Economic Survey Vol. I- Quick Revision Module

CHAPTER 1: WEALTH CREATION: THE INVISIBLE HAND SUPPORTED BY THE HAND OF TRUST

Since 1991, sectors that were liberalized grew significantly faster than those that remain closed.

Corruption Perception Index– The CPI scores and ranks countries/territories based on how corrupt a country’s public sector is perceived to be by experts and business executives. It is a composite index, a combination of 13 surveys and assessments of corruption, collected by a variety of reputable institutions- released by Transparency International.

The CPI, released at the WEF 2020 in Davos ranks India as 80/180 countries.

Trust Definition– The Survey introduces the idea of “trust as a public good that gets enhanced with greater use”. Trust can be conceptualized as a public good with the characteristics of –

o Non-excludability: The citizens can enjoy its benefits at no explicit financial cost.

o Non-rival consumption: The marginal cost of supplying this public good to an extra citizen is zero.

o Non-rejectable: Collective supply for all citizens means that it cannot be rejected.

Historical approaches for Economic Policy as a trust enabler:

o Machiavelli : It views people as “knaves” (inherently dishonest) and thus advocates regulation through orders in penalties.

o Aristotle : Aristotle holds that “good laws make good citizens,” by inculcating habits and social virtue. Thus suggests that people be regulated by “ritual” rather than by orders and penalties.

o Kautilya: Kautilya in Arthashastra highlights the idea of Anvikshiki (philosophical and ethical framework). It reinforces the idea of “invisible hand” but emphasizes equally the importance of “mutual sympathy” (i.e. trust).

Chapter 2 CHAPTER 2: ENTREPRENEURSHIP AND WEALTH CREATION AT THE GRASSROOTS

Pointers

• With 10 per cent increase in registration of new firms per district-year, GDP increases by 1.8 per cent.
• Impact of new firm entry on GDDP is greatest in the Manufacturing and Services sectors.
• Entrepreneurial activity in the formal sector at the grassroot level is not driven by necessity or lack of alternate employment options.
• India has the 3rd largest entrepreneurship ecosystem in the world ahead of the countries such as Brazil and South Korea.
• New firm creation has gone up dramatically in India since 2014. This growth is particularly pronounced for the services sector reflecting India’s new economic structure.
• Entrepreneurial intensity (i.e. number of new firms registered per year per 1000 workers) in formal economy, is low in India compared to other developed economies as large number of India’s enterprises operate in the informal economy.
• All four regions except certain eastern states in India demonstrate strong growth in entrepreneurial activity over time.
• All regions demonstrate a strong relationship between entrepreneurship and GDDP.
• There exists a high negative spatial correlation between entrepreneurial activity in manufacturing sectors and unemployment rate in the district which means that unemployment rate reduces significantly when new firms in the manufacturing sectors increase.

Two key drivers of heterogeneity in district level Entrepreneurial activity:

1.Physical Infrastructure – Superior physical infrastructure will likely promote entrepreneurial activity but there exists a threshold beyond which increase in physical infrastructure gives diminishing returns because

-Beyond a point, increased access to local markets may create hyper-competition and discourage entrepreneurship.

-At the same time, increased levels of basic infrastructure development might also open up potential entrepreneurs to other opportunities .

2.Social Infrastructure– education level of a district directly proportional to entrepreneurship –  There is no such threshold as in the case of physical infrastructure.

Chapter 3 – Pro-Business vs Pro- Crony

• Liberalization has enabled creative destruction. Here ‘churning process’ of the stock market is taken as an identifier for creative destruction.
• Austrian economist Joseph Schumpeter coined and described the term creative destruction as a “process of industrial mutation that incessantly revolutionizes the economic structure from within, incessantly destroying the old one, incessantly creating a new one.”

The initial churning process of the Sensex represented creative destruction leading to increased diversity of firms and decreased sectoral concentration. This is illustrated by

• Entry of Sectors like financials, telecommunications and information technology that were nonexistent in the index then.
• Decreased dominance of manufacturing sector that was dominated by the Materials and Consumer Discretionary sectors.

Today’s Sensex is far more democratic in terms of the size and concentration. This is illustrated by

o In 1991, the size of the largest firm was nearly 100 times the smallest firm which got reduced to 12 in 2018.

o Rising share of Service Sectors (like financials and IT) has been accomplished by a rise in the number of companies rather than the rise in the size of incumbents.

o Analyzing degree of competition for financials and IT reveals an overall decline in concentration in both sectors.

Encouraging creative destruction in turn enables wealth creation and welfare maximization in following ways –

o Entry of new firms increase competition leading to lowered prices for consumers.

o Brings dynamism to the marketplace and keeps incumbent firms on its toes.

o Sectors as a whole always outperform individual companies within the sector.

