This is going to be a long chapter. I do not want to split this up. So tighten your seat belt and hang on while we to into a course in strengthening our fundamentals.

Proposed sections of this chapter:

0. The Mansion of wealth and power: Facts.

USA deploys its armed forces in about 20 countries outside the USA. The list of these nations, along with expenditures incurred, and number of men deployed, is avialable at at this site of the Directorate of Information Operations and Reports of the Department of Defence, USA. While the USA does not run the daily affairs of the world, it effectively "controls" the world. Let no nation believe otherwise.

Univ. education is vital: see US statistics in the US statistical abstract of 1997. Also, patents info in there. Take printout.

1. The Pillars of the Mansion:

i. Technology
ii. Competition and free markets
iii. Government as an enforcer of property rights and provider of public goods
iv. Democracy.

i. Patriotism
ii. Modern attitudes.

* The love of gold
* Caring for the poor more than caring for the best

We cannot even imagine what has been happening in the world unless we sit down and carefully understand the fundamental facts of wealth and power. It is not worthwhile for me to create tables for all the countries of the world here; I will focus on a few very basic and powerful set of facts, which, once understood, will display clearly India's poverty and weakness.

Do not be under the false assumption that elementary eduacation can lead India to riches. While there is no doubt that we have missed out on elementary education, the fact remains that in the USA as many as 24% of the population in the age group 25-64 had received University education in 1994, compared with say, only 12% in the United Kingdom. (Statistical Abstract of USA, 1997, table 836)

Table contemplated: for US UK Japan Korea India Pakistan Bangladesh

a) Time series (50 year points) for GDP
b) Time series (50 year points) for per capita income
c) ... Population
d) Growth rate of the economy
e) Total wealth
f) Stock market capitalization [Indian capitalization is about $110 billion in 1997.See this.
* Total amount of gold held by central banks of the world: 11 billion ounces, worth, at $300 per ounce, a total of $3.3 trillion.
g) Holdings of gold by the Reserve Bank
h) Holdings of gold by the people (per capita)
i) Annual expenditures on defence
j) Total number of patents
k) Total number of Nobel prizes
l) Total number of Olympic medals
{Some data on the internet: Indian economy in tables and graphs | Get the detailed market capitalization of the top 50 Indian companies. GDP of India in US dollars in 1995 was 225 billion. After depreciation of about 25% and a nominal growth rate of GDP of a smaller amount in the past two years, the dollar value of India's GDP should now be about $200 billion. In comparision, the value of Microsoft Corporation is $150 billion. Of course this is not the correct way to measure the purchasing power of India's income. So we use PPP estimates by IMF.

GDP in 1988, per capita, and ppp (economist book, p. 32-3, 34-35)); 


		GDP billion	GDP $percap	GDP ppp %
		1988		1970	1988	 1988
US:		4,881 		4922	19815	  100
Japan:		2,850 		1930	23325	   72
South Korea: 	  171 		 260	 4081	   24
North Korea:	   19 		 	  858
India:	          267 		 100	  335	    4.7
Pakistan:	   41 		 150      384       9.0
Bangladesh:	   19 		 100      179       5.0

In 1994, the US stock market capitalization was 5 trillion dollars. (see this). Also, data on India etc., is available in the Economist handbook, p. 146.

A single - relatively common - private university in the US spends $1 billion annually, which is about Rs.4,000 crores, and is more than what a modestly large state government, say, the State of Assam, spends annually. About 25,000 people live on this money here. About 250,000 people live on the same money in India.

A single art museum - the Getty Art museum in Los Angeles, has buildings which have cost $1 billion, which, as mentioned above, is the same as the money spent by an average state government in India.

Single movies are being made in Hollywood which cost $300 million, or about Rs.1200 crores. These movies get back much more than that.

The capitalization of Reliance Industries is about $2 billion. The capitalization of most small companies in the USA is more than $2 billion. There are thousands of companies bigger in size than Reliance Industries.

Technology is the mother of money. That is the only reason why India was rich in earlier times, and it is the only reason why people or nations who are rich are rich, today. No Indian has ever made money faster than Sanjiv Sidhu of I2 Technologies. He came over about 15 years ago the to USA to study as a student, started this small computer company, and is now worth half a billion dollars, or about Rs. 2,000 crores. But he is not alone in making huge amounts of money. There are many others like him who are millionaires, like Desh Deshpande who founded Cascade Communications and then merged with Ascend Communications.

Japan occupied Korea in 1905. In 1945, Korea became free from Japan's control. Both Russia and USA set up political outposts there. The Korean war began in 1950 and the Koreas split in 1953. The USA pumped in large amounts of money into South Korea till the end of the 1950s, but most of this money was squandered by a highly corrupt political system. In May, 1961, military junta took over. Park Chung Hee took over as the dictator. He was elected as President in 1964 and remained President till ...

The GDP of Korea was 1/20th of that of India in 1965 (i.e., S. Korea was smaller in size than an average state of India. By 1989, it came very close to that of India.

Since I first started jotting down these writings, I am becoming extremely negative on India's future. The reason is that nobody and in particular no nation has escaped - so far in history - the consequences of their actions. The truth always emerges triumphant. If an economic or political system is defective, people can keep on trying to boast about it, rationalize about it, or otherwise defend it, but if the system is bad for the people, it will show itself as bad in comparison with the good, and the people will recognize it sooner or later.

History is littered with the remains of ineffective economic systems such as Argentina at the turn of the century, the Philippines before World War II, the Soviet Union, North Korea and now, the bureaucratized and politicized economies of South East Asia. The latter are not dead yet, just undergoing a transformation. So also, all failed systems have had to transform, or perish.

Before going on further, I must say that I have looked all around myself, tried to study various economic systems, and looked at human nature, and the only durable system so far devised seems to be the capitalist system with democracy and government intervention in the supply of public goods. This is the only system that allows for intellectual and economic competition. This is the only system in which justice is meted out instantly - by the market (in one case, by the market for goods and in the other by the market for ideas).

