Moving Beyond A Zero-Sum Approach

In many situations, acting for oneself as well as the group gets the best results.

Shyam Ponappa   |   January 6, 2022

The start of the year is a good time to consider getting past fractiousness. For this purpose, insights and concepts from Game Theory when applied to most interactions in daily living are truly astounding. One major insight is that barring conflict and competitive games and sports, in recurring, purposeful interactions between people and entities, the interests of parties dealing with one another are often not diametrically opposed, even when there is competition between them. The implication is that one party’s gain in an interaction need not be entirely at the other’s cost. These are the non-zero-sum situations that lend themselves to cooperation and collaboration. In these circumstances, the best outcomes arise when parties do what is best for themselves as well as the group. Paradoxically, if parties act only in their own interests, ignoring the potential for collective gains, the outcomes often are short of optimal. Whereas if parties cooperate and collaborate in a convergent way, optimal outcomes are possible.

The difficulty is that this philosophy is apparently at odds with our processes and practices in politics, governance, and administration, which seem to emphasise dissension, divisiveness, and factionalism. This appears to be true to some extent in civil society. Is it possible to have these dichotomous approaches flourish simultaneously in any society? Perhaps not. Yet, for galvanising major change, the convergence of society and a transformation towards cooperative and collaborative culture are imperative.

Non-Zero-Sum Situations & Potential For Gains

This concept is usually presented as numbers in tables with rows and columns and associated mathematical formulas as shown in Chart 1, 

Source: https://en.wikipedia.org/wiki/Coordination_game

For formulas: https://en.wikipedia.org/wiki/Cooperative_game_theory

but it can also be presented graphically as in Chart 2.  

Chart 2

Visual representations are sometimes more intuitively understandable. Take for example, corporate acquisition with cooperation and coordination. Consider two companies with complementary strengths, negotiating for one to acquire a stake in the other. The example could be of a manufacturer buying a stake in a supplier for existing or new markets, or diversifying into a new market. The Acquirer A in Chart 2 wishes to pay no more than a reasonable price, shown as a reduction in the asking price as one moves to the right on the horizontal axis. The Seller S wishes to limit the percentage stake sold along the vertical axis with its relinquishment of control, while obtaining a sizeable investment to enhance its capacity. If both sides stick to their “indicated” and “offered” prices at or near the origin, N, the transaction would mean a low investment for a low stake, which would be least beneficial for both. Neither party can improve its position independently from this low-value equilibrium, known as the Nash or Non-Cooperative Equilibrium.

Goal: Stable Cooperative Equilibrium

Any point on the chart towards the right or the top gives both higher gains, although only some will be acceptable to both. The Acquirer gains with less reduction in acquired shares (lower on the vertical axis) for a given investment. Its responses are shown on the line NA (A’s “response function”) extending to the top right. The Acquirer’s preferred price is at the point labelled Acquirer’s Bliss Point. The Seller gains as the stake sold for that price is reduced, up to its ideal Bliss Point, shown on its response function NS. Indifference curves radiate from each Bliss Point, and the points where these curves touch each other (are tangential) represent acceptable settlement points. The line through these points is the acceptable Contract Curve, and the actual settlement point on this curve depends on the negotiation. Any settlement point gives the Acquirer a higher price cut than at N, while the Seller gives up less shares than at N. Both gain.

This is all nice and utopian, but is it of any practical use? The chart shows that objective analysis can highlight the potential for better payoffs, whereas efforts to maximise selfish gains while ignoring common interests results in the lowest payoffs (Nash Equilibrium).  That is, in non-zero-sum situations, if players cooperate, any coordinated settlement will be better for both than the Nash Equilibrium. 