RBI defines a wilful defaulter as a firm that has defaulted in meeting its repayment obligations even though it has the capacity to honour these obligations.

A firm could also be branded a wilful defaulter if it uses the funds for purposes other than what is sanctioned by the lender, siphons the money out to related parties or remove the assets used to secure the loan.

The cost of this wilful default is borne by the common man and genuine borrowers in the form of refinancing of banks (through taxation and deposits) and increased borrowing cost.

Wilful default amount is increasing steadily since 2010.

CHAPTER 4: UNDERMINING MARKETS: WHEN GOVERNMENT INTERVENTION HURTS MORE THAN IT HELPS

Index of Economic Freedom (given by Heritage Foundation) ranks India 129th among 186 countries. (Categorizing India as ‘mostly unfree.’)

Index of Global Economic Freedom (given by Fraser Institute) ranks India 79th among 162 countries.

The indices of economic freedom positively correlate with per capita GDP, registration of new business, the ease of doing business indicators, number of patents applied in a country, number of patents granted in a country and Index of Innovation.

Deadweight losses

A deadweight loss is a cost to society created by market inefficiency, which occurs when supply and demand are out of equilibrium. Mainly used in economics, deadweight loss can be applied to any deficiency caused by an inefficient allocation of resources. Price ceilings, such as price controls and rent controls; price floors, such as minimum wage and living wage laws; and taxation can all potentially create deadweight losses.

Price stabilisation fund

It refers to any fund constituted for the purpose of containing extreme volatility in prices of selected commodities. 

The Price Stabilization Fund (PSF) was set up in 2014-15 under the Department of Agriculture, Cooperation & Famers Welfare (DAC&FW) to help regulate the price volatility of important agri-horticultural commodities like onion, potatoes and pulses were also added subsequently.

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Drug Price Controls have a mandate to ensure access to essential life saving drugs and to make drugs affordable. To enable this, the Government regulates drugs through National Pharmaceutical Pricing Authority (NPPA) and DPCO. They are aided and guided by National List of Essential Medicines (NLEM) prepared by Ministry of Health and Family Welfare.

The Food Corporation in India (FCI) has the primary duty to purchase, store, transport, distribute and sell foodgrains.

Government is obligated under National Food Security Act (NFSA), 2013 to provide foodgrains to 75% of rural population and 50% of the urban population.

Government procures around 40-50% of the total market surplus of rice and wheat, making the government virtually a monopsonist in domestic grain market. This has led to Government becoming the single largest hoarder of rice and wheat. (Central pool stocks were 74.3 million tonnes on July 1 2019 as against the norm of 41.1 million tonnes.)

The procurement costs, distribution costs and carrying costs of the FCI are largely covered by the food subsidy.

Inefficiency of FCI increases with increasing levels of stock it has to store.

Growth in public investments in agriculture is negatively correlated to increase in food subsidy outlay.

There is an evident decline in the demand for cereals. (Reflected in decrease in share of cereals in Monthly Per Capita Expenditure (MPCE) by 33% and 28% for rural and urban areas respectively).  Contrary to the demand, the production of foodgrain has increased consistently since 2005. This suggests that farmers are deriving their signals, not from the demand patterns but from the Government policy on procurement and distribution.

Debt Overhang– This refers to a situation where all current income of the borrower gets used up in repaying the accumulated debt, leaving little incentives to invest either in physical or human capital.

Waiver had negligible impact on agricultural productivity, investment or consumption levels of farmers receiving full relief.

Share of formal credit decreases for full beneficiaries when compared to partial beneficiaries.

Debt waivers impact credit market negatively.

CHAPTER 5: CREATING JOBS AND GROWTH BY SPECIALIZING TO EXPORTS IN NETWORK PRODUCTS

According to the survey, there are two groups of industries that hold the greatest potential for export growth and job creation.

• Traditional unskilled labour-intensive industries such as textiles, clothing, footwear and toys
• Network products (NPs): Here the GVCs involved such as Apple, Samsung, Sony etc. are controlled by “producer driven” networks wherein products are not produced from start to finish within a given country; instead, countries specialize in particular tasks or stages of the good’s production sequence depending on its comparative advantage. For ex. China with huge low skilled labour force specialized in assembly of products.

The survey highlighted that in 2018, NP exports accounts for 10% in India’s export basket, while these products account for about 50% of the total national exports of China, Japan and Korea. Also, among the major Asian countries, India is the only one with trade deficit in NP.

The main category of NP exported by India is Road vehicles with a share of 4.9 per cent in its total exports in 2018.