The fundamental issue is to determine whether a given nation respects the market (which represents the decisions of millions of people) or a few handful of "chosen" decisionmakers. To succeed in this competitive world it is essential to respect the market. The market is not a bad thing, even if it may involve speculation, over-shooting, speculative bubbles, volatility, or recession. The reason is clear. Human beings are progressive creatures, always trying to displace or improve older things. The market place (including the market for votes) is the only place where, being given the guarantee that the basic rules of the game will be protected, they can sell their ideas or goods, and get instant feedback about their quality. Further, human beings are individually and collectively susceptible to errors of judgment. The lesser the number of individuals one relies upon to take critical decisions for an economy, the greater the volatility and risk associated with human existence. This is obvious when one looks at the economic performance of nations under dictatorships. In some cases the nations do outstandingly well, but in many, there is complete chaos and ruin. If one is afraid of markets, one should be afraid far more of decisions taken by a few. In any case, the largest and greatest success story of them all - the United States of America - did not require any dictatorships to outperform ALL dictatorships and all limited edition dictatorships such as socialisms of various nations. The case rests.

Competition has been and will be the mainstay of the long-term successful nations. These nations nurture competition as the most hallowed feature of their system. Those nations that do not nurture competition will - as invariably as the sun sets in the west - fall by the wayside and be the subordinate nations of the world, needing to be "bailed out" of their stupidities from time to time. Like India, in the 1960s with foodgrain from the US and in the early 1990s with foreign exchange from primarily a U S funded IMF. We are essentially a subordinate nation to the United States, no matter how much some of our political leaders tout our greatness or our role on the world arena. We do not dictate our will in the world because no one really listens to us. No one cares to listen to a loser.

The last time any Indian played a major role in the world was when Gandhi influenced the eruption of human rights all across the world, including in the United States and South Africa. But that's about it. No other Indian has counted for much in the writing of the history of the world of the 20th century.

Let us see carefully what is wrong with India and why it does not count for much anywhere (except now as a supplier of human brain power). It makes little sense for an investor sitting outside India to make truly big investments in India since we have not nurtured competition as the most sacred thing in our society. We pass the buck on the bureaucracy and red-tapism. Rubbish! The investor is least bothered about red-tapism if at the end of the tunnel, by bribing and by cheating, he or she can achieve high quality production which can then swamp the world markets, such as the production of Adidas shoes or Levis pants in the South East Asian nations. These nations are not known to be the most free of corruption or red-tapism, but the investor was lured t o these nations by the presence of capitalism in howsoever flimsy a way: by the absence of wasteful government expenditures and by the absence of strong labor unions which prevent the achievement of the highest output with the lowest cost. In the short term, these nations even appeared to be anti-labor; but due to the huge success in production, poverty has been virtually banished from these nations.

The thing to remember is that one can go nowhere in life by simply increasing production. What is produced must sell, sooner or later, or the firm and the economy will collapse. That is where competition comes in, and not necessarily in the stage of formation of a firm. A firm can be formed in China (a communist nation) or in the USA, and it does not matter how it is funded - by debt, equity or subsidy. If the firm has to succeed, it must produce goods that sell. Full stop. Nothing more than that is required.

And this is where competition comes in. And respect for markets comes in. To out-grow another nation, one nation must outproduce and outsell the other. It will do no nation any good to have its firms produce shoddy quality goods for its own nation, or for its own poor, as we have done for too long in India. We must let the rest of world compete for the expenditures of our consumer in India, and we must compete for the expenditures of the consumers in other parts of the world.

While I truly care for an honest and clean government, I care far more for a government which respects the consumer by respecting the markets and by encouraging the production of goods which sell.

Instead, we have done much to curb competition in India. We just do not allow the world free entry into India, and fail to allow our domestic industries to develop competitively. There is no virtue in sheltered development. I cannot make my child develop into a competitive tennis player if I just let him play within his village or street. I need to let him go out and play with other, outside players. That builds essential human character. If these qualities are missing from our industrialists (the quality of being able to take both losses and wins), then we can never be large players on the world market. Competition does not guarantee that I or you - as individual players - will do well. Instead it guarantees that we as individuals will do our BEST. Collectively, that guarantees that we will do our best as a nation.

We have not liberalized enough. We are still not learning our lessons about free markets. We shut our eyes to the interplay of human incentives. How can bureaucratically managed public sector units help us progress? It is easy to show one or two industries that have done well. That is not the point. Always look at the total picture. What has been the return on our public sector? Why do we insist on hiding our face in the sand? We have been throwing good money after the bad for the past 50 years. You cannot afford to do that either as a private individual or as a nation. Stop losses. But instead of a bureaucrat deciding that, let the market decide it. Let shareholders decide. Let the stakeholders decide. As a first step, give back to the people everything that is productive, and let them then decide what they should do with it.

Nations whose economies were not even larger than some of our states' economies have overpowered us on the world arena. Economics teaches that nations with lower economic levels can achieve faster growth rates (called the catch-up hypothesis). This indeed did take place with many nations in Asia. Unfortunately, we did not give ourself any chance. We taxed our creative people too much (while exempting from tax a majority of the population), we taxed imports too much, we wasted our tax revenues by pouring money into firms that produced rubbish quality stuff which did not sell anywhere in the world outside the captive markets of the closed economy of India. We committed hara-kiri on a mammoth scale, unmatched by any nation in this century with the exception of perhaps, the Soviet Union and North Korea. A nation of bright and often brilliant young people has come to the state today where it counts for naught on the world scene. As an Indian I find this state of affairs unacceptable to me. It must be unacceptable to you. It is not something we need to live with.