Game Theory has its limitations, of course, and some question its basic legitimacy because of assumptions not related to this example, such as rational decision-making, with complete knowledge and understanding. For practical applications in group functioning and processes, however, its principles and concepts relating to cooperation are invaluable. There are also a number of other real-world applications, such as for matching medical residents with hospitals in the USA through the National Resident Matching Program,¹ shared railway infrastructure costs in Europe, or the brilliant Spliddit.org not-for-profit portal, for apps to help users allocate costs or profits in instances such as sharing rent, fares, credit, goods, and tasks. The benefits of collective action begin with cooperation, or acting with others in one’s own interests. It extends with collaboration, or acting with others on collective goals.

These simple principles can be learned through methods in experiential learning, which employ cooperation and collaborative learning methods. They can be grasped and internalised by young children as well as by adults.² In this sense, this approach can be facilitated throughout people’s lifetimes. While it is undoubtedly beneficial to learn these in early childhood, people can be introduced to it later, in college or at work, and still learn and apply it well. Given its potential for a cultural transformation, it needs national and state championing through dedicated effort, and a curriculum to inculcate these practices in everyone, from early kindergarten to high-school and beyond, through college and Continuing Education at work and in life.

Without transforming society from a neutral or contentious to a collaborative stance, expecting public-private-partnerships to work is unrealistic. Communications systems enable widespread introduction of these changes, with relevant skilling and training as never before. The question is whether we can step up to the opportunity.

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Shyam (no space) Ponappa at gmail dot com

1. National Resident Matching Program, USA: https://www.nrmp.org; 

Railways Infrastructure – Europe: http://dm.udc.es/profesores/ignacio/gptren160499.pdf; 

Cost or profit allocation for rent, fares, credit, goods, and tasks: http://www.spliddit.org/

2. Collaborative Experiential  Learning - Indicative Article: 

https://www.researchgate.net/publication/327527752_New_Methods_for_Collaborative_Experiential_Learning_to_Provide_Personalised_Formative_Assessment

Three Management Concepts for 'Better Days' [Three Ways to 'Better Days']

In 2015, the government should adopt three management concepts that will help realise its objectives.

Shyam Ponappa  |  January 1, 2015

Having heard a lot about vision and goals, how do we proceed? We have the "what", we need the "how". The objectives have been well stated, but the processes are yet to be spelt out. Three concepts that should be drawn upon are systems thinking, cash flows supported by engineering and financial management, and alignment of efforts through cooperation and coordination.

Systems Thinking

Consider the "system-mapping" diagram shown of driving a car along a road.

This chart shows the elements and processes involved: "stocks" like velocity and distance depend on past system performance; "flows" represent changes in stock, with the rate of change being captured in the speedometer, and the distance in the odometer; the accelerator and brake are "converters" that affect acceleration or deceleration (negative acceleration); "connectors" show how parts of the system influence other parts. Stocks are influenced only by flows, while flows can be influenced by stocks, other flows or by converters. Converters may be influenced by stocks, flows or other converters if they are not at the system boundary. The source and the sink are the beginning and the end of the system (go to www.business-prototyping.com/step-by-step-tutorials/introduction-to-system-dynamics/stock-and-flow-diagrams/ for more details).

This is an example of "systems thinking", an approach that emphasises interrelationships instead of only linear effects and end-to-end processes instead of stand-alone events or circumstances. Traditional analyses focus on individual elements, whereas systems thinking emphasises the interactions of all discernable elements that result in outcomes under consideration. For instance, the perspective shifts from product prices, for example, for cereals, power or fuel, to life-cycle costs, including operations and maintenance. (For a brief overview, see the above website.)

Without this approach, the articulation of desirable visions is no more than rhetoric. In economics, "cheap talk" is a promise made with no penalties for non-performance, or "costless communication". "Cheap talk" has its uses, for example, in helping to create a collective vision and unite efforts to that end, but it needs to be followed up with real planning and execution with the commitment of resources to go beyond and establish credible delivery.