“wild- geese flying model” i.e. an “inverted V” pattern –

Japan’s scholar Akamatsu’s third flying geese paradigm (FGP) is a model for international division of labor in East Asia based on dynamic comparative advantage. The paradigm postulated that Asian nations will catch up with the West as a part of a regional hierarchy where the production of commoditized goods would continuously move from the more advanced countries to the less advanced ones. The underdeveloped nations in the region could be considered to be “aligned successively behind the advanced industrial nations in the order of their different stages of growth in a wild-geese-flying pattern.”

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India has signed 14 FTAs with various countries between 1993 and 2018. Highlighting the efficacy of these FTAs, the survey posits that from the perspective of trade balance, India has clearly “gained” in terms of 0.7 per cent increase in trade surplus per year for manufactured products and of 2.3 per cent increase in trade surplus per year for total merchandise.

India toppled Vietnam to become the second largest manufacturer of mobile phones globally following China in 2018 with a world share of 11 per cent.

CHAPTER 6: TARGETING EASE OF DOING BUSINESS IN INDIA

India has made substantial gains in the World Bank’s Doing Business rankings from 142 in 2014 to 63 in 2019. However, it continues to trail in parameters such as Ease of Starting Business (rank 136), Registering Property (rank 154), Paying Taxes (rank 115), and Enforcing Contracts (rank 163).

Compared to Bangladesh, China, and Vietnam, which have more than 80 per cent of market value of exports by large enterprises, India has 80 per cent by small enterprises.

Authorised Economic Operator (AEO)

• Voluntary programme under the aegis of the World Customs Organization (WCO) SAFE Framework of Standards to secure and facilitate Global Trade.
• It enables Indian Customs to enhance and streamline cargo security through close cooperation with the principle stakeholders of the international supply chain.
  
• Benefits – expedited clearance times, fewer examinations, improved security and communication between supply chain partners, and more.

The processes in Indian airports is vastly superior to those at sea ports for both imports and exports; AEO did significantly improve the process but it is reasonably smooth even for non-AEO operators importing/ exporting electronics.

CHAPTER 7: GOLDEN JUBILEE OF BANK NATIONALIZATION: TAKING STOCK

India’s banks are disproportionately small when compared to: size of the economy (GDP), development of the economy (GDP per capita) and population.

Credit growth among PSBs has declined significantly since 2013 even as New Private Banks (NPBs) had considerable credit growth.

The primary difference between PSBs and NPBs – stems from the difference in efficiencies thus making a case for improving the efficiencies within PSBs.

After the 1980 nationalization, PSBs had a 91% share in the national banking market which has reduced to 70% in recent times. Reduced stake has been absorbed by New Private Banks (NPBs) which came up in early 1990s after liberalization.

In 2019 public sector banks reported gross and net NPAs of Rs. 7.4 lakh crore and Rs. 4.4 lakh crore respectively, amounting to about 80 per cent of the NPAs of India’s banking system. (The gross NPAs of PSBs amount to 11.59 per cent of their gross advances)

PSBs account for 92.9% of the cases of fraud, a large majority (90.2%) were related to advances, suggesting poor quality of screening and monitoring processes for corporate lending adopted by PSBs.

PSBs perform poorly on Return-on-Assets (RoA), Return-on-Equity (RoE) and indicators like Total capital adequacy ratio when compared with NPBs.

( In short,remember that PSBs perform poorly compared to NPBs in all areas).

JAM trinity – Jan Dhan account + Aadhaar + Mobile network penetration

Narasimhan Committee (1991, 1997), Rajan Committee (2007) and PJ Nayak Committee (2014)– committees related to reforms in Banking.

Survey suggests that a portion of the government stakes can be transferred to employees exhibiting good performance across all levels of the organization through Employee Stock Option Plans (ESOPs). This may encourage risk-taking and possible change of mindset from that of an employee to that of an owner.

CHAPTER 8: FINANCIAL FRAGILITY IN THE NBFC SECTOR

Rollover Risk – The NBFCs raise capital in short-term market but the assets of NBFCs are of longer duration. Thus, there arises a need for refinancing the debt at short frequencies. The frequent repricing exposes NBFCs to the risk of facing higher financing costs. Such refinancing risks are referred as Rollover Risk.

The rollover risk is a combination of risks associated with asset-liability management, Interconnectedness with Liquid Debt Mutual Fund (LDMF) Sector and Financial and Operating Resilience.

Terms

Commercial Paper– Commercial paper is an unsecured, short period debt tool issued by a company, usually for the finance and inventories and temporary liabilities. The maturities in this paper do not last longer than 270 days. These papers are like a promissory note allotted at a huge cost and exchangeable between the All-India Financial Institutions (FIs) and Primary Dealers (PDs).

Capital Adequacy Ratio- is a measurement of a bank’s available capital expressed as a percentage of a bank’s risk-weighted credit exposures. The capital adequacy ratio, also known as capital-to-risk weighted assets ratio (CRAR), is used to protect depositors and promote the stability and efficiency of financial systems around the world.

