Atanu Dey : Life is a Random Draw

A few days ago in this weblog, I wrote about our wonderful reforms and wondered why we don’t ask what it was that made our economy so desperately in need of reforms. The causes are many. As they say, dhoondo ek, milenge hazaar. Yet there must be a core set of causes that essentially constrain the Indian economy. I believe that one of them is what I call the personality cult disorder (PCD).

Tavleen Singh in an Oct 26th Indian Express article titled Midnight Alley to Dawn’s Highway presents me with the perfect introduction to that. Her analysis is, as always, right on the money and worth reading. In that article, she refers to the refreshing change in the economic policies. Then she writes

My grouse against Nehruvian socialism is that this is precisely what it did not do. Instead of building the tools of empowerment it crippled the average Indian by teaching him to believe that all he needed to do was sit back and be a good boy (by voting Congress) and the state would take care of all his needs. This led to an entire generation of Indians growing up to believe that the state had a broom and a magic wand that would provide him with shelter, food and prosperity. In pursuit of this mad dream we continue to spend more than Rs 30,000 crore a year on rural development programmes that have mostly been named after members of the Nehru dynasty. Indira Awas Yojana, Rajiv Gandhi Schools and the Jawahar Rozgar Yojana, to mention only three. It is wrong to use taxpayers money as if it were a family trust but it accurately illustrates the family’s approach to development.

There you have it: an excellent example of PCD. Indians are obsessed with personalities. One manifestation of this is the naming of roads, for instance.

I have been paying close attention to street names since I am new to Mumbai. I observed that with very few exceptions, all roads are named after people. Each road will have stretches named after someone. Each short stretch of a road will have a different worthy named usually etched on a granite slab somewhere or the statue at an intersection. There they get their 15 yards of fame, so to speak. Of course, people simply ignore the idiocy and call the road by a simple name. So “Senapati Bapat Road” is simply “Tulsi Pipe Road”.

Contrast this with, say, the roads in the US. They are occassionally named after some personalities (Lincoln Expressway, Martin Luther King Jr Way, etc) but mostly they are not people centered. They will have their University Avenue, College Street, Telegraph Ave, 42nd Street, Avenue of the Americas, Vine Street, Cedar Lane, … and more recently Disc Drive, Micron Lane, Internet Alley, and so on. The important point is that they are not hung up on personalities.

You may ask, what is so terrible about the naming of roads after people. Nothing on the face of it, but it reveals a deeper dysfunction of the society. It indicates that we raise people on pedestals and value personalities and not institutions. My point is that institutions matter and not people. In India, we neglect institutions and that is partly responsible for the decay of our society.

Institutions matter because they are rule based. They are not dependent on subjective arbitrariness — the whimes and fancies — of personalities. Institutions persist and outlast individuals and therefore have alonger memory. They are also less likely to be hijacked by narrow personal interests and can pursue socially beneficial objectives.

When institutions are hijacked by personalities, they decay. The Indian National Congress was a worthy institution until the Nehru-Gandhi family made it into their personal fiefdom. The tranformation was tragic and it will continue to be a dysfunctional political party as long as it persists in elevating personalities over the institutional character of the party.

One can conjecture that it is the legacy of our feudal social system that is the cause of our dysfunctional emphasis on personalities rather than on institutions. After all, the raja ruled at his pleasure and did not bother with constitutions. The serfs realized that the law was basically whatever the raja said it was. Survival in this sort of a system depended on unquestioning loyalty to a person.

A modern highly complex economic system requires the rule of law, rather than the rule of men (or women). Arbitrary decisions based on personal prejudices cannot in general lead to socially beneficial outcomes. One can imagine an enlightened benevolent dictatorship but they are rare and rarer still is the possibility of a long succession of benevolent dictators. The odd raja may be good personally but his successors are likely to be rapacious murderers.

Sadly, rajas continue to exist in India. They go about in cars with led lights flashing. They consider themselves above the law (just another institution). They hand out or withhold favors depending on whether they personally gain from the deal. The license-permit-quota-subsidy raj is the only institution that these rajas find worthwhile.

