How to Revive Auto and Telecom Sectors

Illustrative action in key economic areas. 

Shyam Ponappa    |    October 1, 2020

The government can take some immediate steps to assist economic recovery. This involves: (a) Policies for citizens to benefit from public resources (land, minerals, spectrum, water), not exploiting them for any government, person, or special interest (b) Systematic, end-to-end design and execution to completion (c) Cooperation and participation in organisation. The examples below are for automotive manufacturing and communications.

The Automotive Sector

The drop in automotive sales from over two years ago indicates considerable loss of momentum. Figures for vehicle registrations from FY2018 demonstrate this. (See table).

The Covid lockdowns constrained sales even further. Vehicle registrations in August 2020 were 1,188,087, a reduction of 27 per cent from August 2019 (1,623,218). Meanwhile, Harley-Davidson announced the closure of its plant in India, and Toyota expressed concerns about high taxes. A year ago, Ford moved most of its manufacturing into a joint venture with Mahindra. Even in a business-as-usual cycle, because of this sector’s contribution to manufacturing and across sectors, there are legitimate expectations of government support. This is to mitigate negative effects cascading through the economy, the aim being to prevent job losses and reduced employment prospects.

The loss or shift of focus from India to other manufacturing locations warrants urgent action. Tax cuts after shedding ideas such as treating small cars as luxury goods are necessary, but not sufficient. Reducing goods and services tax (GST) from 28 per cent to 12 or 5 per cent is just one step. The revenue deficits can be monetised by printing currency, to be extinguished over time through increased tax collections from higher sales. A vehicle scrappage policy at this time may not be opportune, as it may be ineffective, and can cause undue hardship.

Freeing Our (Manufacturing) Potential

Other measures can be taken besides tax cuts. Because there are so many, the emphasis here is on elements of industrial policy. It does not, however, minimise the most critical issue of social policy, which has been undermined as much as in 1975 during the Emergency, and desperately needs amends.

Reliable infrastructure is one requirement to drive manufacturing productivity and broader economic potential. Manufacturing and service enclaves must be made to work, with stable infrastructure and social conditions. This is essential for local companies to thrive, as well as to attract international investment, and to generate spillover effects.

Past experience suggests we should focus on fewer, well-conceived undertakings in the near term, while building for the longer term, like how telecommunications grew from 2004-2011, the national highways development projects from the late 1990s, and the earlier success of the Anand Cooperative.

Model SEZs

Take, for example, the over 200 special economic zones. Is it not in our interest to make a real success of two or three pilots as intermediate objectives, achieving a few that work, instead of many that do not, and then seek replication?¹ After unbiased selection of locations (the most difficult part), governments (Central, state and local), enterprises, and citizens have to be persuaded to get them to work right, to have them built up and serviced with stable infrastructure and governance, including competitive tax policies, not getting sidetracked by real estate speculation or assuaging political constituencies. Only then would it make sense to replicate them based on the experience and results.

While state and local regulations and practices affect these, the overarching laws and policies necessarily emanate from the Central government. Also, multiple government agencies are involved in any significant infrastructure policy, as with telecommunications, which requires national policies on spectrum allocation and assignment, rights of way and other regulations, standardisation, dispute resolution and penalties.

Additionally, the laws have to be made to work. The widely held fiction that making a statement is tantamount to achieving all that is stated simply has to be given up.

Taxes on Public Resources

The real issues here are stable policies, taxes, and contracts, resulting in investments that succeed. The recent arbitration award for Vodafone against the government’s claim of taxes with interest of over Rs 20,000 crore is, one hopes, an end to proceedings conceived by the United Progressive Alliance and pursued by the National Democratic Alliance. Allowing for retrospective changes means that any agreement can be changed. It is in our interest to accept this award as a lesson in upholding contracts, avoiding retrospective changes, and reviewing and modifying laws prospectively.

An equally unreasonable litigation pursued by successive governments since 2005 is the adjusted gross revenue (AGR) case for the government’s revenue share from telecom operators. The Supreme Court’s 2019 ruling upholding the previously overruled government claim is very damaging for overall economic prospects. Parliament needs to frame legislation that defines AGR as the TDSAT ruled in 2015. The government could then apprise the Supreme Court of the change in policy, and renounce its claims. Together with accepting the arbitration award, this will not only change the prospects for telecom and broadband, but for investments and prospects across the board, although the rest remains to be done to show that it pays to invest in India, by investments being profitable. Perhaps the government will consider acting on these steps.