Provisioning policy- Under provisioning, banks have to set aside or provide funds to a prescribed percentage of their bad assets. The percentage of bad asset that has to be ‘provided for’ is called provisioning coverage ratio.

Operating expense ratio (Opex Ratio)– It is a measurement of how profitable a piece of income real estate is for an investor. It is calculated by dividing all operating expenses less depreciation by operating income. A lower OER is desired as it means that expenses are minimized relative to revenue.

Difference between HFCs and NBFCs

• HFCs hold significantly longer duration assets like Housing loans etc. (15 to 20 year horizon) HFCs are less exposed to short-term wholesale funding. Comparatively Retail-NBFCs hold medium term assets like gold loans, auto loans etc. Retail NBFCs are more exposed to short-term wholesale funding.

• ALM risk dominates owing to longer duration assets in HFCs.Interconnectedness risk dominates owing to short-term debt exposure in NBFCs.
  

• Financial and Operating Resilience is a dominant factor in both.

Health Score

The Survey has created a dynamic health index i.e. Health Score which it argues can be effectively used as an early warning system. The index ranges between -100 to +100 with higher scores indicating higher financial stability of the firm/sector.

Some important metrics used in Health Score

• Short-Term Volatile Capital
• Asset Quality
• Short-term Liquidity
• Provisioning Policy
• Capital Adequacy Ratio
• Operating Expense Ratio

CHAPTER 9: PRIVATIZATION AND WEALTH CREATION

Strategic disinvestment is guided by the basic economic principle that Government should discontinue its engagement in manufacturing/ producing goods and services in sectors where competitive markets have come of age.

Recent approval of strategic disinvestment in Bharat Petroleum Corporation Limited (BPCL) led to an increase in value of shareholders’ equity of BPCL by Rs 33,000 crore when compared to its peer Hindustan Petroleum Corporation Limited (HPCL).

Modes of Disinvestment Policy

• Disinvestment through minority stake sale in listed CPSEs to achieve minimum public shareholding norms of 25 per cent. While pursuing disinvestment of CPSEs, the Government will retain majority shareholding, i.e., at least 51 per cent and management control of the Public Sector Undertakings.
• Listing of CPSEs to facilitate people’s ownership and improve the efficiency of companies through accountability to its stake holders.
• Strategic Disinvestment involves sale of substantial portion of Government shareholding in identified Central PSEs (CPSEs) up to 50 per cent or more, along with transfer of management control.
• NITI Aayog identifies PSUs for strategic disinvestment. For this purpose, NITI Aayog has classified PSUs into “high priority” and “low priority”, based o
• (a) National Security
• (b) Sovereign functions at arm’s length, and
• (c) Market Imperfections and Public Purpose.

The PSUs falling under “low priority” are covered for strategic disinvestment.

• Buy-back of shares by large PSUs having huge surplus;
• Merger and acquisitions among PSUs in the same sector;
• Launch of exchange traded funds (ETFs) – an equity instrument that tracks a particular index.
• Monetization of select assets of CPSEs

UPSC may ask question in the following manner-

‘Which of the following are modes of disinvestment policy?’

Return on assets (ROA): It captures the ratio of profits after taxes (PAT) to the total average assets of the company, expressed in percentage terms. An increase in ROA indicates that privatized firms have been able to use their resources more productively.

Return on equity (ROE): It is profit after tax (PAT) as percentage of average net worth. An increase in ROE reflects increase in firm’s efficiency at generating profits from every unit of shareholders’ equity.

Corporatisation of Disinvestment– Under it the Government can transfer its stake in the listed CPSEs to a separate corporate entity managed by an independent board. This entity would be mandated to divest the Government stake in these CPSEs over a period of time. It will lend professionalism and autonomy.

CHAPTER 10: IS INDIA’S GDP GROWTH OVERSTATED? NO!

New firm creation in the Service sector is far greater than that in manufacturing, infrastructure or agriculture.

CHAPTER 11: THALINOMICS: THE ECONOMICS OF A PLATE OF FOOD IN INDIA

National Institute of Nutrition- Hyderabad

Pointers-

• The absolute prices of a vegetarian Thali have decreased since 2015-16 though it increased during 2019. This is true both across the country and regions i.e. North, South, East and West.
• Affordability of vegetarian and non veg Thalis has improved over the time period from 2006-07 to 2019-20 .
  
• Prices of almost all the components used have been mostly lower compared to the projected prices since 2015-16
• Thali inflation (year-on-year growth in Thali prices) has cyclical nature but has shown secular decrease from 2006-07 to 2015-06.
• There is no specific trend in variability of Thali prices at the All-India level.
• Affordability of Thalis vis-à-vis a day’s pay of a worker has improved over time indicating improved welfare of the common person.