Take the very laudable Swachh Bharat campaign for cleaning up one's local environs. While it's excellent that it has been forcefully voiced by the prime minister, there's no visible public evidence of systemic initiatives that address the fundamental elements like sewerage, garbage separation and composting in homes, and incineration, which includes "simply" enforcing existing laws. It's a two-fold challenge: one, of enforcing existing laws, for example, against the open burning of waste and harvest stubble, and two, of dedicating skilled, multi-disciplinary resources to work towards developing integrated solutions, including simple enforcement against acts like littering. Instead, the initiative appears to remain at a superficial level of photo-ops of sweeping waste from one place to another, instead of addressing ultimate disposal.

Process Flows & Cash Flow

A second aspect where change is urgently required is in dealing with problems of growth arising from obstructions in process flows. These may relate to material, or to the conversion of material to cash. The range covers all economic activities, for example:

• The conversion of mineral resources through mining;
   
• Administrative or regulatory impediments regarding communications in areas such as spectrum use, network access and rights-of-way;
   
• Constrained cash flows from lower demand combined with high costs, as in the manufacture of durables, commodities such as sugar, or construction - not to mention manufacturing in general for the "Make in India" campaign.

The crux of this aspect relates to the conversion to cash. The reason flows are critical in this context is because, aside from "resolution" by bankruptcy, even problems of stock (or oversupply) have to be resolved through flows, that is, cash flows, whether by disposal of assets provided market conditions can support reasonable cash yields, or operating profits from higher volumes and/or lower costs, resulting in the turnaround of non-performing assets (NPAs).

Such solutions need an understanding of the underlying engineering or other processes, and of financial management, that is, the tightly coupled lockstep of profit and loss and balance sheet that leads to cash flow. This understanding is critical for effective management of any self-sustaining activity as a going concern. Much of our society, including many in politics, the executive, the judiciary, the media and lay persons, appear either to not understand these principles, or to opt for shortcuts for near-term gains, as in the distribution of sops for elections.

Cooperation on Aligned Goals

The third aspect is cooperation and alignment of efforts to achieve common goals. Credible leadership is perhaps the most important for this form of team building. Effective leadership combined with due attention to processes can help elicit team thinking and performance that aligns group outputs to common goals to achieve results that are "better than rational". Evidence from studies such as of forest management in Maharashtra show how communities cooperate to manage forests as common-pool resources through community control.¹ To paraphrase Elinor Ostrom, this requires building conditions in which reciprocity, reputation and trust overcome the strong temptations of short-run self-interest, by investing in monitoring and sanctioning each other to reduce the probability of free riding.²

However, there's a catch to this upside potential: "Experimental evidence suggests that humans have specialized circuits for understanding threats, as well as recognizing bluffs and double-crosses."3 This loops back to two choices: rhetoric versus actual systemic coordination and reforms, and inclusive versus divisive leadership. The latter calls for a hard choice between divisive electoral strategies for winning the post but resulting in a "zero-contribution" model, versus a potentially higher yield from non-partisan leadership that inspires and persuades the majority to pull together for greater gains.

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                                                                     Shyam (no space) Ponappa at gmail dot com

1. Rucha Ghate, Suresh Ghate and Elinor Ostrom: www.sandeeonline.org/uploads/documents/publication/941_PUB_WP_64_Rucha_Ostrom.pdf

2. wwz.unibas.ch/fileadmin/wwz/redaktion/wipo/Vorlesungen/2012/PolEcon/Ostrom98.pdf

3. Leda Cosmides and John Tooby: www.cep.ucsb.edu/papers/aer94.pdf 

Centre- or State-Driven Development?

Federalism requires a strong Centre as well as strong states, and effective organisation and coordination -- which can be facilitated by using the Internet.

Shyam Ponappa  |  February 5, 2014

There are opposing views on the merits of centrally driven development compared with states developing on their own approach. At one level, some corporate leaders as well as politicians and members of civil society exhort states to compete for capital investment. This debate extends beyond states going their own way, to community-level local government, as in the Aam Aadmi Party's (AAP's) "Swaraj" through mohalla sabhas (town-hall meetings or open assemblies) for local government.