If we (Indians) were to possess adequate confidence in ourselves, we would not fight shy of competing on equal footing with the rest of the world. This means that we would say to the world, in every field of activity, "Come on, let us contest!" This would mean that we would allow the consumer to choose the goods at the actual price of the goods. If our business people cannot produce a particular level of quality which consumers demand, then we should accept our defeat in the "contest" and allow the better producers to come in from wherever they are in the world and produce goods for us (maybe on mutually beneficial terms). Of course, this might be extremely shameful and even humiliating in the short run. But at least we will be saved from the ignominy of being a nation four times the size of the US in population but with less than 1/20th of its per capita income, even after adjusting for purchasing power parity (in dollar terms our per capita income is about 1/70th of that of USA). At least we shall then learn how to produce better goods and our future generation will become sharply competitive.

Facing up to the reality of this world has not harmed any species. Nature is replete with examples of species that died out because they were sheltered and could not face up to the smallest of changes when a competitor entered. The lion ruthlessly (not e the word) kills the beautiful, cuddly, playful cubs of its rival, with the brutal crunching of the head of the cubs with its jaws. This is good. Please note that. This is not immoral or violent and hence something to be condemned. The lion species would not survive otherwise. It is only through intense competition for the passing on of the better genes that the lion is the king of the jungle. Even the smallest species of nature goes through various mechanisms to pass on its genes successfully. There is no mercy shown in nature to the weak or cowardly or timid or foolish.

Economics is just a branch of the same science of nature. Adam Smith discovered this law of competition well before Darwin came on the scene and he found that this is the only way for a society to succeed.

The economy is ferocious and ruthless. Do not be deceived by the calm of religious preachings or humanitarian principles or by the relative calm of the stock market. The economic and political market is a jungle and only the fittest can survive here. W hat appears calm on the surface is actually extremely turbulent and competitive inside. A vast majority of new ventures simply cannot survive to their second year. A vast percentage of firms listed on the stock markets yesterday are no longer listed today because they collapsed on the way. A vast number of companies will close down. Even the bluest of the blue chip companies are constantly under threat. Bigness is no guarantor of survival, as many an aging lion has found in the jungle.

Why should companies close down? Is this not a gross waste of human effort and energy? First you build a huge plant and factory. Then you employ hundreds and thousands of workers and establish their houses and schools nearby. And then you let this huge effort close down? What about the poor children of the poor workers? Who will look after their future? Merci! Let us not close down these factories; let us subsidize these children! Let us carry on paying the workers somehow, let us ... socialize ... the economy. This is no flagrant statement. Hundreds of public sector units in India are actually at this stage since the past forty years - getting permanent subsidies from you and me - the tax payer - to keep them afloat.

Can you build competitive muscle this way? If the market refuses to buy your goods, can you sustain the society this way? I don't even care for the physical care of these children and workers. I care for the character of the society. Can you build true character in a society this way? By teaching the children of our nation to plead and beg for the droppings of our rich tax payers, and when that fails, the droppings of the rich in the USA (the few billions we squeeze out of the IMF are actually the droppings of a nation of this size)? What would you rather be? A society whose children can afford to buy a brassiere for ten thousand rupees, or a car for three crore rupees, or a society whose children need to eat the scraps of paper they find in the rubbish bins? You have to be rich, I say, and powerful. The world does not care for the poor, timid, weak, or the foolish. I would rather be a Mother Teresa working on saving the souls of the poor of other nations than have someone come over to my country and try to save our poor. I don't want any poor. I don't care to have any poor. I don't want dignity in death. I want dignity in life.

But you and I are afraid of markets. Markets seem to punish brutally without there being any "big dictator." We don't like firms closing down. We hate having to admit that we were outsmarted in the marketplace by someone else who produced a more innovative and higher quality product than us. But who is this fearsome market? Whom are we afraid of? We!! We are the market. We are that dictator. We, through our buying and selling decisions, determine the fate of the incompetent. We would like to buy the best. We don't care for being cheated by high prices for low quality goods and services. Can't we simply respect ourselves? Our decisions? The fact that we like better more than worse, the fact that we like something more than the other. And if we respect our own decisions then we have nothing to fear from the markets. These are the most rational and powerful mechanism devised by mankind for enabling the best minds and best entrepreneurs to display their skills and become rich through producing good quality and low priced goods.

By refusing to buy goods made in India, the world is effectively killing India. But we do not seem to understand why. It is not one single person sitting somewhere in the USA who is deciding this. It is the billions of individuals across the whole world who are deciding this. There is no imperialism or discrimination going on here. It is only the power of the market. Japan can sell its goods and so can Korea. Not because people sitting in the rich mansions of the USA love the Japanese or the Koreans, but because they love the goods they produce. Period. You don't have to love the worker who produced your goods. That is why the markets are so important.

On the other hand the great dictators want us to love them and sing praise about them. Actually, I hate the idea of kow-towing to any other human being, be it the President of a nation or the beggar down my street. I really don't care for being asked t o love or sing praise of any one or more leader. I care to lead my life in a simple manner and to be able to do what I want. I want to be allowed to buy and sell what I want. I want a market to go to where all the goods that are produced in the world are available at whatever is their market price (determined by the seller), and I want to be able to choose the goods I want to buy or if there is something I feel that I can sell, then the ability to go and sell at the price that the market will pay. That is my idea of a successful society and a good place to live in. That's it. I don't care who did what for our nation, and who sacrificed what for us. All I want to know is that TODAY, having achieved political freedom, where is my freedom to buy and sell? I really don't care for political leaders telling me what to buy at what price, and to pay homage to them at the end of it all by building them a statue. If I had to build any one statue in my life, that would be a statue of liberty representing the liberty to buy and sell in the market.

Let us not fool ourselves any longer. You want to be rich and powerful, but want to hide yourself from global competition? If so then you are a fool and a fool is always suitably rewarded: as has India been rewarded for its policies of the past fifty y ears.

