India is the only large country that is experiencing an economic divergence among its

States.

Real freedom lies in economic freedom, said Tamil Nadu Chief Minister Jayalalithaa, in her
Independence Day speech this year. The subtle reference here was to the Goods and Services Tax
(GST) Bill, which her party, the All India Anna Dravida Munnetra Kazhagam, did not
endorse, the only political party to do so in Parliament, on the grounds that it impinged on the fiscal
autonomy of the States. She had earlier exhorted the Centre to give adequate powers to the States.
These should not be seen as centrifugal or fissiparous trends that have to be curbed, but as a
manifestation of Indias maturing as a nation with diversity and as a democracy, she said.

Clearly, Tamil Nadu and its Chief Minister feel very strongly about their sovereign rights and the
imposition of policies from New Delhi. It may be tempting to dismiss this as political grandstanding
but Ms. Jayalalithaa is right about the economic diversity of India. Our research of per capita net
domestic product from 1960 to 2014 of Indias 12 largest States, that accounted for 85 per cent of the
total population, shows that economic disparity within Indias States is among the largest in the
world, lending credence to Ms. Jayalalithaas demand for economic freedom.
Ranking States
In 1960, the average person in West Bengal earned Rs.390 per annum; the average person in Tamil
Nadu earned Rs.330. But in 2014, the average Bengali earned Rs.80,000 while the average Tamilian
earned Rs.1,36,000. Tamil Nadu went from being the fourth poorest among these 12 States in 1960
to the second richest in 2014. The southern States of Kerala, Tamil Nadu and Karnataka have
climbed up rapidly while West Bengal and Rajasthan have dropped down the order of the richest
large States. Most of these States started at roughly the same levels of per capita GDP in 1960. In five
decades, some have outperformed the rest, leading to a dramatic reshuffle of their ranking.
The more intriguing aspect is the levels and trends of disparity among them. In 1960, the top three
States were 1.7 times richer than the bottom three. By 2014, this gap had almost doubled, with the
top three States being 3 times richer than the bottom three. The richest (per capita GDP) State in
1960, Maharashtra, was twice as rich as the then poorest State, Bihar. In 2014, the richest state,
Kerala, was four times richer than the still poorest state of Bihar. This gap of four times between the
richest and the poorest large State in India is among the highest in the world. A similar ratio in other
federal polities such as the U.S., European Union and China is between two and three times. Our
convergence analysis shows that this economic disparity among States is only widening and not
narrowing. India is the only large country in the world today that is experiencing an economic
divergence among its States and not convergence, as economic theory would posit.
The seminal year
A striking finding of our research is that 1990 is the seminal year that marked a structural break in
the gap between the rich and poor States. In the 30-year period between 1960 and 1990, the
economic disparity among Indias twelve largest States remained more or less constant. In 1990, the
top three States were twice as rich as the bottom three, nearly the same ratio as in 1960. However, in
the subsequent 25-year period from 1990 to 2015, the disparity between the richest and the poorest
State doubled. Pre-1990 and post-1990 look like almost two different eras in Indias history of
economic diversity among States. Economic theory would suggest that the poorer regions grow faster
to catch up with the richer States to cause an eventual convergence, as is happening globally.
Contrary to global experiences of narrowing disparity, both across and within nations, India actually
shows trends of an exacerbating divergence among its large States, implying the richer States will
continue to grow faster. What this means is that a child born in Maharashtra today is still likely to be
four times richer upon becoming an adult than a child born in Bihar today.
It is clear that the economic outperformance of some of these States is a function of their politics and
policies over decades or the maturation of democracy, as Ms. Jayalalithaa put it. While it is
tempting to attribute explanations for this outperformance, it is very difficult to prove any. At best, it
can be attributed to a complex interplay of politics, leadership, policies, human capital, and some

luck. Whatever be the reasons, it is quite evident that the priorities of a more prosperous State will be
quite different from those that are still very poor. Indias cultural and political diversity is a wellentrenched fact. It is time to accept its economic diversity too. In fact, cultural diversity is what
hinders free labour mobility across States. While average income in Tamil Nadu may be four times
higher than in Bihar, it is still not easy for a Hindi-speaking, roti-eating Bihari to move to Tamilspeaking, rice-eating Tamil Nadu for a job. Amid such economic disparity among States with varying
future needs and priorities, a Delhi-based one-size-fits-all policy regime for all of India is entirely
anachronistic. While Ms. Jayalalithaa may have denied any fissiparous intent in her demand for
more freedom, the struggles of the European Union in balancing common market policies for
economically diverse nations should serve as a gentle reminder for an even more diverse India.