Basic Weakness: Lack of Organization & Coordination

While the benefits of community-led initiatives for local issues are indisputable, advocates emphasising decentralisation perhaps overlook some fundamental aspects of our reality. These are the extent of the inadequacies in our infrastructure networks, our organisational set-up, and in our ability to achieve effective coordination. Years ago, when Swaran Singh was food and agriculture minister in 1964, he reportedly said that one of our basic weaknesses was "lack of adequate administrative coordination and absence of a unified set-up at different levels" and that it should be "possible to achieve more rapid and lasting progress through a comprehensive and integrated approach than through uncoordinated and isolated efforts of different agencies and organisations operating at different levels…." 1 He couldn't have been more right, even today.

Result: Poor Infrastructure

The lack of unified organisation and effective coordination has a direct bearing on infrastructure. This is what people really need, no matter what else they might want. Take the current focus in Delhi on water and electricity. To these two, we must add roads, transport and communications as elements of essential first-order infrastructure services. People everywhere in the country need these services. Likewise, their second-order service needs include healthcare, education and finance. All these services are subject to network economics, and no local community can be self-sufficient without integration with external linkages. At the appropriate levels ("centres") of city, region, state and country (for example, for national highways or communications networks), these services need "centrally" organised supply and coordinated distribution for effective and efficient delivery. Aside from problems related to corruption, it is in ignoring organisation and coordination, or in handling them ineptly, that our governments fail. Centrally driven development is not just an option we fail at, mostly; it is an absolute necessity to empower ourselves, and until we get it right, we will be hamstrung by this deficiency.

Oblivious to Sewerage & Sanitation

As an aside, another major failure in not appreciating the systems required for basic infrastructure is in ignoring the linkage of water supply with sewerage and sanitation, historically and even now. Sewerage is concomitant with water supply; having water entails having to deal with sewage. Water and sanitation systems need significant "central" design - in the sense of overarching integrated systems at the appropriate level - with expert inputs in system development and implementation. This is usually not feasible at the local-community level alone. Ignoring this results in open sewage, polluted water bodies, unhygienic conditions and stinking surroundings. In this context, while building new smart cities is good, the dire need is to upgrade the systems in our existing cities, towns and villages, so that we live better. Such steps may not grab the headlines, but this is the stuff of our lives.

Virtual Mohalla Sabhas (Townhall Meetings)

Next, consider the approach to community participation in local government. There is certainly considerable potential for community participation, but not through methods like the "janata darbar" open assembly last month by the AAP in Delhi, or the Nationalist Congress Party's limited online interaction sessions. Doing so effectively and with efficiency is likely to require well-designed and deployed processes using Web-based technologies and methods, rather than, by way of example, the AAP's approach of live mohalla sabhas. Press reports suggest the AAP plans 2,700 mohalla sabhas in Delhi, the idea being that government representatives will attend these open assemblies, where issues will be discussed and resolved.2 This seems like it would be very difficult, if not impossible, to achieve in practice. Instead, if the proponents of these ideas adopted the approach of online town-hall meetings or virtual mohalla sabhas, governments could design and implement Internet-based systems using asynchronous communications - eliciting inputs and recommendations from domain experts and discussion by citizens for decision making by authorised functionaries. Such systems could also allow for realistic project time frames and ensure follow-ups on water and sanitation, electricity, transport, health, education, or whatever else. If political parties, especially the experienced administrators and engineers/MBAs supporting these parties, bend their minds to these tasks, we are likely to have better systems with more impressive results on the ground.

For instance, take garbage clearing. This might well improve if ward committees oversaw the work of sanitation workers, as mentioned here 3; but the prerequisite is a system-wide design in place with processes that work, as suggested in this broad critique 4. These services need overarching system design and implementation far beyond the scope of any mohalla sabha, except at the local deployment level.