Essentially then, to repeat what I have been saying: Either eat or be eaten. But do not, for God's sake, cringe in a corner of the world trying to create a non-competitive world, something which nature never meant to be. There is no harm if we c an get victory or freedom out of non-violence, but there is no evidence any where in the history of the world of any nation becoming stinking rich by virtue of non-competition. The Romans were a great empire because they were ferociously competitive and u sed the best minds and technology in the world. The USA is great today for the same reason.

In India we believe that our greatest period is past; that our great men are no more; that our present is rotten and stinking; that our politicians and leaders and everybody around is a pale imitation of what our "forefathers" were. But the whole issue is that unless we build our abilities TODAY, no one will give us free money in honor of our past. Everywhere there are waves and hordes of people, working hard to build their skills. We do not stand a chance if we do not compete with them and outsmart them. We need to learn from the best by directly trying to beat the best at their own game. We have to respect the world. We have to take reasonable risks in our personal lives, and seek self-actualization through contesting against the best. To take a simple illustration: Those who seek security put their money in banks and earn a fixed amount of interest. But those who take reasonable risks, and put their money in stock markets, have always outperformed these security-seeking people in the long run. In fact, to take the example of the USA, if you had bought $1 worth of treasury bonds in 1920, and another $1 worth of the stock index, then despite the major collapses and crashes of the stock market, you would have made thousands of times more money from facing risk than you would have by avoiding risk. Taking moderate risk is harder on the stomach than taking no risk, but look - where these moderate risk takers reach in the long run. Facing up to global competition is something like this. It is risky but it builds character and keeps our society nimble. Workers who are kicked out of a job get another one because they continually train themselves and upgrade their skills. Those who face up to the competition by building up their skills become managers, and t he society gains from these skills by becoming more productive.

Thus, "competition" is the golden mantra that India MUST adopt as its very own. Unless we make Indian markets completely competitive, I will retain my long term negative view of India's future: because the truth always wins. India will sink lower down in the list of nations. We will continue to be beggars on the world scene, begging for cheap loans and other aid. There are signs that we are now beginning to trail the Sub-Saharan African region. But we will not stop there. We will end at the bottom of the heap.

As far as I am concerned, this is the essence of all that economics has to teach us and all that I have learnt in my years of study and travel abroad, as well as through my years of working as a bureaucrat. In any case, this lesson is all that really matters. Other uses of economics, like modeling the economy, or even worse, "planning" the economy, are trivial mathematical exercises which do not require even a moment's notice of the citizens. Let the economists tinker with their mathematical toys and try to wonder about hyperspaces and the like. No earth-shaking information has ever come out of the economic science since Adam Smith and I do not expect to hear of any thing glorious from this mathematical tinkering for the rest of my life. But this - the lesson of competition and respect for markets and thus of the price system - is a lesson so profound that thousands of years will go by and mankind will continue to marvel at the beauty and power of this simple lesson. Future generations will also marvel at how those nations that were foolish enough not to see this simple truth - due to the mental or other disability of its leaders, were brought to their knees repeatedly by those who were more competitive, till finally (and hopefully) they learnt the lesson.

I cannot feel greater pain at this time than that I am an Indian citizen. Not because I am an Indian (of which I am proud) but because of the mess that has been forced on us by our misguided leaders. I know that this pain is universal to all Indians. W e simply try to hide this pain and shame by looking past our shoulders into our "glorious past" and our Golden Age (when we were rich, for the last time that we know of). We hang our heads in shame when we are unable to gain access into places like the big hotels where only the rich can go. A personally paid for air-flight is something undreamt of by most of us in India - a thing which is common across the rest of the world. We hang our heads in shame when we realize that there are at least forty lakh crore-patis in the USA, and only a handful in India (including some Prime Ministers and Urban Development Ministers). And so on. I don't want to go on. I am so depressed. But this cannot be tolerated for ever. Something has to give. Our shame must be put to good use. Our jealousy of the rich nations must be put to good use. We must learn economics. Not too much maths. Not too much equations. Nothing but competition. Throw open our doors to the products of the world. And let our sheltered industrialists and entrepreneurs go out into the wide open world. And face the fact that some of them will die. If I can pass on this "secret" lesson (about competition) to at least one person in India, I will die a happy man.

Go, my child. Fight this war of the marketplace an d may you win infinite victories for India by being able to sell your goods to the whole world. May you prosper and grow rich beyond your wildest imagination.

Patriotism :

On reading about Korea and Japan, I was struck by the emphasis many authors put on the sense of patriotism as a cause of success of these countries. The businessmen of Japan were determined to do good for Japan, and the Koreans were determined to make Korea great. The politicians also repeated this great ambition at every opportunity, and this sense of patriotism has stood Japan and Korea and many rapidly growing South-East Asian countries in good stead through the tough times when they were very backward. And even now, when they are rich, it keeps these nations from splitting or in wasting precious human effort in futile things that keep happening in India, such as our language agitation/s, Kashmirs, Panjabs, Assams, and zillions of other such battles within ourselves. We never seem to have the time for the nation: so much are we engrossed in our minor self-aggrandizement.

I do believe that we in India can learn a lot from our East Asian neighbors. We were a great country at one time. Just because a couple of millennia of wars, disruption, and colonialism have intervened in the middle, we cannot lose our sense of destiny . Each Indian has the seed of a great man (or woman) lying latent in him or her. We need this quality - love of India - even as we dismiss anything that is untrue, such as the current economic regime (of the past 50 years).

