The Third Pillar

by Raghuram Rajan

This has to change. Elections are not enough, it is what happens between elections also that make for a vibrant democracy. If India is to bury the specter of authoritarianism and cronyism, if Indian democracy is to be better informed and a stronger check on the state and corruption, India needs a more competitive, and thereby independent, private sector with higher public status. It needs many more small and medium enterprises to grow and flourish, providing competition to the established business houses.

  That brings me to the deficiencies in the state. The state, while retaining the power to be arbitrary on occasion, is still not very effective; it tries to do too much with too few resources. Fortunately, the Indian state is also trying to reform itself. It is trying to bring professional expertise in laterally, and it is trying to use information technology to streamline delivery of its services and its monetary transfers to the public. These are important steps, but India has some way to go, especially in withdrawing from activities the state has no business being in.

  Perhaps an anecdote will make the point: When I worked for a while at the Indian Finance Ministry as the chief economic adviser, I was shocked by the heavy paper files that came across my desk—shocked first that we still used paper files in the twenty-first century, and second at the amount of back papers I had to read to understand the note tagged on to the front of each file that required my comments and signature. Once I commented and signed, of course, my comments would become required reading for the next recipient of the file.

  As I complained about this to a veteran bureaucrat, he gave me a simple solution backed by impeccable logic and experience: “Spend the least time on the thickest files. They are issues going nowhere, which circulate back and forth across desks, with everyone wasting each other’s time by adding yet more comments. That is why they are so thick. Devote all your time to the thin files. Those are fresh issues where a cogent opinion may actually make things happen.”

  He was right but there is a broader message here. India needs to drop the thick files, and focus more on the thin files. The state can do more by trying to do less.

  WHY INDIA HAS NOT DONE AS WELL AS CHINA

  China and India used to be sleeping Asian giants, but China awoke first. They used to be equally poor, but now China has raced ahead. China’s initial advantages of a healthier and better educated workforce were perhaps more important in the early flush of liberalization, and its lack of a competitive market or private property rights were not disadvantages—indeed, they allowed the state to push favored industries.

  Construction is probably the most important sector in the early phases of industrialization. It is a sector that employs unskilled workers—and hence can absorb many that leave agriculture. It is also a sector that contributes to the growth of other sectors, as businesses spring up to make use of the infrastructure. For example, it is quite magical in India to see the economic growth of a village as a good all-weather road is built connecting it to the city. The road allows trucks to transport goods to the city quickly, so farmers undertake new activities like dairy and poultry farming and horticulture. As they get richer, shops selling packaged goods and clothes open up in the village. Soon a kiosk starts selling prepaid cell phone cards, and not too long afterward, the village gets its first bank branch. Construction thus multiplies jobs and facilitates development.

  Perhaps the most obvious consequence of their starting conditions is that China has been able to expand its construction sector enormously, while India has been less successful. China has moved ahead because it has been able to fund construction projects with cheap credit, and land acquisition has not been problematic because all land belongs to the state. In India, by contrast, credit comes at market rates. More important, any new project requires a painful and long acquisition of the necessary land from owners. If land rights are not well established, it can take even longer. The time delay involved itself undermines the economics of the project. While the law permits forcible land acquisition for public projects like roads and airports, opposition politicians, sensing the political opportunity, are always willing to organize protests against these. India’s well-developed civil society, with each organization fighting for a special cause, often joins in. If the Indian state were effective, then these elements would provide an appropriate check on its power—indeed, Indian land acquisition laws are models of trying to balance the rights of the owner against the imperatives of development. The state, however, is ineffective, so land acquisition, and hence construction, is unduly delayed. India’s infrastructure projects are, for the most part, too little and too late. In the early stage of growth, China has had an advantage.

  India needs to speed up land acquisition. It would be tempting but shortsighted to lighten protections for the land owner. That would only bring the politician in to agitate against acquisitions that are deemed arbitrary in the court of public opinion. Instead, India needs to make the land owner a partner in development by giving them back a share of the developed land, as some Indian states are doing successfully. It could also focus some of its limited state capacity on establishing clean property rights in land, thereby easing ownership and sale, while giving up other activities it does less well, such as running an airline or bank. If it does this, India has plenty of easy catch-up growth still ahead of it, building roads, ports, railways, airports, and housing. Moreover, if it continues improving the education of its youth—and the quality of their learning needs to be the focus going forward—it will have the low-cost labor and the infrastructure to establish a larger presence in manufacturing, to add to its capabilities in services. Given the right reforms, India can still grow strongly for a long while. And with its vibrant democracy, it is probably better positioned than China for growth once it closes in on the frontier. It needs to get there first, though.