The committee on restructuring the Central Water Commission and Central Ground Water Board
in its final report has recommended a new National Water Commission (NWC) be established as
the nations apex facilitation organisation dealing with water policy, data and governance.
The report has recommended an urgent overhaul of the current water management systems.
Headed by former planning commission member Mihir Shah, the committee said that a paradigm
shift was required in both surface and groundwater management policies to face new national
challenges. The committee submitted its report last month.
The report pointed out that the Central Water Commission and Central Ground Water Board were
created in a different era and needed restructuring to work on a new mandate in a manner that
overcomes the schism between groundwater and surface water.
India faces unprecedented challenges of water management in the 21st century. As the water
crisis deepens by the day, the old 20th century solutions appear to be distinctly running out of
steam. These solutions were devised in an era when India had yet to create its irrigation
potential, said the report.
While big dams played a big role in creating a huge irrigation potential, today the challenge is
to effectively utilise this potential, as the water that lies stored in our dams is not reaching the
farmers for whom it is meant. At the same time, groundwater, which truly powered the Green
Revolution, faces a crisis of sustainability. Water levels and water quality have both fallen
creating a new kind of crisis, where the solution to a problem has become part of the problem
itself. The new challenge is to manage our aquifers sustainably, it said.
Nearly half of Indias farm lands are un-irrigated and groundwater is the major source of water
for irrigated holdings, data from the agriculture ministry shows. For instance, for 45% of

irrigated land the source of water is tube wells drawing groundwater resources. In comparison,
canals irrigate just 26% of irrigated land, and tanks and wells only 22% of irrigated land.
Recent instances of droughts and farmers suicides underscored the gravity of the situation, the
report said. Climate change poses fresh challenges as more extreme rates of precipitation and
evapo-transpiration exacerbate impacts of floods and droughts, it said.
If the current pattern of water usage continues, about half of the demand for water will be unmet
by 2030, the report warned, pointing out that water tables were getting depleted in most parts of
India.
As much as 60% of Indias districts faced groundwater over-exploitation and serious quality
issues, it said, adding that contamination by fluoride, arsenic, mercury, and even uranium was
another major challenge.
India has invested Rs.4 trillion in major and medium irrigation projects since Independence, the
report said, adding that this had created an irrigation potential of 113 million hectares, which was
actually utilized by 89 million hectares. However the gap between created potential and
utilisation is growing by the year.
By focusing on low-hanging fruit we could add 35 million hectares to irrigated area over next
10 years at a very low cost, the report said. For this we need to shift focus from construction to
management and maintenance.
The commission report recommended that NWC be headed by a chief national water
commissioner and should have full time commissioners representing hydrology, hydrogeology,
hydrometeorology, river ecology, ecological economics, agronomy (with focus on soil and water)
and participatory resource planning and management.
Analysts agreed that an overhaul was the need of the hour.
If you look at the functioning of our water sector and the direction in which we are going, no
doubt a major overhaul is required. CWC has become a problem rather than getting solutions and
CGWB tends be treated like a small child, said Himanshu Thakkar, coordinator of Delhi-based
South Asia Network on Dams, Rivers and People.

The recommendations are welcome. The solutions offered may not help as creating a mega
institute is going to be more problematic, he added.
The seven-member committee was constituted in September last year to ensure development of
water resources in the country.