For those who blame the British for "colonizing" us, let us look at the history of the way in which some of us basically sold off our nation to them. The victory at the Battle of Plassey was not a victory of strong technology over weak, but of cunning and treachery. Mr. Mir Jafar, a rascal of the highest order, took bribes (a normal Indian practice?) and handed over Bengal to Clive after a few hours of battle. [Battle of Plassey]

At this moment I believe that it is necessary for all those Indians who truly love their nation to sit down and seriously examine what is going wrong with India. And then, we must speak out. Let there be a competition of ideas and let the person/s whose ideas are the most sound and correct, rule India. That is what all patriotic Indians should do at this stage. Keeping quiet won't do, nor will it do to try to impose one's ideas on the people. Let there be a competition of ideas and let the people decide.

We need to encourage efforts by those of us who are working to develop their potential. Perhaps the best way to go about doing this is to subsidize education; in fact, a basic paper in this area by Robert Lucas (1988), shows how the social returns to education can be much larger than the private returns. The greatest thing that Bill Clinton has done for America is to subsidize higher education so that two years of college becomes universal in America. We have not yet succeeded in making primary education universal in India. How can we expect our children to compete with the best in the world if they have had less education than others, who in any case have such a major advantage over us in terms of resources?

I will summarize my views on this topic briefly at the moment (more on this later), by first beginning with a quotation which seemed extremely relevant to me: "Over twenty years, Brazil's poor improved their real incomes far more than India's despite India's improving income distribution, simply because of the much faster growth of Brazilian aggregate income." (Pfeffermann, 1991). Further, Fields found clear evidence that in almost all cases, poverty is reduced by growth. Korea was a poorer country than ours fifty years ago. Today, it not only has a higher per capita income, but the poverty of its poor had declined almost immediately after it began its growth-enhancing policies in the 1960s.

Having implemented rural development programs for nearly a decade in the 1980s, I can personally vouch for the fact that our program quality and effectiveness has always been so poor that it had only a marginal impact on our poor. The reason why our poverty has declined so rapidly in the 1980s is because of the much more rapid economic growth that we saw in the 1980s, and if this logic is correct, then, our present policies will reduce poverty even more rapidly.

There is a very good justification, in my opinion, to close down almost all our rural development programs and instead to invest in infrastructure to further enhance growth rates in our economy.

Equality vs. Creativity: Which should be our God?:

After studying income inequality for some time, I have reached a tentative conclusion - that it is better that there be gross inequalities in a nation where everyone is above the "poverty line" than that there be complete equality a nation where everyone is poor and starving. For more on this complex issue, please take a look at my term paper on this subject.

Be that as it may, and returning to the topic at hand, I believe that we have to drive our system to creativity. I believe that human capital is the supreme form of capital. I would rather educate my son to the best of my capability than keep all the savings I could, by not educating him, in the form of gold, or even in industrial investments. A pile of physical capital is meaningless unless we have the people to exploit that pile of physical resource. We have wasted a lot of time talking about shortage of physical and financial capital. People are our richest resource, and we have largely wasted this resource. We need to do people-mining. Challenge each human being in our nation to dig deep into his or her brain, to come out with ideas which will change our nation for the better.

Indians have a love of gold that is based partly on their religious beliefs and partly on sheer love for that metal. It is the most amazing fact in the world that India, one of the poorest countries in the world, is the largest buyer of gold every year in the world. This is a sure way to commit suicide as a nation. If a nation has savings and funds to invest, these funds must go toward the purchase of shares of companies. That is known in common language as "investment." We must invest, and not merely save. That does sound a bit risky to many people: after all, don't the values of shares fluctuate, and might you not lose your entire wealth that way? Sure, you could, but only if you were particularly unlucky, or hasty. There is clear proof that in t he long run, shares always outperform any other form of savings. Gold is a good hedge against inflation, but shares outdo inflation by far, on the average. This means only one thing: if India is to really give a boost to investment, we must not rely on DF I (direct foreign investment), but persuade our people to dispose their gold and buy shares instead.

Academic insights for a Political leader

To a political leader, one would like to mention the basic discovery made by the Human Development Report of UNDP, 1991, which said: "The lack of political commitment, not of financial resources, is often the real cause of human neglect." We need to understand this, therefore, as being the starting point of our discussion. We need political will to change existing systems and policies wherever better ones exist, without necessarily utilizing more resources.

Second, it is not a good idea to go for or to depend on foreign aid. The transaction costs of aid are high, the tendency is to finance projects that would otherwise not be viable in a market system, and finally, it has been shown that by merely following the right set of policies, as has happened in East Asia, it is possible to do much better in terms of increase in GNP than by increasing aid. For example, it is much easier and more efficient to set into place policies that attract FDI and thus give a strong impetus to economic development. It is clear, as Bauer, P. (1991) [in The Development Frontier: Essays on Applied Economics, pp. 38-49. Hemel Hempstead: Harvester Wheatsheaf] has said, "[e]xternal donations have never been necessary for the development of any society anywhere. Economic achievement depends on personal, cultural, social, and political factors, that is, people's own faculties, motivations, and mores, their institutions, and the policies of their rulers. In short, economic achievement depends on the conduct of people and that of their governments." In fact, as he points out, wherever development has not taken place, "This lack of progress reflects factors that cannot be overcome by aid, and are indeed likely to be reinforced by it" (ibid).This point is further supported by the finding that increase in capital has played a very minimal role in the advance of the west. It was primarily technology that did the trick, and given that this technological progress is readily available through books and technology transfers, it is a shame that some nations still seek foreign aid, rather than following strategies and policies that are likely to be successful.

Step 1: Realize that we are boundedly rational and that no one person can get all the knowledge required to take good decisions (Hayek). Respect the decision making power of millions of individual decision makers who know best what they are doing. For this respect to be shown, realize that the market is the only institutions wherein the price vector (in perfect competition) takes into account the relative valuations and preferences of all persons. Therefore, as a first step, let the markets be free. And remember that "markets, like God, help those who help themselves." Do not harp on what is past, whether the British helped us or not. If we are truly a great nation, then we must be able to prove it through the markets - for the market is the supreme test of the quality of men and women: and the consumer and the voter is the king.

