under Narendra Modi, the first prime minister openly endorsed by businessmen. The endorsement has not become a liability. His government was denounced as a ‘suit-boot-ki-sarkar’ (government for the rich and powerful) in its first term. But his popularity has remained intact. This contrasts with the previous UPA government’s sullied image.
This piece seeks to examine if state-business relations have changed under Prime Minister Modi and the role of bureaucrats in shaping these ties. Is the bureaucrat’s attitude towards business adversarial, collaborative, circumspect or indifferent? That Narendra Modi has a reputation for acting through bureaucrats rather than his Council of Ministers makes these questions all the more interesting.
Bureaucrats as a set are inclined to be focused on preserving turf and securing career-advancing positions and sinecures post retirement. In competition with each other to impress a prime minister at all times, they work to ensure that the goals of their political bosses are accomplished which places limits on the extent to which bureaucrats can exercise their powers and judgement. This piece argues that bureaucrats are neither pro-business, nor anti-business; they are enablers of political agendas. In the bargain, their approach to business is determined by the terms and contours set by their political bosses. This culture remains unchanged under Modi.
The Tata Nano’s short story of fame and failure1 is a copybook case that provides insights into state-business relations in India, and in particular in the state of Gujarat during Narendra Modi’s tenure as Chief Minister there. A decade after its grand debut in 2008, the Tata group announced the end of the small car’s production. Analysts have argued that the Nano failed because its makers did not understand its market.2
It appears that more than frugal engineering prowess, low-cost manufacturing capability or consumer insights, the Nano may have been powered by relationships capital. The production plant in Gujarat received impressive concessions.3 The project is an example of the deals-driven system of doing business in which governments, exercising discretion, sweeten invitations to business investors. Rules-based systems are in contrast governed by laws which makes them predictable and procedure-driven.4 In a deals-based system, ad hoc decisions look good at the time they are taken, but over time they promote lobbying and, consequently, abuse of power and favouritism. Businesses are more likely to take political positions in anticipation of commercial advantage in a such a system. Tata Nano failed because favourable relations with the state do not necessarily guarantee commercial success.
If the Tata Nano’s debut had heralded – prematurely – India’s emerging economic prowess, its demise represents the residual from the pre-1991 system in which consumers did not matter. Ineluctably, such a system favours select big businesses over small entrepreneurs.
Before the 1991 reforms, relationships with ministers and bureaucrats were key to navigating the maze of laws and regulations. Business groups hired agents5 that relied on bureaucrats to work around the complex of rules. A handful of inefficiently run but highly profitable star companies dominated industry consequently.
The 1991 reforms sought to dismantle this system by abolishing licences and controls, replacing import licences with tariffs and opening up the market to foreign competition. They have proved a resounding success on most counts. But in many sectors, it still remains crucial for business to maintain close connections with government. Policies can – and are – changed unpredictably, selectively and with little accountability for the decision-makers. Exceptions are made for select cases. Such as the State Bank of India’s (SBI) bail out of the troubled Yes Bank earlier this year in all likelihood under pressure from New Delhi.6 And the lifeline from LIC and SBI to stressed real estate companies before that.7 The real estate sector tends to receive disproportionate attention from policy-makers. It’s no accident that a large proportion of politicians have open or discreet business links with the sector.
The source of the scams and scandals seen in the UPA II government’s tenure was that growth still depended on use of resources controlled by, or properties of, the state: mining, power generation, telecommunications, private ports and airports. The reason being that in these sectors governments had retained discretionary power and considerable say in who would get access to resources. Although the controversies were not limited exclusively to the central government’s dealings with business, as the allegations of illegal iron ore mining in the Bhartiya Janta Party-ruled state of Karnataka showed.8
The nature of bureaucrat-business ties remains largely unchanged. Bureaucrats remain bound by political imperatives of their bosses and rarely transgress outside the mandates set by them. Even in face of impending crises, they do not exercise discretion to influence their political bosses’ thinking or policy positions.
Economic historians are agreed for example, that the nationalization of banks was driven purely by politics and was devoid of economic logic. The philosophy of running banks, although commercial entities, for political considerations continues to dominate the political economy. The strategist assisting Indira Gandhi when she nationalized banks was in fact a bureaucrat in her Prime Minister’s Office, P.N. Haksar.9
In contrast, although bureaucrats and technocrats tried to alert government in 1990 of a balance of payment crisis in the making, they could not ensure timely corrective steps or set the agenda for change. How resistance from key ministers in government rendered them ineffective is documented in detail in the book Backstage by Montek Singh Ahluwalia, who was an adviser in Prime Minister V. P. Singh’s office.
Industry Minister Ajit Singh and Secretary A.N. Verma were strongly supportive of the policy measures being proposed in view of the balance of payments position that was threatening to flare up (and did at the first trigger a year later).10 However, the V.P. Singh government could only announce a watered-down version of the industrial liberalization. The Ministry of Finance, represented by Finance Secretary Bimal Jalan and Chief Economic Advisor Nitin Desai, in the deliberations preceding the decision expressed grave reservations about the trade liberalization measures the Industry Ministry had proposed, and which, therefore, could not be approved at that stage. ‘I had a strong feeling their position was constrained by the views of [Finance Minister Madhu] Dandavate,’ writes Montek Ahluwalia.