The idea of having a vibrant corporate bond market is well accepted in India. It would provide an
alternative platform for raising debt finance and reduce dependence on the banking system. But
it never really took off, largely because of policy and regulatory impediments. A number of
committees such as the R.H. Patil committee (2005), Percy Mistry committee (2007) and
Raghuram Rajan committee (2009) studied various aspects of the issue and made
recommendations, but the progress has not been as desired.
Consequently, the responsibility of providing debt capital has largely rested with the banking
sector. This has resulted in several adverse outcomes such as accumulation of non-performing
assets, lack of discipline among large borrowers and inability of the banking sector to provide
credit to small enterprises. But all this could change, as the odds are now beginning to shift in
favour of developing a strong corporate bond market. And here is the evidence.
Last year, the Financial Stability and Development Council sub-committee constituted a working
group under the then Reserve Bank of India (RBI) deputy governor H.R. Khan with
representation from the government and other regulators. Its brief was to review the
recommendations of the previous committees and suggest ways for implementation, as well as
make further recommendations. The committee submitted its report earlier this month.
Moving swiftly, last week RBI announced a number of steps that will strengthen the corporate
bond market. For instance, it increased the limit for the partial credit enhancement that banks can
offer to corporate bonds. The central bank also came up with measures that will discourage
banks from lending to large borrowers after a point, and signed off on the idea of accepting
corporate bonds while lending under the liquidity adjustment facility, though this will require
changes in the RBI Act. It also eased restrictions for foreign investors.

These steps will help generate activity in the market. If large borrowers are pushed to raise funds
from the market, it will increase issuance over time and attract more investors, which will also
generate liquidity in the secondary market.
While RBI has taken a welcome lead, developing a vibrant corporate bond market is not the sole
responsibility of the central bank. Therefore, it is reasonable to expect that other stakeholders
will complement RBI and address all outstanding issues. For example, as noted by the Khan
committee, frequent issuances by the same company can be clubbed together to create liquidity
and re-issuance may not be considered as a fresh issue. Among other things, the market also
lacks a reliable benchmark yield curve, which makes pricing of corporate bonds difficult.
But even as there are a number of technical issues that needs attention, structurally, things are
falling into place for the corporate bond market. The Narendra Modi government intends to
significantly increase investment in the infrastructure space, which will require massive funding
and its now clearif there was ever a doubtthat banks are not suited to fund such
investments. Therefore, it is possible that the government will nudge all stakeholders to act. The
implementation of the Bankruptcy Code will also help improve confidence and participation.
One of the reasons why the corporate bond market never really took off in India is because of
high fiscal deficit and the governments funding needs. The combined fiscal deficit has
persistently remained on the higher side, which has affected the availability of funds and
crowded out private sector issuance. This problem may also get addressed as the government has
committed to maintaining fiscal discipline. It has also constituted an expert committee under
veteran policymaker N.K. Singh to suggest new fiscal rules. It is likely that the committee will
consider all aspects of government finance, including the ability of the financial market to fund
fiscal deficit without crowding out private investment. Further, banks are dealing with a high
level of non-performing assets and are not in a position to service the borrowing needs of the
corporate sector. This will force companies to look for alternatives. In fact, the move has already
started. According to Citi Research, less than 45% of incremental debt financing happened
through the banking system last fiscal.
This is not to suggest that things will work for the corporate bond market overnight, but
conditions are becoming more favourable. A regulatory and policy push at this stage can solve a
lot of problems for the Indian economy.

When elephants fight, it is the grass that suffers. That is invariably the case
with trade wars. The US and the EU, currently negotiating the Transatlantic
Trade and Investment Partnership agreement, are constantly at loggerheads.
They have fought fierce battles over the past 20 years on a range of trade
issuesfrom bananas to tax treatment for foreign sales corporations (special
tax treatment granted by the US for such corporations), controversial
trademark provisions to copyright provisions, and illegal anti-dumping
measures to civil aircraft subsidies, there is never a moment when these two
elephants are not clashing.
The US, for example, is mounting pressure on the EU to back off from
imposing a huge tax penalty running into billions of euros on Apple. The
company is one of the biggest beneficiaries of a sweetheart tax agreement with
Ireland. Brussels is expected to issue a definitive ruling on Apple that could
force the American tech giant to cough up billions of euros in unpaid taxes.
Washington is threatening Brussels with damaging consequences if it presses
ahead with punitive tax-related penalties against Apple.
Over the years, US companiesApple, Google, Microsoft and Ciscohave
perfected a stratagem called transfer pricing involving cross-border
transactions such as product sales, services, loans and licences. The stratagem
enables them to shift their earnings to low-tax jurisdictions, thereby avoiding
taxes in their home country.
Apple has reportedly maintained an offshore cash pile of about $200 billion.
Outside the financial sector, American companies have reportedly retained
around $1.2 trillion in cash overseas at the end of 2015. In addition to Apple,
companies such as Microsoft, Cisco, Google and Oracle retain billions of
dollars in offshore tax havens such as Ireland and Luxembourg.
According to Sam Fleming and Barney Jopson of the Financial Times, The
EU has become a favoured destination for American companies seeking to
reduce their US tax bills, either by striking Apple-style tax deals with national