Step 2: Given various exchanges and transactions, you will find that some of them give rise to 'externalities,' some of which you had anticipated, and others which you did not realize would occur. Now, for each such case, analyze whether a firm or the government would take the decision better. In fact, the former decision is automatically carried out by firms. Therefore the only thing for a policy maker to analyze is whether a particular exchange/ transaction is better carried out by the market/ firm or by the government. It might be better in some cases to 'intervene' by setting punitive taxes, or in some other way sorting out the problem of inefficiency without directly taking up that responsibility. On the other hand, it might happen that it might be more efficient for the government to directly take up a certain responsibility. In that case, step 3 would follow. Note clearly: it is not enough to show that the market cannot perform a particular activity efficiently. It has to be shown that the government can perform it more efficiently. Now, that is indeed very difficult to show, since if the incentives were such that two agents who possess all incentives such as property rights and local information are unable to arrive at an efficient solution, it is very difficult to see how government agents - the bureaucrats - who have no property rights and lesser amount of local information, can do so more efficiently. Further, the entrepreneur is basically a person with a strong, life-long interest in a particular activity, whereas the bureaucrat does not. Only in the case of defense, and other activities which are absolutely essential to the existence of the state, is it easy to prove that government is more efficient. It is therefore easy to see why all our public sector undertakings have generally performed very badly, at least worse than comparable private sector firms.

Step 3: If it is more efficient for the government to take up a particular activity, then the activity should be organized with the least cost. This requires careful consideration of the quality and incentives of the bureaucracy. In this context it is important to note that one of the most important activities for government to carry out is infrastructure development. It is also likely that investment in human and social capital is efficiency enhancing for the society, if carried out by a n efficient bureaucracy. One has to be extremely careful not to allow the government to enter into activities which are not likely to be efficiency enhancing, given the constraints of low level of bureaucratic organization. This kind of needless intervention by government is sure to lead to government failure.

A typical sign of government failure is when industries or entrepreneurs or farmers or ordinary citizens decide that it is more economical for them to spend precious time and effort in trying to get 'rents' out of the system than in engaging in direct production. When people are willing to stand in line to get a tit-bit or spend days roaming the corridors of power to get a particular paper 'cleared,' these are signs of government failure. In all such cases it is mandatory that government review the existing arrangements carefully and redesign the institution.

Economic history, economic theory, and economic empirical testing all lead to the same kinds of broad conclusions now: you need a scientific or rational attitude among the people and you need the property rights and the market systems. These are the bare minimum requirements for economic growth and development.

I would like to begin with the simple concept of a Production Possibility Frontier. The concept here is that if a nation is able to utilize its human and physical resources in the best manner possible, then it would reach a point on the PPF. Bu t unfortunately, the existing reality does not encourage us to believe that any economy has ever reached this point, or is ever expected to reach such a level.

We must discount the continuous stream of invention here, and only consider innovation. The question we have to ask is whether our nation has implemented all possible innovations given the present level of technology? It is however, true, on the face o f it, at least, that the currently developed nations have reached a point very close to such a frontier, while developing nations have mostly been unable to do so. North calls this the structural frontier.

Our job is to analyze what things could be going wrong in an economy that could lead to such "under-achievement."

Institutions have to be designed keeping in mind the need to provide incentives to hard work and innovation. The greatest resource is human capital, and therefore it is crucial to enable the citizens to achieve their level of self-actualization (Maslow) by providing them with the right incentives.

One of the major mistakes made in developing countries has been to centralize decision making and to interfere in the functioning of markets where the markets are more efficient. Hayek pointed out the futility of such an exercise since the most vital information, which is local information, can never be captured by the central authority, and hence the allocation decisions turn out to be grossly inefficient.

The point to be noted here is that even if, in some cases, prices might not reflect the socially optimal information (such as in the case of the damage to the environment - externalities) it is best to begin with a market system as a standard point, an d to change the prices to the extent required.

It is vital to build excellent institutions to guard property rights since the incentives in an economy are closely related to property rights. It is also important to develop a good police system to lower the risk of theft of property. This is a basic foundation of modern economies.

3. Democracy: While it is not quite easy to show, there has been much debate in the literature and a consensus has built up recommending democracy as a best solution among alternative institutional arrangements for the form of government. Further, empirical evidence, while not showing a one-to-one relationship, has shown strong evidence of the positive effects of democracy on development. On the particular form of democracy, i.e., whether it should be the presidential form or the Westminster for m (British), evidence is not quite clear, but it would appear that a 'harder' government is better than a 'softer' one; therefore, a presidential form is likely to do better than a Westminster form.

4. Legal institutions: An independent judiciary is vital in order to sustain the rule of law and property rights, which, by default, are basic to the functioning of a successful economy. A strong judiciary

5. Bureaucracy: One of the most difficult institutions to reform is the bureaucracy. It is not enough to recruit some of the best candidates in the market. It is essential to impart the correct training to them in order to enable them to understand the way the markets function and also to attune them to the issues of institutional reform. Incentives must be based on merit and not on seniority. That is a basic incentive. One of the major theoretical tasks of a bureaucracy is to reduce the transaction costs to the producers. Unfortunately, at least in India, it is clear that bureaucracy often increases the transaction costs of business rather than decreasing it. Therefore, bureaucrats have to be trained in the examination of the transaction costs that they impose on the economy, and to drastically minimize it. The opportunity cost of time of a businessman is many times higher than that of the bureaucrat. That is the primary reason for 'speed money' in a developing economy. The role of administrative reform is to (a) eliminate all needless tasks taken up by the bureaucracy, and (b) to speed up dramatically, by use of computers, if necessary, the essential tasks that they must perform. It is vital to realize that the bureaucracy is driven by its own self interest and not by the professed 'public interest.' The bureaucracy will promote the public interest only to the extent that it supports its self interest.