Just about 12 months later, as Principal Secretary to Prime Minister P.V. Narasimha Rao, Verma steered the industrial de-licensing as part of the 1991 reforms. Ahluwalia, a non-IAS domain expert, and Manmohan Singh teamed up in the finance ministry to drive the reforms agenda. Similarly, Vijay Kelkar, in various capacities, including finance secretary and later adviser to the finance minister, played a central role in the reforms initiated by the A.B. Vajpayee government. These officials are among the notable exceptions who could shape economic policy agendas in the tenures of certain prime ministers. But even they could not influence policies of other governments in the same way.
The government in office has in fact failed to take advantage of the advice Modi sought and received from Kelkar on designing an effective and efficient Goods and Services Tax (GST) regime.
The Modi government’s retreat to protectionist policies has opened up avenues for bureaucrats to start reacquiring controls they were divested of in the decades following the 1991 reforms. Such as by the decommissioning of the Controller of Capital Issues11 in 1992 and the Foreign Investment Promotion Board12 as late as in 2017.
The resurgent controlling tendencies can be seen in the emergence of the category of ‘non-essential’ imports on which tariffs are randomly hiked to confer protection on local manufacturers with competitive disadvantage vis-a-via imports and – clearly – comparative advantage in lobbying the ruling party.13
The lockdowns for curbing coronavirus spread have seen a proliferation of controls. By the end of the first eight weeks of the shutdowns, a handful of bureaucrats in New Delhi had issued well over 4,000 different rules many of which were changed and cancelled within hours of the orders being issued.14
Just five years ago, the bureaucratic tendency for self-preservation had contributed to what has come to be called ‘policy paralysis’ in which decision-making had come to a standstill in government. During the economic boom from 2004 to 2008, when government connections were needed to jump queues for allocation of natural resources to ensure quick business growth, the politician-business acquired a much grander scale ultimately resulting in an increase in scandals, controversies and investigations during the tenure of the UPA II government. Bureaucrats in key decision-making positions feared that in the atmosphere of scandals and scams that prevailed there was no guarantee that even scrupulous approvals would invite investigations and allegations, resulting in soiled reputations. Self-preservation bred a collective reluctance to clear files, creating a policy logjam, the fallout of the chill within government reverberating across the economy already reeling under the impact of a global downturn.
As projects got halted, corporate losses shot up resulting in inability to service loans many of which had been extended overenthusiastically without adequate due diligence. A related bank bad loans crisis followed.15
This hurt business by impairing the flow of credit and because the Reserve Bank of India’s (RBI) response in the terms of two governors, Raghuram Rajan and Urjit Patel, upset the status quo of high levels of tolerance for corporate defaults.
The tensions in the business-state ties seen in the UPA government’s tenure have not reduced in the tenure of the Modi government. If access to natural resources was at the core of those scandals, availability of bank finance on terms favouring big corporates is central to the state-business tensions in the Modi government’s tenure. The RBI-government tensions in the Rajan-Patel years reflect the increased stress in the business-state relations due to the tightening of the rules governing corporate loan defaults.
The system was sought to be corrected and cleaned up under the framework of the Insolvency and Bankruptcy Code (IBC) made and passed by the Modi government regime. The key bureaucrats who had drafted it on the basis of an expert committee’s recommendations16 were eased out of North Block hastily. The new regime had barely begun to show results, and the affected business groups had just about got a taste of what was to be expected going ahead.
For structural reasons, one of which is the favourable bias in the tax treatment of debt as against equity investments, corporate profitability in India depends on easy bank loans.17 This reliance is not too different from that on telecom spectrum or coal and mineral allocations that had triggered scams related controversies in the UPA government’s term.
The stress that got built on corporate balance sheets during the policy paralysis phase that coincided with the global economic downturn increased this dependence. Companies required loans from banks to keep afloat. The construction and real estate sectors, which have intricate and obscure links to politics and campaign finance for elections, are far more dependent on banking finance than manufacturing companies, Goswami’s analysis quoted above shows. Financial stress in the real estate sector directly affects politicians’ liquidity positions.
The banker-promoters nexus has thrived for decades because it suits politicians well. The norm among bankers was to hide loans on bank books long after they became unserviceable by extending new loans – often under oral instructions from New Delhi issued by ministers and bureaucrats.18
Raghuram Rajan set up in the RBI a monitoring cell to coordinate the early reporting of fraud cases to investigative agencies.19 In 2015, he sent a list of high-profile fraud cases to Modi’s PMO, urging action to bring at least one or two to book so that a tough signal could be sent out. Progress on the list has not been heard of so far. The initiative to crack down on fraudsters, it appears, went cold on reaching the PMO.
