Bringing markets back into the conversation

Photographs of quixotic, colorful, bustling markets, cheek by jowl crowds of buyers and shops, a profusion of color and a staggering variety of goods are standard fare in tourism advertisements for India. 

Sadly, however, when it comes to the market for public services, the offerings are bland. More generally India exhibits deep anxieties about letting suppliers have their head in catering to demand beyond digitizing consumer services. 

Infantised agriculture

Consider that Indian agriculture is the biggest, privately owned activity comprising 15% of the GDP. But it remains infantized because of the food shortages half a century ago! State regulation is heavy handed – high minimum sale prices benefiting 20% of large, surplus producing farmers and low, maximum retail prices for the bottom 40% of households. The state funds the mismatch.

Subsidies for inputs and artificial restraints on competition via land ownership limits, use restrictions and licensing of Agri-products trade have resulted in low productivity and a depressing uniformity in the cropping profile. Meanwhile customer taste and demand are diversifying fast away from cereals to vegetables and fruit and the elite (admittedly a tiny fraction) now preferring farm to fork, organic products despite hefty premia.

There are four utilities which touch everyone’s lives – water, electricity, oil and gas and telecom- which together account for around 5% of GDP. 

Degraded water resources

The supply of water for irrigation or domestic use is predominantly public sector managed. Pervasive government control subverts social responsibility with customers becoming “beneficiaries” of State largesse. The subsequent erosion of social responsibility serves to compound market pessimism. Take ground water usage where poor regulatory oversight and near free electricity, encourage farmers to compete to degrade water resources.

Bankrupt electricity distribution utilities

Electricity supply has an annual business income of around Rs 7 trillion. The “reforms” of 1998/2003 corporatized government authorities (state electricity boards) and unbundled them into generators, transmission, and distribution entities subject to autonomous regulation. 

Political economy constrains ruled out widescale privatization. But private generation assets were encouraged. Presently, 47% of the generation capacity is privately owned; transmission is mostly publicly owned and only 5 out of 6000 cities have a record of private distribution services. 

Attempts to enlarge private participation have included private licensees (franchisees) embedded within licensed public distributors. This targeted approach (CSE Mini Grids in UP ) is practical because much of the distribution business remains unviable without government support. 

Theft of electricity, poor bill collection and high technical loss due to under investment in distribution systems sap viability. Also skewed retail tariffs favor farmers and small residential consumers with part of the unmet costs being cross subsidized by higher tariffs for larger residential, industry and commercial users.

Green shoots of electricity reform

Government now proposes significant reform (Electricity Act amendments May 2020). Change in regulatory practice will force regulators to reflect the normative cost of supply in tariffs which the distribution utility would collect from users. Government can choose which consumers to subsidize by allocating funds directly to them. For reduction in cross subsidies the regulator will need to defer to a minimum plan specified by a National Tariff Policy.

The amendment also seeks to formalizing the sub- distribution licensees currently embedded within the larger licensees. How exactly this will happen remains fuzzy (PRAYAS Energy Group comments). The objective is to enable fuller participation by the private sector, consumer co-operatives or farmer organizations.

Government also proposes to change the mechanism for selection of regulators to better insulate them from local, populist pressures and to introduce a new, fast track quasi-judicial process for ensuring that electricity buy/sell contracts are honored. 

The intentions are noble. But the efficacy of the instruments proposed will depend on a pan-India appetite for populist restraint and willingness to uproot embedded inefficiencies. Enlarging the scope of competition in supply is one way of safeguarding consumer interest, including by enlarging the volume of electricity  traded transparently through the power exchange beyond the existing 4% out of the total of 12% short term trade (the rest being via bilateral exchange or through traders). 

Oil and gas – throttled by State control

The oil and gas sector are dominated by public sector entities with a share of 71% in oil production; 60% in oil refining; 83% in gas production and 75% in gas transportation and marketing. India is not alone here. The general trend, other than in the Anglophone economies (US, UK, and Australia) is for state oil companies to dominate the hydrocarbon space. 

Taking a leaf from the reforms in electricity, India is rapidly moving away from bundled, all-purpose utilities like GAIL (gas transport and marketing) to unbundled entities for production, transport, system operation and marketing of gas, under regulatory oversight, to garner the benefits of efficiency from competition in the market, as held out by the Anglo-Saxon model. 

Aligned with these objectives, the India Energy Exchange launched the trading of gas futures this week – even though the regulatory arrangements for such trading remain unclear beyond government having the power to regulate by fiat – clearly a brave but risky move  by this privately owned exchange, which has cleared increasing volumes of electricity trades since 2009 .

The exceptions to the utility rule of a stately pace of reforms are telecom and aviation, where the industry is now dominated by private players. Air India hangs in there absorbing Rs 30 billion of public funds annually. Covid-19 downturn has given it a reprieve by it becoming the Vande Bharat (rescue flights) icon. 

Telecom – abundance of animal spirits

Telcom regulations are light handed and markets determine price. Truth be told, in telecom, the pendulum has swung so far towards markets that consumer interest has suffered. The irony is that despite private sector competition the industry is trapped in a low-level equilibrium characterized by the poor quality of connectivity, cheap services and a variety of products and payment plans on offer. 

Bringing markets to public services has become difficult more recently. The high growth period 1980 to 2008 was when market led growth surged with the State in retreat everywhere, except in China. But markets have been losing their sheen globally – initially buffeted by the winds of growing inequality in the distribution of incremental income and wealth. 

The spread of “global terrorism” since the noughties and in quick succession the 2008 global financial crisis cemented State intervention and border controls as default options. Covid-19 seems to have conclusively put the “open economy and markets” genie back in the bottle and tossed it into the ocean. 

India – too far from the open economy frontier to need to pull back

The good news is that India, unlike the high growth economies, has never been “open enough” for it to have to rethink its strategy now. Merely continuing the liberalizing path, we started in 1992 and followed till 2017 would be sufficient.  

A pre-condition for coming out of the extended Covid-19 related downturn is to implement long pending structural reforms in utilities and in agriculture – free up public resources trapped in these areas for reallocation to health; social protection and direct income enhancement of the bottom 40% of Indian households over the next two years till the economy stabilizes.

It is only then that we would have earned the moniker of “The Wonder That is India” -with due apologies to the late Arthur Llewellyn Basham. 

Also available at TOI Blogs June 16, 2020 https://timesofindia.indiatimes.com/blogs/opinion-india/bringing-markets-back-into-the-conversation/

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