Rule of Law in India and its Economic Implications

If one were to look at the factors of production (land, labour, capital and enterprise) and look at the corresponding cases pending in Indian courts, one can have a very good understanding of the performance of the institutions arranged around these factors. It is no wonder that any task of economic reforms will have to take cognizance of the improvement of the legal institutions. But it is sadly under-rated. As of now, there are no standards for determining the quality of judgments passed by courts. Case pendency itself is taken as a sign of performance though I would argue that it is not a good enough indicator.

Read Wolfgang Koehling’s study on Economic Consequences of a Weak Judiciary: Insights from India for an elaborate study. An user-friendly abstract is stated below.

This paper examines the empirical relationship between the quality of the Indian judiciary and the economic development of the Indian States and Union Territories…The data indicate that a weak judiciary has a negative effect on economic and social development, which leads to: (i) lower per capita income; (ii) higher poverty rates; (iii) lower private economic activity, (iv) poorer public infrastructure; and, (v) higher crime rates and more industrial riots. The results are robust and the correlations are strong and negative.

You can also read Matthieu Chemin’s study Does the quality of the judiciary shape economic activity? Evidence from India.

There were 3.1 million cases pending in India’s 21 High Courts and 20 million in its subordinate courts in 2000. This paper examines the consequences of a slow judiciary on the contracting behaviour of firms in India…I [then] examine how the case pendency rate in state courts in India affects the contracting behaviour of 170,000 small non-agricultural informal firms. … My estimates suggest that a slow judiciary implies more breaches of contract, discourages firms from undertaking relationship-specific investments, impedes the access of firms to formal financial institutions, and favours inefficient dynasties. The negative implications of having an inefficient judiciary are large - moving a firm from the highest to the lowest pendency state would result in a 10% improvement in firm performance.

According to Amir Ullah Khan of the India Development Foundation, “the Government is a litigant in most of the cases. In a study carried out by the National Law School in 1993, it was found that the Government is the single largest litigant in Indian civil courts. The Government is plaintiff, defendant, appellant or respondent to appeals in 60% of the suits. Bulk of the civil litigation pertains to just five areas - taxation, credit, rent control, urban land ceiling and labour relations. … Government here includes central, state and Government owned institutions. That there is confusion on the definition of the State is another story for another study to tackle. … In any case the success rate of Government appeals is said to be as low as 5%. And cases that involve Governments on both sides of the table are by and large futile and time wasting exercises. The incentive to Government appointed lawyers to prolong cases and earn a bit more leads to further delay.”

Need more be said?

Cross-posted on the Indian Economy blog.

Rice, Roads and Regulations

A key factor that can make markets work better is integration of various sub-markets. And it doesn't happen simply by constructing tarred roads (even that is needed) but by demolishing regulations. Roading is the technical part of integrating markets, the political and more onerous part is the regulatory part. But why integration? Because deregulated common markets will remove transaction costs and foster competition; provide better signals for optimal generation and consumption decisions; and improve security of supply.

So if I sell rice in UP and you sell rice in AP, the Berlin walls of regulations would not easily allow us to trade rice with each other. Consumers at both these places would have to pay higher prices, and a section of the traders are denied opportunity of profits. In fact, I bet there are hundreds of these micro-markets in India that are affected by a labyrinth of regulations. I would be glad to know more about them than the beaten-to-death GDP issue. Here are a few findings from the research paper Market Integration in Wholesale Rice Markets in India authored by Raghbendra Jha, KVB Murthy and Anurag Sharma.

Any given centre in any state is more likely to be integrated on a bilateral basis with other centres within the state than with those outside it. This indicates that there are barriers to market integration across states. ... internal trade is amongst the most repressed sectors of the economy, even today.
...
There are controls and restrictions exercised by multiple authorities, at various levels. This results in serious barriers to trade at the inter-state and inter-district levels. There are differences in taxes and standards across the country. As a result of these restrictions and differentials the all-India market is fragmented. Traders are obliged to obtain licenses for trading and there are different authorities for issuing licenses for different goods. The process is highly time consuming, cumbersome, costly, variable and invariably corrupt. After obtaining a license the trader is faced with over 400 laws that govern trading. This plethora of restrictions and inherent differentials across the country prevent rational and uniform pricing strategies. The price differentials, in turn, do not reflect inherent market conditions and allow local scarcities to remain. The restrictions on trade prevent arbitrage possibilities, which could possibly help remove short-term price differentials.