There is a common complaint that policies are good but their implementation is bad. I would like to suggest that this is completely false. The problem in such cases is that the said policy has not taken into account factors, particularly the institutional ones.

6. Other institutions: These include a free press,

The economy is not perfectly competitive in the real world. There exist imperfections and various reasons for market failure. Therefore the tendency is to advocate that the government step in and fulfil the responsibilities that the market failed to do. However, there is the alternative problem of government failure to be looked into. In this case, the bureaucracy is unable to carry on responsibilities efficiently for various reasons.

- Openness not only includes setting low tariffs and avoiding subsidies, but also maintaining a reasonable real exchange rate which reflects the true value of the currency.

- Low tariffs are desirable to reduce distortions in the economy. It is also important that tariff rates are fairly uniform across products. This arises from the bad experience that LDCs have had earlier with low tariffs for capital goods. This shifted prices for producers in favor of capital goods and instead of promoting labor intensity, capital intensive goods were produced. This also had an adverse effect on exports since the comparative advantage of developing nations was lost. Coupled with the protection provided to these 'infant' capital-intensive industries, the net result was the inefficient utilization of labor and capital in the economy.

- No doubt, this process of 'trade liberalization' including the reduction of tariffs, must be done gradually, to avoid BOP problems, since the effect of lower tariffs throughout will be to cause a sudden enhancement in the imports, while the positive effects on exports will take more time, and involve other institutional reforms.

- One must also note, that 'free trade is possibly the best anti-trust policy of all.' If one allows foreign goods at relatively low prices, one can ensure that virtually no monopolies are established within the nation.

- A vital point to be kept in mind is that removing merely one of many distortions may not increase efficiency or overall welfare. In fact, the social welfare might decline! The crucial thing therefore is to set up an overall reform process, which will include a basket of inter-linked reforms at each stage, and to prevent a single ministry from taking off on the reform process on its own. It is essential to evaluate each reform carefully in the overall context before proceeding with it.

- While it is vital for a LDC to become more open, it is necessary to recognize that (a) exports can at best be a handmaiden of growth, and not its engine (Kravis); (b) it is vital to pressurize the DCs to become more open too, and to persuade them to stop the non-tariff barriers being set in place by them against goods produced in LDCs.

* Exploit the national comparative advantage: One of the most significant lessons that trade theory can give us is the importance of producing those goods over which the nation has a relative comparative advantage. For example, most developing nations have a comparative advantage in labor intensive industry, such as garments and electronics. Therefore efforts should be made to promote such industries through subsidies, rather than focus, in the initial stages, on import substitution in general (ISI), which has been shown to backfire and lead to loss of competitiveness of domestic industry.

* Sequencing of reform.

Neo-classical economics, which fails to take into account the role of attitudes and institutions in an economy, has always recommended rapid, big bang reforms. This, in my opinion, is a major weakness of this theory. The reality is that institutions are sticky and even if one reduces tariffs, for example, the bureaucracy might not be sufficiently reformed or prepared to eliminate other transaction costs that it causes to the economy.

It is clear that the need to create better institutions cannot be over-emphasized. However, this does not mean that economic policy reforms have to be kept in abeyance forever. In fact, the existence of better policies would have positive spillover effects on the creation of better institutions. Just as there is nothing quite 'optimal' in life, so also there is no known model of 'optimal sequencing.' All models suggest this sequencing in a general manner. The following sequence will probably find favor with many economists:

* Promoting equitable distribution: It is clear that structural reforms will affect some people adversely, while enhancing the welfare of others. It has however been shown (cite) that

- One of the best policies of equitable growth is to maintain low inflation (stabilization policies).

- Promoting gender development.

In this context, the 'confused' statements on 'power' and distribution by the Marxists and neo-Marxists have been boiled down today by the transaction costs and institutional economists into the study of residual property rights. Each exchange o r transaction has to be understood in the context of

* Promoting sustainable development: (Coase theorem). I would like to illustrate the issue and the theory by giving the example of forests. When a public forest exists without specific property rights assigned to anyone then there is no incentive for anyone in particular to look after the trees, and given the high value of the tree relative to the salary of the forest guard, there is a positive incentive to allow teak smugglers to cut down the trees. On the other hand, if the trees are allotted to private firms and strict instructions issued regarding the management of these forests, to enable them to retain the eco-system in the original condition, then that firm will have the incentive to cut down the trees only when economically viable , and to regenerate the forest. This has been done successfully in New Zealand and illustrates the famous Coase theorem.

* Population policy: While a clear negative impact of the role of population growth on economic development has not been observed, there is evidence of the negative effect of high population growth on the environment. Further, there is of ten an unmet demand for contraception in the population. This can be promoted by subsidizing the supply of contraception through family planning as well as by appropriately transmitting positive messages of the positive impacts of family planning, in order to shift preferences and attitudes of people toward population control.

1. Institutional engineering: The science of organizational behavior, in management, is in a relatively primitive state. Further, it is not quite easy to model the actual changes required in institutions that are available in a developing country. For that, an economic analysis needs of transactions needs to be carried out. Governance structures should be those which minimize the transaction costs in different areas.

2. Policy engineering. This can be done using modern models such as cost-benefit analysis and CGE models. Modern CGE models are able to simulate either economy-wide or sectoral-wide effects of various policy decisions.

Warning: Note what Deepak Lal (Against Dirigisme) has to say at p. 18 on input-output programs: "It has nevertheless been maintained that planners in the third world can and should directly control the pattern of industrialization. Some have put their faith in mathematical programming models based on the use of input-output tables developed by Leontief. But, partly for reasons just discussed, little reliance can be placed upon either the realism or the usefulness of these models for deciding which industries will be losers and which will be winners in the future. There are many important and essential tasks for governments to perform, and this irrational dirigisme detracts from their main effort."