Measures such as regulations for spectrum bands of 60GHz, 70-80GHz, and 6GHz, are easier to address for immediate results. The government can formulate the regulations as was done for 5GHz, using the US FCC model with some modifications. Then, there are the policies only the Central government can initiate, on issues such as consortiums for shared infrastructure and manufacturing, that need to be given shape and form to make them realities.

Above all, we need the powers-that-be to give up their durbar-style of operation, and start applying the principles of cooperative action and shared infrastructure with all stakeholders, to improve collective outcomes.²

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Shyam Ponappa at gmail dot com

1. SEZs failures: (a) Reuben Abraham: India needs to copy China's Special Economic Zones better 

(b) Meir Alkon, Princeton: Do SEZs Induce Developmental Spillovers? Evidence from India's States

2. Elinor Ostrom: Governing the Commons, Cambridge University Press, 1990. 

NPAs & Structural Issues

To fix one you need to fix the others.

Shyam Ponappa 

  | October 5, 2017

An aspect of financial services often overlooked is that they serve as second-order infrastructure, essential for commerce, industry, and daily living. A disruption in the financial sector slows everything by cutting productivity. Other reasons for decline, such as structural issues in power supply, telecom/broadband, and in farming, are accepted as part of the landscape. That is why devising corrective measures is not so simple. Setting aside political considerations, misattribution does not help in problem-solving. Resolution needs root causes to be identified and addressed. 

Consider the example of the guillotine approach to non-performing assets (NPAs). Imagine if an inspection of water and sanitation in your locality were to result in the shutting off of the water supply because conditions are deemed unsanitary. There would be a scramble for sourcing water, while economic activity and productivity would tank. What if it were a metropolis, or the whole country?

This is what happened with the abrupt change in booking NPAs. From around 2.5 per cent between 2006 until 2011, they began to rise in 2012 (see Chart 1). 

Chart 1: NPAs as a Percentage of Gross Advances

Source: RBI - dbie.rbi.org.in

Public sector banks in particular responded to the government’s accommodative efforts after the 2008 crisis. As growth fell, NPAs rose, especially for long-gestation, regulation-dependent infrastructure loans. In 2015, the Reserve Bank of India (RBI) adopted a hard line as the economy was gaining momentum after slumping in 2014 to 6 per cent. Earlier, the RBI was faulted for allowing the ever-greening of loans. An abrupt change without a gradual coming to terms to manage cash flows resulted in a crisis.

Leaving aside malpractice/fraud, NPAs resulted from factors such as aggressive, unsustainable lending, regulatory delays, the domestic and global slowdown, and commodity price shocks, as when export duties were imposed in Australia and Indonesia on coal. Cash flows drive demand, and a weak economy can make or break a business. 

Apart from crippling banking and financial services, the consequences of the NPA shock were enormous, especially for sectors such as iron and steel, construction, power, telecom, transport, and agriculture, with knock-on effects on MSMEs across sectors. Could a phased, more gradual, differentiated approach have yielded better results? Probably, just as when water supply fails, interim arrangements involving pipes, equipment and tankers have to be made to tide over the crisis.  For stressed loans, the requirements were for a differentiated approach to the category of wrongdoing, including overreach, and support for stressed sectors undergoing a downturn.   The need was and is to prevent disruption in cash flows from a systemic perspective, conserving employment and assets in untainted enterprises with the potential for recovery.  This also retains momentum and market sentiment to the extent possible.

Ways Out?

1. NPAs in the mid-90s were outrageously high. Yet, what followed especially after 2003 was high growth until the global financial crisis of 2008. The NPAs were reduced and ceased to be a problem (see Chart 1). One explanation is that banks did significant NPA provisioning from profits in bond trading, as interest rates on 10-year government bonds fell 8.1 per cent from 1997 to 2003. A booming economy from 2003 did the rest, although there were no changes in the underlying causes that led to the NPAs. Hence, bond trading could be a way out provided interest rates fall, and so could economic growth. 