Internet-Based Systems & Procedures

Many political parties use Internet technology for fund-raising and membership mobilisation. It should be feasible for them to consider extending this to governance - although this will be quite a stretch in terms of their understanding and adopting the principles of organisation, logical processes and systems when compared with the relatively simple tasks of membership drives and fund-raising. But this is how our politics and governance need to evolve. We need systematic processes using the Internet. This could facilitate and channel discussions to explore and define objectives, generate and evaluate alternatives, make trade-offs, order priorities, and arrive at actionable decisions implemented over an extended period, with sound project management methodologies and tools. There's off-the-shelf software available, such as Microsoft's TownHall and others like OnlineTownHalls and MindMixer. Perhaps there's scope for systems developed specifically for our purposes. What's needed is to adopt this systems approach, regardless of the software.


shyam (no space) ponappa at gmail dot com

(1) "Lack of coordination", Swaran Singh, 1964, The Hindu: http://www.thehindu.com/todays-paper/tp-miscellaneous/this-day-that-age-dated-february-4-1964/article5651028.ece
(2) http://indianexpress.com/article/cities/delhi/aap-plans-2-700-mohalla-sabhas-in-city/99/
(3)http://m.ibnlive.com/blogs/vivianfernandes/1878/64973/can-aam-aadmi-partys-mohalla-sabhas-work.html
(4) http://www.ndtv.com/article/opinion/op-ed-the-problem-with-aap-s-mohalla-sabhas-467074



Comments

• K.Mundanad
  This refers to the statements: “Years ago, when Swaran Singh was food and agriculture minister in 1964, ….. He couldn't have been more right, even today.” During the heydays of “License and Permit Raj”, I understand that the Licensing Authority was issuing Licenses, only after coordinating with the Departments of the concerned States on all the aspects, which led to inordinate delays. And if the production by any industrial unit exceeded its Licensed Capacity, which was based on decades old data, it was penalized, irrespective of whether it coud market the goods. Problem arising from central co-ordination is known to all concerned.
  13 hours ago | Reply
• 
  ashok
  All through our history, India has prospered and been secure when Delhi was strong. There is no contradiction if the states too are dynamic and well governed.
  20 hours ago | Reply

Changing Our Game

Adopting 'co-ordination models' like the Stag Hunt instead of pursuing narrow self-interest helps reduce contention and improve outcomes.

Shyam Ponappa / Sep 05, 2012

Consider the handling of irregularities in spectrum allocation and in coal mining rights. Instead of swiftly ring-fencing problem areas where there are allegations of culpability supported by prima facie evidence, then striving for good policies going forward, the ruling coalition and the Opposition are in a war of attrition. What began with the United Progressive Alliance’s turning a blind eye to the spectrum awards has turned into the Bharatiya Janata Party’s heedless flailing to tear down their opponents. Meanwhile, the confusion created by the pronouncements of the Comptroller and Auditor General and previously of the Telecom Regulatory Authority of India has vitiated conditions for constructive reform. Any solution that fails a populist screen is likely to be guillotined in the streets.

Contention versus co-operation


There seems to be quite a contrast between our manifest contentiousness and our apparent friendliness. From our chaotic ways in traffic to dealing with each other and with our surroundings more generally, often, self-centred, short-term opportunism appears to override our better nature. As evidenced in the coalgate stand-off in Parliament, or our inability to establish adequate infrastructure, this cuts across all levels of individuals and groups. The irony is that no one gains, except the perpetrators and supporters of rip-offs and stand-offs. They, too, gain only in the short run, unless they’re caught out. In the long run, everyone is worse off except the rogues who get away.

How did we get to this self-destructive state, and how might we get out? Insights from game theory could provide some perspective. One stark fact is that our interactions are predominately driven by self-interest that leads to contention, on the lines of a Prisoner’s Dilemma,1 instead of a co-operative group- or common-interest model like the Stag Hunt.2

The two models are described briefly below.  For those who want to skip the description, read on after the next two paragraphs.

