Rail hike: India needs a bitter pill and Modi must not fall prey to ‘rollback’ culture

 

narendra_modiThe Narendra Modi government has come in for a lot of criticism for raising the railway fares. The criticism has been particularly acute in Mumbai, where the prices of suburban railway season tickets have doubled and in some cases even trebled. And this surely can’t mean acche din for the average Mumbaikar who travels by local trains daily and had voted overwhelmingly in the Lok Sabha elections for the BJP-Shiv Sena alliance.
Now there is talk about the government reconsidering the decision to increase railway season ticket prices. “The Railway Minister has assured us that the monthly season ticket decision will be reconsidered and a decision taken within 2-3 days,”
said BJP MP Kirit Somaya after meeting the railway minister Sadanand Gowda today (i.e. June 24, 2014). This might very well turn out to be the case given that assembly elections are scheduled in Maharashtra later this year.
The Modi government will have to take a spate of unpopular decisions over the next few months, if it hopes to do something about the stagnating economic environment. These decisions might include passing on the increase in the price of oil to the end consumers. T
he price of the Indian basket of crude oil stood at $111.86 per barrel on June 20, 2014. It had averaged at $106.72 per barrel between May 29 and June 11, 2014.
The price of oil has gone up rapidly in June 2014 because of a threat of a war in Iraq. India imports nearly four fifth of the oil it consumes. The government will have to allow the oil marketing companies to pass on this increase in price to the end consumers. If it does not do that then it will have to compensate the oil marketing companies for the “extra” under-recoveries they face on the sale of diesel, cooking gas and kerosene. This would lead to an increase in government expenditure and hence, the fiscal deficit. Fiscal deficit is the difference between what a government earns and what it spends. The government is already precariously placed on the fiscal deficit front. The move to allow the oil marketing companies to increase prices is unlikely to go down well with the middle class.
The government will also have to make sure that it does not increase the minimum support price of rice and wheat at the same rate as the Congress led UPA government had done in the past. This had been a major reason in fuelling food inflation. So, if the government is serious about controlling food inflation this is a step that it will have to take. This move is unlikely to go down well with farmers.
Over and above this, the government will have to go aggressive on selling stakes it holds in public sector companies. This will help the government in controlling the fiscal deficit. Any attempts to sell stakes in the companies it owns is unlikely to go down well with the trade unions and given that they are likely to protest.
The broader point is that various steps that the government is likely to take over the next few months, will be fairly unpopular in nature. And given this there will be pressure on it to “rollback” these moves. In fact, as has been in the case of the railway fare hike, the pressure to “rollback” will come not only from the opposition parties, but also from within the BJP. Nevertheless, these steps are required if the economic environment is to brought back into some shape.
Given this, the government can take some inspiration from Paul Volcker. Volcker was the Chairman of the Federal Reserve of the United States, the American central bank, between 1979 and 1987. When Volcker assumed office in August 1979, things were looking bad for the United States on the inflation front. The rate of inflation was at 12 percent.In fact, inflation had steadily been going up over the years. Between 1964 and 1968, inflation had averaged 2.6 percent per year. This had almost doubled to five percent over the next four years, that is, 1969 to 1973. And it had increased to eight percent, between 1973 and 1978. In the first nine months of 1979, it had averaged at 10.75 percent. Such high inflation during a period of peace had not been experienced before. Volcker was not going to sit around doing nothing and came out all guns blazing to kill inflation, which by March 1980 had touched a high of 15 percent. He kept increasing the interest rate till it had touched 20 percent by January 1981. This had an impact on the inflation, and it fell to below 10 percent in May and June 1981.
The prime lending rate or the rate at which banks lend to their best customers, had been greater than 20 percent for most of 1981Increasing interest rates did have a negative impact on economic growth and led to a recession. In 1982, the unemployment rate crossed 10 percent, the highest it had been since 1940 and nearly 12 million Americans lost their jobs. During the course of the same year, nearly 66,000 companies filed for bankruptcy, the highest since the Great Depression. And between 1981 and 1983 the economy lost $570 billion of output.
Of course, all this made Volcker a very unpopular man. As Neil Irwin writes in
The Alchemist—Inside the Secret World of Central Bankers “Automakers were…livid: High interest rates meant that consumers couldn’t afford to buy cars…They [i.e. the automakers] mailed Volcker keys to unsold vehicles. But farmers may have had it worst of all. During the late 1970s, many had taken out loans to buy more land on the assumption that crop prices would keep rising at an extraordinary clip. When food prices fell and interest rates rose, people across Middle America lost their farms. They protested by driving their tractors to Washington and circling the Federal Reserve’s grand marble headquarters.”
The politicians also protested. As Irwin writes ““We’re destroying the American Dream,” said Republican representative George Hansen of Idaho. A building-trades magazine accused Volcker of “premeditated and cold-blooded murder of millions of small businesses.””
But Volcker stayed put and finally managed to bring the inflation monster under control with the bitter pill that he administered. By July 1982, inflation had more than halved from its high of 15 percent in March 1980.The steps taken by Volcker ensured that the inflation fell to 3.2 percent by 1983. After this, the United States saw solid and almost non-stop economic growth till 2000, when the dotcom bubble burst.
Interestingly, Volcker may not have been very popular in the first few years of his tenure, but now he is among the few men in finance who continues to be well respected.
At certain points of time economies need to be administered the bitter pill if they are to be healed back to health again. India is in a similar position currently. Tough economic decisions will have to be made and these decisions will be unpopular. And given that there will be protests. When there are protests the easy way is to “rollback” whatever is being protested against. But that will only postpone the problem.
The Narendra Modi government of course cannot operate totally like Volcker. Volcker was not elected by the people and he did not have to explain what he did directly to the American citizens. He did have a lot of explaining to do to the American Congress though.
But what the Modi government can learn from Volcker is that at times it is important to administer the bitter pill to the economy and not get bogged down by the protests. The important point here is that the Modi government needs to communicate more and more in order to explain its decisions to the people. This can be done through the social media, ministers talking to the media and even putting out detailed press releases. Also, it should not fall prey to the “rollback” culture made so popular by the Congress.

The article originally appeared on www.firstbiz.com on June 25, 2014
(Vivek Kaul is a writer. He can be reached at vivek.kaul@gmail.com)

 

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About vivekkaul
Vivek Kaul is a writer who has worked at senior positions with the Daily News and Analysis(DNA) and The Economic Times, in the past. He is the author of the Easy Money trilogy. Easy Money: The Greatest Ponzi Scheme Ever and How It Is Set to Destroy the Global Financial System , the latest book in the trilogy has just been published. The first two books in the trilogy were published in November 2013 and July 2014 respectively. Both the books were bestsellers on Amazon.com and Amazon.in. Currently he works as an economic commentator and writes regular columns for www.firstpost.com. He is also the India editor of The Daily Reckoning newsletter published by www.equitymaster.com. His writing has appeared across various other publications in India. These include The Times of India, Business Standard,Business Today, Business World, The Hindu, The Hindu Business Line, Indian Management, The Asian Age, Deccan Chronicle, Forbes India, Mutual Fund Insight, The Free Press Journal, Quartz.com, DailyO.in, Business World, Huffington Post and Wealth Insight. In the past he has also been a regular columnist for www.rediff.com. He has lectured at IIM Bangalore, IIM Indore, TA PAI Institute of Management and the Alliance University (Bangalore). He has also taught a course titled Indian Economy to the PGPMX batch of IIM Indore. His areas of interest are the intersection between politics and economics, the international financial crisis, personal finance, marketing and branding, and anything to do with cinema and music. He can be reached at vivek.kaul@gmail.com

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