2. Regarding interest rates, the dilemma is of high rates for domestic savings because people save with banks in India, and for foreign investors in bonds, against low rates for consumer demand and for capital investment. Given our acute need for growth and misaligned real interest rates, this needs rectification (see Chart 2). 

Chart 2: Real Interest Rates-India, China, Indonesia, Thailand , South Korea – August 2017

Source: https://www.bloomberg.com/news/articles/2017-08-02/india-s-real-interest-rates-compared-with-other-asia-economies

3. There’s a need to insulate banking from political influence, while ensuring rigorous procedures for evaluation and monitoring. Any system can be gamed, however, and to work well, players need competence, integrity, and the freedom to exercise both. Banks are not well suited for funding long-gestation infrastructure because their deposits are more short-term. This is an institutional and market deficiency that needs to be bridged through developing bond markets, and channeling long-duration funding from pensions and insurance.

4. There are compounding effects from imposing the Aadhaar/UID without the requisite connectivity, processes and safeguards, likewise the hasty imposition of the goods and service tax (GST). There is little doubt of benefits when properly applied, but that needs time and support for thorough implementation; meanwhile, the immediate need is for relief. Rescue measures are needed to lighten the burden of the GST and its reporting requirements on MSMEs (up to a higher ceiling?) over a long period. Interim solutions could be flat rates for a larger set, augmented by support for implementation.

5. Meanwhile, structural issues resulting in NPAs need to be fixed. Three obvious areas:

a) Farming, with its large population, small holdings, outmoded practices, low productivity, and the issues around pricing. Pricing is an essential aspect, as are direct benefits, for example, subsidies through cash transfers depending on income. But simply increasing farm prices addresses only one aspect of a multifaceted problem. What’s needed is to change the way production and marketing are organised. Practicable strategies are needed for produce, perhaps like the approach in dairy farming for milk production and marketing. Systems need be designed (worked out) and implemented properly, with design elements to promote and safeguard honest, competent, disciplined behaviour.

b) Telecom and broadband services need policies based on a complete change of mindset and market structure, such as shared networks and equipment including spectrum, protection from anti-competitive action, and revenue sharing instead of auctions.

c) Electricity supply: Power generation and distribution are both stressed by low economic activity, while many states continue with lax practices of under-recoveries for electioneering.This cannot be resolved as long as profligacy and indiscipline continue.

Fixing NPAs alone won’t do. Changes are required in key sectors for genuine resolution.1

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Shyam (no-space) Ponappa at gmail dot com 

1. “Indian Banks – Perception and Reality”, Ashima Goyal: www.epw.in
http://www.epw.in/system/files/pdf/2017_52/12/SA_LII_12_25032017_M_and_B_Ashima_Goyal.pdf

GST Needs Infrastructure to Succeed

But that is just the starting point. India needs to think strategically about how its large market can be served.

A recent article on the spate of reminiscences about economic reforms since 1991 characterises them as manifestations of the Blind-Men-and-the-Elephant paradigm or the Rashomon Effect.1 Both address the difference between perception and reality, and how each player’s experience of the same events is from his/her unique perspective, which can be different from everyone else’s. So, even if the reminiscing is accurate, no single tale captures all of reality. This is the story of India’s infrastructure. It is as though diverse descriptions lack the organising principle of a systems perspective, an overview of the totality of interrelated circumstances and events.  

There are two resulting insights for future reforms: the need for a conscious integrated-systems approach, and getting the fundamentals of infrastructure right for a solid foundation. A third, unrelated, insight arises from our balance-of-payments situation: the need to strategise for India’s domestic market because of the prohibitive cost of imports in a large and growing economy which relies on energy imports. 

The need for infrastructure was an early refrain, acknowledged episodically, and repeated at intervals. Given the vast scope of our requirements, and the ways we have gone about it, this is simply not enough. Our approach itself remains a work in progress, not effectively addressed so far. We can’t have a burgeoning services sector without good infrastructure. The recent flooding and gridlock in the service hubs of Bengaluru and Gurgaon demonstrate what’s wrong. Manufacturing can’t flourish either, nor can any other activity. They all need access to good infrastructure. 