Prisoner’s Dilemma

Two men attempting a burglary with a weapon, A and B, are caught, with insufficient incriminating evidence for the burglary. They are questioned separately and not allowed to communicate. If both deny the burglary, they escape a 10-year sentence and will be imprisoned for two years for possession of a weapon. A is told separately that if B pleads guilty and A does not, B will get a reduced sentence of four years, while A will get 10. So A has an incentive to confess and get four years, too. A is also told that if he confesses, he can go free, while B gets 10 years. Therefore, the logical choice for A is to confess. The same logic applies to B. So, both confess and get four years, instead of both denying and getting only two years. The logical trap is that acting in one’s self-interest without communication and co-operation leads to a worse position.

Stag Hunt

A group of hunters agree to wait for a stag in their assigned positions. If one sees a hare and shoots at it, the stag takes flight and the group loses out. The group and individuals gain most if individuals stick with their commitment and get the big prize. However, individuals may be tempted to defect by a less risky, smaller pay-off like a hare.

[The original story implies that hunters must stay in their positions.  If they are tempted to chase after a passing hare, the hunt fails (if the stag comes by their post).]

Logical trap: Self-interest leads to contention and lowest equilibrium

In zero-sum games like cricket, tennis or football, where the total pay-off is the same no matter who wins, one participant gains at the expense of another. In most real-world encounters, however, players can improve their outcomes by co-operation and co-ordination. In other words, many everyday situations can be likened to non-zero-sum games, where one party’s win is not necessarily another’s loss. If individuals (or teams/groups) pursue their self-interest without co-operating and co-ordinating with other players, the pattern is like the Prisoner’s Dilemma, and a logical trap leads to a position of lowest equilibrium (the Nash Equilibrium). This position results from each player/group making the best decision that he/she/they can while taking into account the decisions of the others, and no one can act independently without worsening their position.

Co-ordinating better outcomes

By contrast, if players can (a) co-operate and (b) decide through effective co-ordination, everyone gains. Examples are centrally sponsored projects executed in Opposition-run states – for highways or power, for example – or the backing of political parties for India’s 123 Agreement with America on nuclear co-operation.

Can we escape a logical trap and contention by adopting models that elicit co-operation and co-ordination? Game theory suggests that models based on trust and co-ordination like the Stag Hunt work for a big prize (the stag). The question is whether it is possible to move to a co-ordination model and, if so, how to do it. While there are no simple fixes, the University of Vienna’s evolutionary game theory models hold out some promise through providing insights into how patterns of co-operation can spread in populations.3

There’s also the long, slow haul of structured education and training in collaborative problem solving. The techniques that need incorporation in our curricula from junior school through higher education, vocational training, and at work, are co-operative problem solving as an approach, and project management as a method. The latter starts with a clear definition of goals and objectives, followed by standard operating procedures covering the gamut of the logic of process flow for tasks, setting milestones/sub-objectives, critical paths, and individual and group responsibilities on timelines.

A second aspect where governments have to step in is institutional design — boldly initiating systems and processes after eliciting convergence in each sector from all stakeholders on sound plans in the public interest. Driven by goal-directed project management, this requires systematic action braving populist pressure and distractions.

These initiatives would significantly improve India’s ability to act in the public interest.

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shyam (no space) ponappa at gmail dot com

1 http://en.wikipedia.org/wiki/Prisoner’s_dilemma

2 “The Stag Hunt and the Evolution of Social Structure”, Brian Skyrms, 2004: http://bilder.buecher.de/zusatz/22/22362/22362426_lese_1.pdf 

3 VirtualLabs, Christoph Hauert: http://www.univie.ac.at/virtuallabs/ 

[Since moved: http://wiki.evoludo.org/index.php?title=Evolutionary_Games_and_Population_Dynamics]

Evolutionary Dynamics – Cooperation and Defection - from the link below:

Cooperators provide a benefit to other individuals at some cost, while defectors attempt to exploit such common resources. This leads to a classic conflict of interest between the individual's and the community performance - and hence the dilemma. The game dynamics then determines the relative frequencies of the different strategies in a population.

