This program studies the role of the Indian state in factor markets, land markets, land reform, and capital and financial markets.

Ideas and Institutions
Political Economy Program
Ideas and Institutions
March 01, 2022
Welcome to this inaugural issue of Ideas and Institutions – a fortnightly newsletter from Carnegie India’s political economy team.

The newsletter will present analysis of contemporary developments in India’s political economy, and review of writings relevant to India’s development path. We will seek to analyze and inform the institutional and policy choices that India is making in its development journey. We will also reflect on how India’s political economy shapes these choices and the effects that these choices have on the political economy order.

    Analysis
Four questions about corruption and development in India

About a decade ago, corruption became by far the most prominent issue in India’s political economy. That anticorruption uproar can be linked, through complex pathways, to many consequences - from changes in the party system (for example, the emergence of a prominent political party – the Aam Aadmi Party, and the decline of a major party - the Indian National Congress), to consequential decisions affecting the economy (for example, 2016’s demonetization of high-value currency notes).

One of these consequences is the significant rise in cases under the Prevention of Corruption Act (PCA), 1988—the primary law against corruption by public servants in India. The number of cases under this law increased sharply in the 2010s. One legal database reports that between 1990 and 1999, there were 800 cases under this law, 2096 in the next decade, and 6,978 between 2010-2019. So the number of cases per year went from around eighty in the 1990s to 210 in the 2000s to 700 in the 2010s.

Interpretation of this remarkable rise in cases is fraught with difficulties. This increase could be because the government has become more aggressive in prosecuting corruption. It could also be because it has become easier to identify and report corruption (perhaps due to the Right to Information Act in 2005 and then the Whistleblowers Protection Act in 2014), or because the actual incidence of corruption has increased.

The PCA law states the legal norms, but the specific decisions that governments take to prosecute or to forbear, reveal the law’s real truth. The PCA law states that no court can initiate criminal proceedings under it without prior government approval. The government has some discretion in the application of this law.

This essay seeks to raise certain questions regarding anti-corruption efforts and economic growth in India’s context.

What is corruption? Corruption by public officials means pursuing their own interests while violating the rules that are supposed to govern their decisions. Sometimes this involves benefiting one’s family and friends, but the more common form of corruption involves people who are not relatives or friends. This kind of corruption is, as Robert Klitgaard writes, “where a market enters where society says it shouldn’t.” Corruption turns certain decisions into illicit transactions, which, as per societal rules, ought to be taken on the basis of some other criteria.

Corruption mostly relates to two types of state power - allocating benefits and imposing obligations. Corruption can lead to a misappropriation of benefits or an allocation to beneficiaries not selected based on the rules. In the case of obligations, (for example, taxes or regulations), corruption may lead to their misapplication. This can take the shape of forbearance in their application, wrongful application at the behest of competitors, and so on.

While most corruption is growth-damaging, in a recent book on China, Yuen Yuen Ang argues that what she calls “access money” (elite public servants giving special deals and lucrative rights to businesses in exchange for bribes) can stimulate growth, albeit with distortions, systemic risks, and inequality. She argues that another form of corruption - “speed money” (frontline functionaries taking bribes in exchange for quicker approvals) - has more ambiguous effects because it solves a problem but at a cost to businesses. Corruption that only involves theft, without solving any problem in return, is uniformly growth-damaging.

While all corruption involves deviations from the rules, all deviations from rules may not be corrupt. A public servant may make deals with developmental motives, without taking something in return. Sometimes, deals involving special benefits and/or pragmatic imposition of obligations are required to attract investments and promote business activities.

The systemic context creates incentives for such deals. In India, there are vast inconsistencies between the economic performance that the society seems to demand and the legal and administrative systems governing business activities. While governments are expected to deliver economic growth, business-related laws in India - many of them remnants of India’s socialist past - include many unreasonable obligations for investors and firms. They include thousands of imprisonment clauses, even for something like delayed filing of a compliance report. Some impose obligations that impede working of important markets. For instance, the law on interstate migration of labor makes hiring laborers from other states much more expensive than hiring locally. Inter-state flow of factors of production - labour, capital, entrepreneurs-has helped India’s growth. Such laws coupled with relatively weak state capacity create a situation wherein deals serve as adaptive responses to promote growth.

There is evidence to suggest that, at least in some sectors, deals rather than rules drive state-capital relations in India (as they do in most developing countries). But until recently, the PCA law did not make much distinction between corrupt deals and developmental deals. It had a provision [Section 13(1)(d)(iii)] that made it criminal for a public servant to “obtain for any person any valuable thing or pecuniary advantage without any public interest”, even if the public servant did not receive or expect any benefit in return. This criminalized developmental deals (subject to the vague “public interest” test). While this provision was rarely applied, there was an increase in its application in the 2010s—about 70 percent of all cases referring to this section are from 2010 onwards.

After much protest from civil servants, an amendment in 2018 repealed this provision, but not before public servants went to jail in certain high-profile cases even when they were not accused of earning wrongful gains. This may have made others revise their assumptions about the protection they would have while making decisions. Things get complicated because some deals do not yield their intended results, leading to accusations that they were not developmental. An example of this was the coal block allocation case.

Deals can vary in the extent to which they incorporate the public concerns (for example, safety, health, environmental protection, workers’ rights) implied in the rules. Deals with developmental objectives may seek to address some of the major public concerns. Some indirect evidence from about a decade ago suggests that, in comparison to most developing countries, deals given to businesses in India may have involved a more pragmatic balance between imposition of legal obligations and enabling business activity, rather than a complete neglect of legal obligations.

