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The political fallacy of choosing winners

These two headlines caught my attention in this morning's newspaper. Juxtaposed next to each other, both of them make the patriotic Indian in me jump with joy - these are the kinds of news headlines we longed for since adolescence.

Albeit, while the adolescent me would have jumped with joy on reading these, the older mature me is circumspect, even borderline skeptical of the effect these will have on the Indian economy in general, and well being of Indians in specific. My skepticism follows from a series of policy news that has been emanating from the South Block off late. On 3rd August, Government of India (GOI) banned the import of laptops and other electronics used heavily in India's booming IT sector. Prior to that, as a post pandemic stimulus measure for Make In India, the Modi administration had announced several PLI Schemes (Production Linked Incentive) for various sectors.

These schemes claim to incentivize setting up of industries in strategic sectors or expedite the production and adoption of certain technologies such as Electric Vehicles. The problem with these schemes however is their eligibility criteria - most of these require existing businesses to demonstrate strong balance sheets and fulfil several strict conditions laid by the government to avail these schemes. Entrepreneurs taking advantage of these schemes are not expected to be free wheeling innovators hustling their way to invent new technologies or innovate on existing ones but rather they are supposed to simply multiply their capacity under a set of rules laid down by the government itself.

In effect, these PLI schemes are the same old wine in a new bottle. They are a different form of state sponsored Industrial development - a model pursued by Nehruvian economists since India's independence - but in a Capitalist avatar. Instead of the government making a direct Capex into setting up manufacturing capabilities, it pays for private operators to set these up via grants and incentives. My comparison with Nehruvian policies may be exaggerated because under PLI schemes, the business itself needs to invest its own money as well, to take advantage. Nevertheless, directionally this policy initiative still makes the Government the determinant of which industries and which business will get access to resources. In short, the government is getting itself busy choosing winners than let the market forces decide the winner.

The approach taken by this government is in fact more harmful than Nehruvian policies. Under the Nehruvian model, public sector enterprises were set up - they not only pursued economic goals, their contribution was additionally seen in the area of social development and welfare. Townships created by these PSUs were model towns which afforded great lifestyle and facilities to residents. Employees had social and economic security since these were 'safe' government jobs. Of course, this sense of security had its negative effect making these industries uncompetitive and laggards.

However, the current model has its own issues - firstly PLIs can only be taken by businesses which meet certain conditions. This means that small entrepreneurs are always left out of the race as they cannot qualify these conditions - irrespective of whether their ideas or innovation are path breaking or not. In fact, such schemes have in past led to the rapid rise of crony capitalists who can influence conditions laid down by eligibility criteria in their favor and corner benefits leaving more worthy players bereft of any advantage. Secondly, unlike the Nehruvian model these schemes will not contribute in any social development or improve quality of lives for people. Finally, as I mentioned before, since these schemes operate on a set of rules laid down by the government, there is little scope for innovative businesses to take advantage of these schemes.

For example, in the 90s past governments had created several schemes for development of 'Electronics manufacturing' - Indian governments have dreamt of becoming a Chip fab destination since the 90s. However, what we saw instead was the rise of Software companies and not electronics hardware manufacturing. Most incentives however got cornered by Crony capitalists who took government money but could NOT make India an innovator in the Electronics manufacturing race. Most large players in that space either assembled electronics by importing key components from China or pivoted to software services in spite of taking grants for hardware development.

A similar trend was seen even by the Modi administration recently for its FAME PLI scheme relating to EV manufacturing, when it discovered that many who took the PLI scheme merely imported components and assembled substandard EVs, instead of innovating or creating any fresh manufacturing capacity.

The biggest favor that successive Indian governments have done to the Software Development industry has been to not intervene via any policy initiatives except for giving a flat 10 year tax holiday. This has allowed the industry to maintain a level playing field. No grants or benefits means that smaller and larger players have an equal opportunity to grow - which allowed unknown players like Infosys to grow into competition with established ones like TCS (which came from the reputed behemoth Tata Sons portfolio).

Had it been only positive influence like the PLI schemes, the damage would be limited. Now with 'bans' the government is further making it difficult for real innovators and entrepreneurs to thrive. Imagine an innovative AI startup which wants to use custom hardware to create a performance optimized AI tool which can do the same work as ChatGPT but more efficiently. Now this startup needs to navigate government permissions to import hardware - a repeat of the License raj red tapism of pre-90s era, when entrepreneurs were shackled by the government policies.

Secondly, there will be crony capitalists who will be able to corner government permissions by satisfying the requirements of the escape clauses under the blanket ban. Investors will prefer a company which already has the government license to import than investing in a new fangled young enterprise which has no background in navigating bureaucratic corridors to get these permissions. As a result genuine entrepreneurs will be net losers not only on innovation, but also in attracting funds.

Finally, companies who will secure licenses to manufacture these banned Electronics in India will have no incentive to produce cutting edge technology products. Because the Indian consumer will not be able to import a cutting edge laptop from overseas, and has to buy a local produce, the manufacturer can pass off 2 or 3 year old electronics product in the market and be assured that it will be sold. These companies are likely to provide the more cutting edge technology to US or Chinese markets because there the consumer will not accept old technology.

Coming back to the two headlines quoted in the beginning - it is text in the article which made me skeptical than the headlines. Apparently, both the deals - Nividia's deal for AI with Tata's and Reliance Jio, as well as Reliance's chip fab - were brokered via government level negotiations between the Indian and US governments. How many small IT companies, however great tech talent they have, can afford an access to these corridors of government power on either side? What qualifications does Reliance Jio, which has no software services or product company under its portfolio even today, have in being involved in a deal related to Artificial Intelligence?

I am not claiming that there is a fraud or corruption in these deals. Nada! I am quite confident of the astute credentials of Prime Minister Modi. However, it is the direction of the policymaking which  is going to cause collateral damage to Indian entrepreneurial ecosystem, than benefit it. Big business may be able to take advantage of it but the young, but not so privileged entrepreneur, who has the zeal and passion but no "connections" or "pedigree" will not just be left out, but rather disadvantaged by the policies being pursued.

I hope someone in the advisory council of this administration wakes up to the issues that these policies are going to create. To conclude - governments should stay away from choosing winners in an economic system, and let the markets determine winners - any government which tries to choose winners is doing disservice to its entrepreneurs in specific and its economy in general.  



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