 

Decision Analysis for Interest Rates - II

India needs to make practical choices that prioritise growth Shyam Ponappa / Aug 02, 2012 A UN report last June stated: “…the increasing independence of central banks, tighter monetary policy, and inflation-targeting regimes, unnecessarily high — and sometimes, pro-cyclical --policy interest rates were probably one of the most important contributors to the worldwide slowdown in growth...”1 The economy is slowly grinding down as high interest takes its toll. While fear of inflation is understandable, demand-side resolve will not help our supply problems. Surely monetarists also see growth as being dangerously low for India, with its large, explosive, not-so-well-served, -educated, nor -prosperous population? Focusing on anything except growth as the highest priority is a mistake we cannot afford. Everything else depends on it, whether it is feeding people, clothing them, providing livelihood, sanitation, shelter, electricity, social stability, even law and order. My previous column (Business Standard, July 5, 2012) explained how lower interest rates could improve growth by increasing net profits. The purpose was to demonstrate the application of decision analysis through simulation, using financial process-flow logic. The question addressed was: what happens if interest rates are lowered in the present circumstances? Answer: profits would rise, reviving growth through higher income, employee compensation and taxes, with more savings and investment. Consider what might have happened. In March 2012, net profit was 8.8 per cent of total revenues for 2,840 companies.2 This would have risen to 11 per cent by June if interest costs fell 20 per cent per the example. With some reduction in raw-material costs, net profit could have risen further. What actually happened?  The RBI held firm, and net profit stayed about the same at 9.1 per cent (+0.3) for the quarter ended June (711 companies reporting by July 30, roughly 25 per cent). This was despite revenues dropping by about 3 per cent, higher taxes (0.4 per cent), and interest costs rising from 11.1 per cent in March to 17.3 per cent, as expenses dropped by 7 per cent with big cuts in inventories. Commentary Some issues in responses to the earlier article are outlined below, assuming an understanding of finance and awareness of economic history. 1. Straw-man arguments: Zero rate or 100 per cent debt Some readers asked, why not a zero rate? Answer: misallocation and lower productivity. Others asked, why not 100 per cent debt? Answer: bankruptcy risk. Still others suggested that providing support to business was not the only requirement. This is addressed above in growth being the highest priority. Reducing rates from current levels does not mean dropping to zero, nor ignoring prudential norms for debt/equity. Our goal is presumably sustained growth, not volatility with risk. Near-zero rates are known to create problems through misallocation, asset bubbles, and reduced productivity, e.g., in Japan, the USA, and the UK. However, Switzerland used low rates to tackle an overvalued currency in the late 1970s. Low rates induce a propensity to higher debt. This is because of a tendency to misconstrue the Modigliani Miller theorem, viz., that a firm is valued by the earning power of its assets and their risk unrelated to capital structure, to mean that high leverage has no adverse consequences. The lower the rates, the more the temptation to leverage, and the greater the risks. 2. The “correct” interest rate If rates were cut, what figure would be “correct”? Instead of a search for the perfect mathematical step, it is much more important to act in the right direction. Simulation helps to establish an appropriate range. Within that range, the rate is less important than that it’s a significant cut in these circumstances (1 per cent?), while not being too drastic. This is not a theoretical search for a perfect rate, but a pragmatic step to induce growth, for India to regain its investment destination status. The idea of a closed-form point estimate that is “correct” is misplaced, because correctness depends on circumstances, timing, and cultural/emotional/political responses, i.e., animal spirits. Simulation helps in exploring the range of probable outcomes for causal factors. Each factor has its own probability distribution, sometimes contingent on others (a Markov chain), yielding a range of probable outcomes, and not a point estimate. 3. The RBI intended to slow growth One view is that the RBI slowed growth in the hope of containing inflation. Therefore, criticising it for achieving the intended result serves no purpose. Surely the intention was not to slow to this extent? Other critical issues: Processes for growth -  Apart from lower interest rates, certain fundamental processes also need to be addressed with undiluted focus. These are goal setting, prioritisation, and coordination. a) Goal setting: Capital requirements India needs capital to grow, from both domestic and foreign investors. Paradoxically, growth is a critical prerequisite. If this is seen as greed or sophistry, let’s devise a better plan. b) Prioritisation:  Growth is the first requirement, as everything else depends on it. c) Coordination:  Effective coordination is the key to achieving growth. This is exemplified by the current state of electricity distribution, despite the addition of 20,000 Mw of capacity last financial year, mostly stranded, with the supply of coal supposedly being addressed, but without positive results. -  Real interest rates (and growth) In addressing these processes, one problem is conflicting information, for example on real interest rates. Does India have negative rates as some claim? The chart above shows World Bank data until 2011, with India’s generally higher rates. -  Food inflation (and growth) Food inflation is constraining interest rate cuts. The RBI’s statements and some commentators’ remarks lamenting that food inflation prevents rate cuts epitomise a misapprehension about supply and demand that sorely needs resolution. A recent study covering four states (Bihar, Punjab, Uttar Pradesh, West Bengal) suggests that rainfall drives agricultural output in Uttar Pradesh and West Bengal.3  The report concludes that supply side problems primarily affect food prices, not fluctuations in demand.  Add supply constraints from inadequate infrastructure and distribution processes, and it is clear that high interest rates cannot possibly solve the problem of food inflation.