Some of the most important trade restrictive laws are:
1. The Essential Commodities Act, 1955.
2. Standard of Weights and Measures Act, 1976.
3. Agricultural Produce Marketing Acts.
4. Various Agricultural Commodity Control Orders.
5. Prevention of Food Adulteration Act, 1955.
6. State Levy Control Orders.

The first Act controls production, storage, transport, distribution, use or consumption of a wide range of commodities. It authorizes the Central Government to issue Orders for “increasing cultivation of foodgrains”, “controlling prices”, “regulating or prohibiting any commercial or financial transactions in food items” and “collecting any information”, amongst other things. The State Levy Orders make it compulsory for private rice mills to supply 7 to 75 percent of their production to the Food Corporation of India and the State Government, for the Public Distribution System. The important point with such Orders is that the price received by the millers is ‘pan-territorial and pan-seasonal’. It is based on the Minimum Support Price for paddy plus average milling cost. Thus, for a major part of their output mills are not free to fix their price in accordance with economic considerations.
...
There are three factors originating in government policy and impinging upon the market:
a. Quantitative interventions
b. Price distortions, at various levels — farm, wholesale and retail.
c. Heavy subsidies.

Their conclusion sums it all.

Much has been written about state discretion and autonomy in some matters of economic policy in India. This is not the place to debate this point but it should be pointed out that this latitude should not extend to placing restrictions on internal trade. Furthermore, this has nothing to do with decentralization of decision-making. An economy such as the US, which is considerably more decentralized than India’s, still bans most, if not all, impediments to inter-state trade.

Thus there is an urgent need to reform the rules governing interstate commerce in foodgrains and to overhaul the attendant state government tax policies and regulations. There is an urgent need to reform price policy at the levels of producer, wholesaler and consumer. In addition, it is crucial to privatize wholesale grain in free trade and thus improve the efficiency of market signals. These policy measures are long overdue.

Cross-posted on the Indian Economy blog

Sachet-marketing for the poor!

If I am poor, I would buy as many wholesale products as possible because that way, I can get more for less. But if I am really poor and cannot afford even the threshold money for affording wholesale products, what do I do?

I was not too surprised to know that there are shampoo sachets in the villages of India where there is no water available (atleast frequently enough). Arguably, it seems so because of the private sector involvement on one hand and the government on the other. But the interesting fact is the emphasis of the companies on developing these small products. Obviously because the poor do not have enough money to buy a BIG shampoo bottle, though BIG does work out to be more cost effective in the long run. But American-poverty (for reasons of clear identification) enables one to buy wholesale goods much more-you won't find Walmarts near rich localities.

Add to that a tipping factor of good transportation facilities. Walmart would not have been possible (and succesful) without the transportation facilities (roads and vehicles) that enable its fantastic supply chain management. That makes it possible to have a strategy of warehouses. Contrast that with conditions like India where the only retailing possibility is the ubiquitous paanwala in rural India or the small self-employed kirana shop.

So what does this imply?

The private sector will endeavour more and more to make these sachet products for the poor, because of the sheer scale of returns. Read about Procter and Gamble's business model shift here! Developing markets for ultra-low cost products might be the next big "unseen" thing coming in a scenario where online markets seem to take all the attention from us. Policy implications? One, better and more roads and two, allow more business of manufacturing and selling. This would allow more Walmarts for the urban middle-class/poor and sachet-shops for the rural poor. Sachet-marketing may probably do more for the poor than all the ration-shops of the government, in terms of access, cost, quality and target audience.