Coming back to anti-corruption efforts, India has embarked upon a multi-pronged strategy to detect corruption - from the right to information law, to the whistleblowers protection law, to the Lokpal law, to widespread deployment of digital technologies - and to punish the perpetrators - by increasing prosecution under the anti-corruption law. India has also tried unusual methods such as the cancellation of currency notes to both detect and to punish corruption.

It is, however, more important to address the systemic reasons that partly incentivize deviations from the rules: building administrative capacity, limiting the powers of the state by reforming the laws, and more. It is not that India can suddenly become a rules-based political economy, but it can move in that direction. Since 2015, the present government has undertaken a massive exercise of repealing old laws to improve ease of doing business. However, most of these repealed laws were amendment laws. Since an amendment stands even after the amendment law is repealed, this exercise has had little effectual consequence.

It is also important that anti-corruption efforts do not weaken the incentives of civil servants, who tend to be risk-averse, to find creative solutions to developmental problems. If such efforts are not well-targeted, the incentive to craft growth strategies involving developmental deals may get weakened. Incentives of India’s permanent civil service are crucial in shaping the country’s development. While the civil servants work under political leaders in government, the latter heavily rely on the former to consider alternative courses of action, choose a particular course, and get things done. Even though the anti-corruption law has been amended to decriminalise developmental deals, it is questionable whether enough has been done to restore confidence. It is worth highlighting that due to judicial delays, the journey from accusation to acquittal is usually quite long in India.

In all this, the key is how political judgement takes into account the facts about India’s state and economy. While the judgement of governments at state level matters a great deal, the onus for leading with sound judgement lies primarily with the union government, because it has significant powers for economic regulation, resource allocation, and enforcement against economic offences and corruption. Further, with the rise of a dominant party at national level, this onus has shifted even more. Deals are decisions to make exceptions, and with political centralization, the power to make exceptions also tends to get centralized.

In the last one decade, India’s political economy, especially the order of state-capital relations, has undergone major changes. The anti-corruption mobilization a decade ago seems to have triggered some of the changes. The consequences of this need to be examined properly. Considering all this, here are four questions for you, dear reader:

  1. Have the deals in India’s political economy been mainly corrupt, developmental, or both?
  2. Are the PCA cases targeting mainly growth-enhancing or growth-damaging decisions?
  3. How has the incentive of civil servants to create developmental deals changed in the last one decade?
  4. Have the anti-corruption efforts centralized the dealmaking powers in India’s political economy, thereby privileging a few firms, especially in sectors where dealmaking is important?


—By Suyash Rai
    Review
Did inequality in India increase during Covid-19?

The COVID-19 pandemic and the Indian government’s response to it caused a steep decline in incomes and an increase in poverty (Deaton 2021, Ferreira 2021). It is, however, unclear whether these changes increased income inequality in India.

Studies in European countries indicate that while the pandemic increased inequality, government benefits reduced these effects. One study, looking at European countries (Clark et al. 2021), finds that inequality increased in the first wave (from January to May 2020). However, inequality had reduced significantly by September 2020. The authors theorize that this decrease was likely due to government support. Another paper, focused on the UK (Blundell et.al., 2022), finds that inequality generally declined and that the pandemic’s “effects on incomes were either neutral or progressive,” probably due to measures adopted by the government. Other studies (including one on Sweden here) also show that government programs played an important role in reducing the unequal effects of the pandemic.

There have been few such studies on India. A study by Oxfam highlighted existing disparities in India, but did not in fact measure the incidence of inequality (see methodology note). Deaton (2021) notes that India was one of the worst victims of COVID-19 in terms of mortality and income declines. One would therefore expect that India would also experience increased inequality due to COVID-19.

However, a paper by Arpit Gupta, Anup Malani, and Bartosz Woda—titled "Inequality in India Declined During COVID" asserts, as the title suggests, the opposite. The authors use the Consumer Pyramid Household Survey to understand the effects of COVID-19 on income inequality in the period February 2020 to July 2021. The paper finds that individuals in higher income brackets between 2015–19 saw a larger reduction in incomes during the pandemic. In addition, “The rich experienced larger declines in wages and, after India’s lockdown, lower employment rates.” The paper states that this pattern was common to both rural and urban areas, and it was accompanied by a similar decline in consumption expenditure.

The paper explains this reduction in income inequality by arguing that two things happened: first, the incomes of the rich are more sensitive to business income, and so they suffered more during the pandemic-induced economic downturn; second, wages for the top quartile fell further and recovered less than the lower quartiles. It points to the fact that “a larger fraction of top-quartile income is from the service sector . . . and that sector experienced the largest drop in consumer expenditure during the pandemic.”

While this paper seems to diverge from trends observed in other countries, it is consistent with the previous work by the authors (Gupta et. al. 2021). That research also highlighted the fact that individuals in higher income brackets saw the weakest recoveries in incomes. Neither of their studies, however, answer whether government support played a role in boosting incomes at the lower end of the income scale.

Their findings do fit with historical accounts of the equalizing effects of pandemics. In The Great Leveler, Walter Scheidel shows that pandemics like the Black Plague had significant equalizing effects since they made labor more expensive compared to land. He makes two points relevant to the effects of COVID-19: first, income gains leveled off within a few decades once population growth made labor cheap again. Second, institutional arrangements often had the opposite consequences in the shape of reinforcing inequalities. Central and Eastern Europe for example, did not see the same changes that Western Europe did. Scheidel points out that serfdom was introduced after the Black Death in Hungary. What happens to inequality therefore depends not only on the direct effects of the pandemic, but also on the responses designed by societies and governments.

Further research studying the income effects of COVID-19 in India should not only continue the line of study conducted by Gupta et. al., but also try to understand the role of government policies in increasing or decreasing inequality during and after the pandemic.



—By Anirudh Burman
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This program studies the role of the Indian state in factor markets, land markets, land reform, and capital and financial markets.

 
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