  THE THREAT OF POPULIST NATIONALISM

  Continued growth will put pressure on both China and India to liberalize further and become more market-oriented. Almost inevitably, this will make them look more like successful advanced economies, making global engagement and dialogue easier. Much slower growth, though, could lead them in more worrisome directions.

  Leaders have an alternative to moving toward a liberal open-access society. And that is to exploit the populist nationalistic fervor that is latent in every society, especially as economic fears grow and disenchantment with the corrupt traditional elite increases. Both China and India have large numbers of people who have left their village community, and have moved to cities in search of work. These large young migrant populations, both tantalized and shocked by city life, and yet to be integrated into solid new communities, are ideal raw material for the populist nationalists’ vision of a cohesive national community. They become especially malleable in times of slow job growth, as they see the incredible opportunities that the better-educated upper-class elite obtain. Rural village communities are also not immune to modernization. They too are intrigued and simultaneously repelled by the images they see on television of the lifestyles of the liberal urban rich.

  In India, the Hindu nationalist movement tries to tap into such people’s desire to anchor themselves in tradition. It also attempts to focus them on grievances that will shape them into a committed following. It exploits the sense among the majority Hindu population that they have bent over backward to appease minorities, especially Muslims. As with all populist nationalist movements, it portrays a glorious if mythical past, where Hindu India shone a beacon for the world to follow, while dismissing the entire period of Muslim rule over large parts of India as an aberration. For the rootless migrant from the village, the movement offers membership in organizations like the Rashtriya Swayamsevak Sangh (RSS), a volunteer paramilitary nationalist group, which drills its uniformed members and gives them a community, an ideology, and a sense of purpose. The truly committed majoritarian Hindu leader, drawn from a young age into the RSS, is usually personally austere—which endears him to those who dislike corruption—a
nd committed to the cause, which makes him ruthless in his methods. They are a serious threat to a liberal tolerant innovative India, especially because they are more single minded than other groups, and thus effective in using their periods in power to infiltrate India’s institutions with their sympathizers.

  India faces serious challenges if global markets were to close. As it is, manufacturing exports are becoming more difficult as developed countries automate to compete with cheap labor elsewhere. Some developed countries are making it harder to provide cross-border services, which India has developed a strong presence in. An increase in tariff and nontariff barriers to goods and services will make the export-led path to growth much harder for India. There is a protectionist streak among some Hindu nationalists, fueled by their business backers (they do have ties to business despite their seeming austerity), which will use the excuse of protectionism elsewhere to make India more protectionist once again. The private sector will then become yet more dependent on government favor. Therefore, the actions of populist nationalists elsewhere can weaken India’s democracy and strengthen its destructive populist nationalism. Democratic, open, tolerant India will be an important, responsible contributor to global governance in the decades to come. Populist nationalism around the world will make this less likely.

  Deng’s dictum to China was that to prosper, it should “hide [its] capabilities and bide [its] time.” China seems to believe that the time for that dictum is over. As President Xi stated in October 2017, “the Chinese nation has gone from standing up, to becoming rich, to becoming strong.”27 A great fear in Washington is that China is rapidly becoming able to challenge the United States, not just economically, but also militarily and politically. Hence its concern about the “Made in China 2025” program, which aims to increase China’s presence in advanced manufacturing industries like aviation, chip manufacturing, robotics, artificial intelligence, and so on. While the United States still has a substantial technological lead in some of these industries, it worries that China will coerce US firms to part with technology and steal any technology it still needs. Similarly, new China-sponsored multilateral financial institutions like the Asian Infrastructure Investment Bank make the United States concerned that China is undercutting existing multilateral institutions that the United States dominates. China’s hard power, as demonstrated by its militarization of islands in the South China Sea, and its soft power as evidenced by its One Belt, One Road initiative to build out infrastructure connectivity across land and sea from China, causes yet more unease in Washington.

  The reality is that China’s rise cannot, should not, be stopped. China has to be accommodated, especially in global governance structures. In turn, China also has to recognize global concerns about the means by which it has grown, especially its subsidies to industry and its appropriation of intellectual property. China has to become more responsible, now that it is becoming a substantial creator of intellectual property itself. It also has to assuage its neighbors’ concerns about how their territorial disputes will be resolved, and make clear its intentions about respecting the global rules-based order as its power increases. There is a dialogue to be had which can reduce concerns on all sides, though the rise of a new power, challenging an earlier hegemony, is always difficult. That dialogue becomes much harder if China suspects the developed world is ganging up to prevent its natural development as well as if China becomes more repressive politically. Chinese populist nationalism, centered around the Han Chinese population, and driven by a sense that developed countries have historically exploited China with unfair treaties, will be strengthened by acts precipitated by western populist nationalists. China has its own minorities such as the Tibetans and Uyghurs, who have already experienced the oppressive weight of Chinese nationalism. A more virulent populist Chinese nationalism is not a development anyone, inside or outside, will want to see.