Some advocate the primacy of services for growth, questioning the manufacturing initiative. No doubt services will remain the major growth engine for the foreseeable future, enabling considerable employment, provided the infrastructure supports training and competent, efficient functioning. We’ll need commensurate improvements in security, and law-and-order, difficult as that may be, to capitalise on the potential for tourism and travel. But uncertainties about the desirability of manufacturing in India are misplaced, because without more effective domestic product development and manufacturing, the services potential will be held to ransom by the increasingly high imports, especially of high-technology products required to support that growth. A market with this level of demand and growth has tremendous scope for domestic production for many products, provided (a) the policies and (b) the infrastructure facilitate production and supply.  

Even sweeping changes in policies such as the single goods and services tax (GST) will have their full impact only when infrastructure supports and facilitates its application. For instance, without adequate communications and logistics, much of the large and growing Indian market will still not be effectively served. This applies across all areas of economic activity, for demand as well as for supply, whether for health, education, entertainment, production and delivery, products and services through e-tailing or brick-and-mortar, tourism and travel, financial services, or IT-enabled services for domestic and external markets. It also applies irrespective of whether the mode of organisation is large scale, or small and entrepreneurial. 

Digital connectivity greatly facilitates efficient deployment of other forms of infrastructure as well. All connectivity does not need to be broadband because apart from the present benefits that accrue from voice links, many smart applications are possible with narrow-band connections in the evolving arena of the Internet of Things (IoT).2 The IoT often involves relatively small amounts of data going both ways, usually from machine-to-machine, over extended periods, using limited bandwidth and power with various technologies, and in places that may be hard to reach. In India, we’ve seen tremendous growth in voice with restricted data capacity, with more limited access to broadband for high-speed data. We’re also familiar with the constraints this imposes, starting with the limitations for education and health care services, and hence the need for broadband for these and much else. This despite the statistics on Internet use, which show India as being second globally as of June 30, 2016, with over 462 million users, with China being the first with over 721 million, and the US third with nearly 287 million.3 These figures seem to mask the inadequacy of our services; in network readiness, India has slipped from 89 (out of 143 countries) in 2015 to 91 in 2016. Instead of focusing on figures about assets that may not function, the Digital India initiative needs to emphasise the delivery of high-quality services to users through changes to administrative policies (i.e. where technology is not the constraint, but the rules and market structures are), and to double penetration from the present 36.5 per cent to cover 920 million users. 

Even 25 years on, the crucial insights of (a) a coherent overview and objectives, (b) a foundation of infrastructure, and (c) strategies to develop local sourcing for domestic markets, aren’t sufficiently emphasised in our reforms. Many key players act as though they are in a bubble or silo, apparently unaware of interlinked realities. One aim of the reforms was – and needs to be – to establish effective infrastructure and institutions. While beginnings are made, these are not carried through to completion, to become fully functional.  

Apart from establishing a solid base of infrastructure through synergistic and path-breaking steps in changing our rules and removing constraints, we have to think strategically about our large market and how it can be served, instead of being suborned by simplistic assumptions of comparative advantage, of being able to buy what we need from wherever it’s produced, or allowing 100 per cent foreign direct investment (FDI). Of course we must import and allow FDI on reasonable terms, but while trying to consciously develop and sustain an approach such as China has done in building Huawei, or Brazil in building Embraer. This is highly desirable for our communications and aviation sectors, despite all the cons of industrial planning. Not that this approach is without risk, considering what happened to Bell Labs and Lucent, now taken over by Nokia Networks. But, the consequences of not planning and acting on such initiatives are likely to be much worse.

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Shyam (no space) Ponappa at gmail dot com 

1: http://www.business-standard.com/article/opinion/t-nninan-the-fathers-of-success-116072901028_1.html 

2: https://en.wikipedia.org/wiki/Internet_of_things ; http://www.rsonline.com/designspark/electronics/knowledgeitem/eleven-internet-of-things-iot-protocols-you-need-toknow-about ; http://www.vscp.org/docs/vscpspec/doku.php 

3: http://www.internetworldstats.com/top20.htmhttp://www3.weforum.org/docs/GITR2016/WEF_GITR_Ful l_Report.pdf