Implication: Watch out for the policy recommendations arising from CGE. As De Janvry has also warned in his book on Qualitative methods, do not use CGE models for forecasting or prediction, but at best as general guides to policy.

Gerald Meier (p. 53) has four policy prescriptions, actually 5:

Others' thoughts:

* An article by Kaushik Basu:

The Times of India Thursday 23 January 1997

By KAUSHIK BASU

COMING into India from the East, as I recently did, can be disconcerting. From Kyoto to Bangkok it is evident that Asia is on the move. That is why one gets an occular jolt as one steps out of the airport in Delhi or Mumbai and drives into the city. It is not the way the middle classes live, which is much the same in India as in Korea or even Hong Kong. What is disturbing is the poverty and the squalor.

The Republic of Korea and India make for an interesting comparison. It was about 50 years ago that both countries attained independence, Korea a year after India. Both countries were crushingly poor with bleak prospects. The Koreans saved six per cent of their incomes, the Indians over 10 per cent.. Korea managed to export less than one per cent of its national income, India just over four per cent. In 1950, Alec Adams, the British charge d'affaires in Korea spoke of how he and other foreigners living there entertained ``the lowest opinion of Korean intelligence, mores, ability and industry. It is hard to believe... that they will ever be able to successfully govern themselves.''

Today an average Korean is 30 times as well-off as an average Indian in income terms. Over the next 10 years, Korea is expected to overtake several European economies. And unlike in much of Europe and America, this achievement has been coupled with a remarkably rapid mitigation of poverty and with sharply rising living standards of the working class.

India's policies were born out of an uneasy compromise between Gandhi's dreams of a simple, village-based economy and Nehru's Fabian ideals of the welfare state with a heavy-industry foundation, based on what he had learnt at Harrow and Cambridge. He would found his effort on a bureaucratic structure that was a leftover of the Raj. Years later Nehru would tell Galbraith: ``I am the last Englishman to rule India.''

To please both sides, India began subsidising small-scale industries and handicrafts, and also building large steel plants and dams. The welfare state part, however, was never adopted and ``socialism'' became a word that had to be used repeatedly to make up for this lacuna. A large planning effort was started and handed over to a bureaucracy, which was large and grew continuously. Calcutta's state-run Great Eastern Hotel has so many employees that a simple calculation shows that if the employees were t o move into the hotel it would be a self-sufficient housing project -- slightly cramped but manageable!

Korea and India's paths began to diverge in the fifties and more so, after Korea's military coup of 1961 that brought Park Chung Hee to power. Park was a Communist in his youth. Indeed when the coup took place, the Kennedy administration thought that i t was a Communist takeover. Unlike Nehru, he was a dictator of the worst kind. His only virtue was that he was imaginative in terms of economic policy, willing to experiment and change. Thus while Indian policy was marked by obduracy, Korean policy was known for its flexibility. Korea had some initial advantages. The Americans had forced an extensive land reform programme. But the key to its success was its open economy, export-orientation and intelligent government intervention which relied on market forces and at the same time boosted savings and investment and provided plenty of support for primary education and health facilities.

By the early eighties, Korea's average tariff rate was seven per cent, India's 35 per cent; Korea's exports were 32 per cent of her GNP, India's was five per cent; Korea's investment was 28 per cent of her GNP, India's 22 per cent. And by 1994, India's per capita income was $ 330, Korea's $ 10,330.

While in some ways this is a sad story for India, it is also one of hope. The Korean example shows how quickly a country can transform itself. India also has not done too badly since the early eighties. It has grown reasonably well, and especially during the last three years, it has grown by more than six per cent per annum. Through the eighties, India's poverty has fallen steadily. If we are to improve on this performance so that poverty is finally overcome, it is essential that we stay on course with the reforms.

There are many things that need to be done but given that it is a fairly disunited government at the helm, here is a minimal programme that I would recommend to the government on the budget eve. First, it should continue with the opening up of the economy. There will be a tremendous signalling effect to the world if India opens up consumer-goods imports. Moreover, there is no better way to ensure that the quality of our domestic production improves and we are better able to compete in the world market.

Second, we have to increase our savings and investment rate to 30 per cent -- the Ninth Plan target of 26 per cent is too unambitious. There are examples of how savings can rise in a short period. In Korea the savings rate was 19.5 per cent in 1982; by 1986 it had risen to 31.5 per cent. The other example is India's own. Our savings rate was 15.4 per cent in 1972 and it rose to 23.2 per cent by 1978 and it has remained stuck in a groove ever since then. It is time to give it another push.

Legal Environment

To achieve this we have to reform our banks and provide a general legal environment where contracts are respected. The legal environment is the key to investment and lending. Consider one very important form of investment -- that in human capital. If w e could get 20 or 30 year loans, many people would more willingly forego the opportunity costs of their children's labour and send them to school. Indeed, in developed countries people buy more education than they can afford at any point of time by borrowing against the future income they expect to earn from greater education. But in India it is virtually impossible to get a loan to go to school or college. The reason why banks do not lend for this is that they are not sure of being able to recover the loan with interest later.

Third, the government needs a much larger education programme. A part of the problem can be tackled by the market once a suitable environment is provided. But this is an area which needs government involvement. First of all, India spends too little on social services, which include health and education. In 1994, for instance, the Indian government's expenditure on social services was 9.3 per cent of the government's total expenditure. The figure for Korea was 32 per cent. The standard response of India n bureaucrats to this is that in India social security is largely a state government responsibility. But even if we consolidate the expenditures of the states and the Centre, the amount spent on social security does not exceed 16 per cent. We must allocate much more money to primary education. People have talked about the need to save on government administration by cutting back on personnel. If that were not possible for political reasons, the government should at least try to relocate some of its existing personnel to the education sector.

(The author is Professor of Economics at Cornell University and Honorary Professor at the Centre for Development Economics, Delhi.) (Source: http://www.timesofindia.com)