The IBC became an even more urgent source of stress for government’s relations with business when, under Urjit Patel, the RBI removed all discretion banks had to go easy on powerful business houses and defaulters, which aggrieved big business houses.20 The new rules ensured the IBC’s resolution mechanism would begin automatically if a borrower failed to pay even at the end of the 180 days of first default.21
The fear of IBC made companies more serious about repaying loans. Promoters started avoiding defaults and coming settlement with banks on their loans. Banks’ negotiating positions strengthened and the recovery from bad assets doubled in 2018 over 2017. The leeway available with banks was sought to be replaced with a rules-based system that left banks with no option but to recognize a single day’s delay in servicing a loan as a default. Once marked as default, the business was virtually up for sale. The challenge to the status quo from this regulation (before it was struck down by the Supreme Court in late 2019) made corporate promoters resent the RBI and its governor. Indian industrialists are not used to being penalized for unpaid loans, and the RBI was bent on doing exactly that.
This resentment leaked from the business to the political circles, forcing a change of heart in New Delhi about the IBC and the RBI’s approach. On cue, Finance Ministry mandarins started feeding the rift.22 In the end, not only did the two governors and a deputy governor leave the central bank, the operational modalities of the IBC were diluted, partly also pursuant to orders from courts.
Resolution has slowed down after that – probably to the relief of the affected business interests. The Modi government has backtracked on its own reform to abandon the new rules-led system and regress back to the ad hoc approach in the bank loans sector in face of corporate resistance to the IBC. Business interests seem to have prevailed where it mattered to them the most, acting through politicians, rather than bureaucrats.
Although, they do not prevail always. They failed to veto the populist amendments to the norms for land acquisition. The UPA government’s amendments in 2013 to the land acquisition legislation cleared Parliament in the absence of any opposition from political parties, including the BJP, despite the overall narrative of a policy paralysis. Business interests lost out to landowners again when the Modi government tried but failed to dilute those amendments in 2015. Whether the IBC regime’s dilution or the land acquisition law’s tightening, bureaucrats stuck with the politicians.
In conclusion, bureaucrats are still largely guided by the whims of their political bosses. In the last decade and a half, they have ensured handsome pay and pension hikes, and perks, for government employees. They have succeeded in preserving and even expanding turf by stalling privatization. The proliferation of regulatory bodies, which are essentially parallel bureaucracies, has opened up new opportunities and positions for them.
Individual bureaucrats can at times make a difference. A trusted lieutenant can apprise the prime minister in a manner they would be able to absorb the full import of the likely cost of persisting with the status quo and, therefore, the urgency of policy reform needed. They can be a bulwark against destructive ideas the prime minister is personally invested in and be the government insider to whom once the political boss gives broad goals, he or she thrashes out the policy nitty-gritty and works the system to ensure delivery. In the Indian system, this is not a routine occurrence. Who is Prime Minister Modi’s P.N. Haksar, A.N. Verma, Montek Singh Ahluwalia or Vijay Kelkar?23 No bureaucrat has been able to play the role in the Modi government of influencing policy and the state-business relationship as A.N. Verma had in the Rao-led government or Vijay Kelkar in the A.B. Vajpayee government.
* Puja Mehra is the author of The Lost Decade (2008-18):How India’s Growth Story Devolved into Growth Without a Story. Penguin, 2019.
3. See for details of concessions: https://www.business-standard.com/article/politics/modi-wasn-t-always-india-inc-s-narendra bhai-113092001155_1.html
4. See for deals versus rules-based systems http://larrysummers.com/2016/12/02/trumps-carrier-deal-ad-hoc-deal-capitalism/
5. ‘Introduction’ by Christophe Jaffrelot, Atul Kohli and Kanta Murali in Business and Politics in India. OUP, New York, 2019.
6. https://www.thehindu.com/opinion/op-ed/the-public-unravelling-of-yes-bank/article 31033853.ece
8. See for details of the allegations https://www.downtoearth.org.in/news/supreme-court-allows-reopening-of-90-more-mines-in-karnataka-subject-to-conditions-40862
10. Montek S. Ahluwalia, Backstage. Rupa, Delhi, p. 112.
12. https://www.livemint.com/Politics/Cs8 tkz7CqpiTGx4qnoDBQP/FIPB-abolished-What-happens-to-foreign-investors-now.html
13. Often with absurd results such as the import duty hike in 2018 on washing machines categorized as ‘less than 10 Kgs’. Does government by implication consider import of washing machines ‘10 Kgs and more’ essential?
15. Non-performing assets reported by banks started rising in the Indian banking sector since October 2015 when the results of an Asset Quality Review (AQR) initiated by the RBI were made available.
17. https://economictimes.indiatimes.com/news/economy/policy/view-nda-government-could-reform-indias-regressive-taxation- philosophy/articleshow/70832672.cms
18. Prime Minister Narendra Modi called this ‘Phone Banking’; For more on this see The Lost Decade by Puja Mehra.
19. https://faculty.chicagobooth.edu/raghu ram.rajan/research/papers/Parliamentary% 20note.pdf