It is a curious fact that some of these neo-rajas live in places named after previous plunderers of the land — Aurangzeb Road, Ghaziabad, Victoria this, King George that. How long will it be after the masters have left, that the slaves will declare themselves free?

Yuvaraj Galada alerted me to the October 26th, 2003, edition of Fortune in which Warren Buffet worries that “America’s Growing Trade Deficit Is Selling the Nation Out From Under Us.” Then he suggests a remedy for the problem. The solution he says is to balance imports and exports. It is an interesting article and I would recommend reading it. Buffett does some amateur model-building and I think he gets it right. He does not do any deep analysis, and rightly so. Deep analysis confuses people and the main message may easily be lost. The choice is between clarity and comprehensiveness. It is better to be clear than to be comprehensive, when one is dealing with the unwashed masses (so to speak) who read the popular press.

The problem, he says, is that the US foreign trade is out of whack. Exports are way behind imports. Too much is being imported from China, for instance, and too little is being sold to China. So the Chinese hold IOUs that they will come around asking for payment on and when that happens, the present pleasure of current consumption will be transformed into future pain of non-consumption. He raises the matter of inter-generational equity — that those who enjoyed the pleasure of consuming will be tranferring the pain of repayment to future generations.

So how does one balance trade? Make imports equal exports. So if imports exceed exports, reduce imports and increase exports. Any second grader could have told you so. How does one achieve that? Raise the price of imports and lower the price of exports. Any Chicago economist could have told you that. How do you raise prices? Tax the stuff, as any econ undergrad would say. Lower the price? Subsidize the stuff, as any … Anyway, it is not rocket science so far.

OK, so we need to tax imports and subsidize exports. One way to do it is to change the price of the US dollar so that it is relatively cheap for exports and relatively expensive for imports. In short, have two different exchange rates. How wide should the wedge be between the two rates? Buffet suggests that the market should determine that. By having what he calls “Import Certificates”, or ICs. Let the number of ICs depend on the volume of exports. That is, the supply of ICs is determined by the exports. Then, require that for any one to import stuff, one has to have ICs that equal the volume of the imports. Thus the demand for ICs is determined by the total volume of imports. The market price for ICs then is determined by the demand and supply of ICs.

I leave the rest to his article. I will take the article as read from this point on and build on it.

In his model, the folks at Squanderville enjoy a life of luxury by borrowing from (i.e., running a trade deficit with) the folks at Thriftville (who have a trade surplus.) Since in his model, Squanderville folks merely consume the difference, the future generations of Squandervillians have to pay for the profligacy. But what if the present generation of Squanderville were not so stupid? What if instead of merely gazing at the ceiling they used the spare time (from not having to work for a living) to do research and develop fancy technology? That way, the people of Thriftville would be financing the R&D going on in Squanderville and in the future, the Thriftville people would have to import that technology from Squanderville and pay for that with the IOUs they hold.

The story takes on a different complexion then. Now Squanderville very cleverly leave the manufacturing to Thriftville and run up a trade deficit by importing stuff from Thriftville. Not having to spend time manufacturing, Squanderville people devote more time to creating intellectual property (IP) and later make their living by selling the IP to Thriftville. So what you have is that Thriftville is doing the dirty work and extending credit to Squanderville. Squanderville uses that credit to create IP that creates wealth, that is, they move up the value chain.

It all comes down to the all-important credit-constraint that I keep talking about. The poor are credit-constrained and the rich have lots of credit. The poor, in effect, finance the rich. This is true not only at the level of individuals, but also at the level of nations. Poor nations such as India that run a trade surplus with the US are effectively financing the rich. The rich use that credit to create stuff that they sell at a premium to the poor.

Or as Leonard Cohen notes in his song Everybody Knows

… The poor stay poor, the rich get rich
That’s how it goes
As everybody knows…

So the lesson is this: if you have credit, and you use it wisely, you can continue to live off the fat of the land for a very long time. The question is therefore this: Is the US using the credit it has wisely or not? I think that it is doing so. The US is in the business of creating IP and that is why it is so vehement in its insistence on the protection of IP rights. It becomes the cornerstone of all their trade negotiations.

What should India do in this case? I have a simple and elegant solution
that I will leave for a later date.