                                                                                       

                                                                                           

                                                                                                        shyamponappa at gmail dot com

1: “The Scorecard on Development, 1960-2010: Closing the Gap?”, Mark Weisbrot and Rebecca Ray, June 2011:http://www.un.org/esa/desa/papers/2011/wp106_2011.pdf 

2: http://www.moneycontrol.com/earnings/ 

3: “The Curious Case of Indian Agriculture”, Nilanjan Banik and Basudeb Biswas, April 28, 2012:http://mpra.ub.unimuenchen.de/38634/1/MPRA_paper_38634.pdf

Comments

Posted by: Srinivasan	August 02 , 2012, 08:54 IST
Looking at just Growth and getting huffed up and puffed up on this single account is very myopic. What if we reduce and make a short-term weak recovery but throw the Indian economy into a tailspin over the long term! So my suggestion - develop stereoscopic vision look intensely at the drawbacks as well. With India having a currency devaluation of almost 15% recently (48 to 55.50), it will be dangerous to reduce rates as suggested by the author. In fact i would like to cry hoarse in return - If you want to save the Indian industry and economy, please raise the rates by 100bips! Now! Posted by: Rajesh August 02 , 2012, 08:38 IST Mr Ponappa says that low rates are risky but lower rates are Ok. He still leaves a cloud hanging over his arguments. Is 25bips acceptable risk and 100bps dangerously risky and 200bips Depressionally risky. It would take a moment to reduce rates but if the implications/harmful side effects are not mapped out precisely and properly we might have to repent at leisure for this hasty action. Serious work should have the look and feel of research and NOT give the impression of desperate policy sloganeering.   Posted by: Rajesh August 02 , 2012, 13:35 IST 1st sentence should read - Mr Ponappa says that, Lowering rates is Ok and in fact desirable, but lowering rates beyond a threshold might become counterproductive and quite risky. Posted by: Akhil August 01 , 2012, 22:56 IST No need to get worked up. This growth decline is the direct result of reduction of crony capitalism because of the pressure of media attention. This is especially true of the mining sector. Govt should focus on reviving crony corrupt capitalism which favors Big Business houses and ignore the people. As soon as the extraction mega profits get logged the growth figures will also start showing a distinct improvement. Handing mines on a platter at no cost provides the great incentive to miners who then extract as fast as possible. Which improves growth even if public assets had been handed out for a pittance. Posted by: Vivek August 01 , 2012, 21:47 IST In view of the currency devaluation should we not instead be raising rates? I think a more sophisticated and comprehensive analysis of the situation should have beeen made by Mr Ponappa. It is not as if the RBI is peopled by dumb no-brainers. They are smart and are aware of all the simplistic arguments advanced by Mr Ponappa. And yet have to balance it with other equally important concerns.