  PART III

  RESTORING THE BALANCE

  You must be the change you wish to see in the world.

  MOHANDAS KARAMCHAND GANDHI

  Consider the sources of the imbalances we face today. Surging markets, enabled by the liberalization and integration that was necessary to reignite growth, and fueled by technological change and lower trade costs, have increased the potential for competition everywhere. This has created groups of winners and losers in every country. Semirural communities in developed countries, dependent on one or two large local employers, have been particularly affected by the factory closures and dislocation induced by trade. At the same time, even urban communities have been affected by the flight of the capable into enclaves of their own. Vibrant communities that used to have a mix of economic classes are left with less social capital, worse community institutions such as schools, and less wealth with which to raise the capabilities of their members. Disadvantaged groups are turning against one another as they find their economic and social status slipping.

  Well-to-do incumbents have reacted to the increasing competition in markets by attacking its sources. For instance, they have raised barriers to entry through patents, copyrights, and licenses. This has further narrowed opportunities for the modestly educated, whose jobs in declining regions and industries have disappeared. As a few large firms dominate each industry, the potential for monopolization is increasing, while the independence of the private sector from the state is at risk. The state, burdened with debt and large entitlement promises made in happier times, is strapped for funds. It is also paralyzed in many countries, with discredited establishment parties at each other’s throat, and challenged by radicals of all kinds.

  In the meantime, technology rolls on, threatening to automate many more jobs, while not yet producing the growth that will help address society’s difficulties. With society’s values having turned more individualistic, and with little empathy available to paper over differences in already diverse societies, there is none to spare for new immigrants. Nevertheless, population aging is already shrinking labor forces in many countries, so they may well need to encourage immigration. And even as countries turn inwards, bent by the weight of domestic problems, there are very visible signs that climate change, which will require global cooperation to a degree we have never seen before, is upon us. We need to act now, both domestically and internationally, but the will and ability to act is weak.

  Astute populist nationalist politicians see their chance amid this turmoil and respond. They emphasize an exclusive national identity, which serves as a replacement for the enfeebled community identity. They rally the native-born against minorities, immigrants, and the ceding of powers to international bodies. They suggest erecting tariffs against trade, much like the mercantilists of old, though they reserve for themselves the right to decide which industries will be protected and which will not. By accumulating such arbitrary powers to help or hurt the private sector, they will exacerbate the tendency towards cronyism.

  When many countries engage in nostalgic nationalism, each pining for an era when they were strong, international relations become a zero sum game, and cooperative international action an impossibility. As countries assert a muscular nationalism, nations come closer to conflict. For this reason, the natural offset to an expansion in the market cannot be an expansion in the powers of the state, it has to be more a strengthening of the community through local empowerment. The centripetal forces within the local community have to be enlisted to offset the centrifugal forces of the global market.

  We turn in these last five chapters to propose potential remedies. Specific plans will vary by country and location, and their details will have to take into account the difficulties of implementation. Rather than focus on details, I will explain why my proposals go in the right direction, given the analysis thus far.

  I will explain how inclusive localism may contain many of the answers large diverse nations need, and what we can do to achieve it. The state will have the responsibility of creating an inclusive framework at the national level,
using open-access markets to include and connect a diverse set of local communities. We will examine the kind of national constitution that will work well in a diverse country. I will describe localism: the process of decentralizing power to the local level so that people feel more empowered in their communities. The community, rather than the nation, will become a possible vehicle for ethnic cohesiveness and cultural continuity.

  As markets have globalized, the power and resources to act have also drifted up, from the community to the region to the state and even to the superstate. Some legitimate national powers are now circumscribed by international agreements. Within nations, far too much is centralized, when there is little rationale for doing so. Localism therefore means returning power back to the people, from the international sphere to nations, and within nations from the federal to the regional to the community level. It means following the principle of subsidiarity strictly—powers should stay at the most decentralized level consistent with their effective use. Empowerment will force each one to take some responsibility, and make it harder to succumb to apathy or finger pointing. It will allow groups the possibility of maintaining identity, cultural continuity, and cohesiveness.

  Many fear that empowered communities could become shelters for racists, easily hijacked by corrupt cronies, and prone to oppressive obscurantist traditionalism. All this is possible even in today’s communities, but could become worse if the communities have more powers. Yet inclusive localism does not mean community powers will be unchecked—they will be balanced by the other two pillars, the markets and the state, which will force openness and inclusion. Federal law will ensure the community will be open to goods and services from across the nation, though the community itself will have substantial say over regulations governing local production. Moreover, the free flow of people, both in and out, will be guaranteed by law. Communities can still try to be narrow and parochial, but the economic costs of being so, especially given the possibility of benefiting from the flows of trade and people across its borders, will limit how unproductive or oppressive the community will get.