governments or by moving their addresses to Europe via tax inversion (a

practice of relocating a corporations legal domicile to a lower-tax nation)
mergers.
Earlier this year, the US treasury stopped Pfizers tax inversion scheme
involving a $160 billion agreement to acquire Botox maker Allergan, which
would have enabled the pharma giant to slash its tax bill by re-domiciling to
Ireland, where Allergan is registered.
The pervasive globalization of such questionable business practices by leading
corporate titans, who are also the movers and shakers of the world economy,
remain a source of grave concern. Such business practices continue to
undergird the rent-seeking efforts that dominate certain industries such as
global finance, computer and Internet-dominated industries, and
pharmaceuticals, according to Nobel laureate Joseph Stiglitz.
The US is also not going to let the matter rest if Brussels persists with its
radical copyright reforms. The EU is considering granting European news
publishers the right to levy fees on Internet platforms such as Google if search
engines show snippets of their stories. Clearly, these proposals, which are
expected to be published next month, will dilute the power of big online
operators, whose market share in areas such as search leads to unbalanced
commercial negotiations between search engines and content creators, says
Duncan Robinson of the Financial Times.
Despite these imminent trade frictions, the US and the EU along with other
industrialized countries such as Japan seldom let go an opportunity when it
comes to targeting China, the worlds second biggest economy. For example,
major business groups from the US, EU, Japan and other advanced countries
are preparing the ground to target China over its proposed cyber security law
and insurance regulations. China wants to enact new rules to force global
Internet leadersGoogle, Microsoft, Amazon and Oracle among othersto
build physical infrastructure and store data in China.

In a letter to Chinese Premier Li Keqiang some time ago, several powerful

business lobbies such as the US Chamber of Commerce, Business Europe and
Japans Keidanren among others warned that provisions in the proposed
cyber security law and insurance regulations would impede economic growth
and create barriers to entry for both foreign and Chinese companies.
The backdrop to this letter reveals several interesting facets of the negotiating
strategies that industrialized countries, occasionally referred to as the dirty
dozen, pursue to further their global trade agenda. For some time now, the US
along with the EU, Japan, Australia, Canada, Switzerland, Singapore, South
Korea and other countries have floated proposals to liberalize trade via
electronic commerce. For example, the US circulated a non-paper on 1 July at
the World Trade Organization (WTO), setting out a work programme on ecommerce.
Although the US has emphasized that it is advancing no specific negotiating
proposals at this time, it has maintained that the concepts presented in the
non-paper are intended solely to contribute to constructive discussion among
members. The paper contained 15 concepts such as prohibiting digital
customs duties, enabling cross-border data flows, promoting a free and
open Internet, preventing localization barriers, barring forced technology
transfers, protecting critical source code and so on.
The concept of preventing localization barriers, for example, states that
companies and digital entrepreneurs relying on cloud computing and
delivering Internet-based products and services should not need to build
physical infrastructure and expensive data centres in every country they seek
to serve. Such localization requirements can add unnecessary costs and
burdens on providers and consumers alike. Trade rules can help to promote
access to networks and efficient data processing.
The non-paper, according to several developing countries and analysts,
primarily intends to bring rules framed on e-commerce in the Trans-Pacific

Partnership to the WTO through the back door. Effectively, such concepts
advanced by major industrialized countries eventually pave the way for
concluding asymmetrical agreements. In a way, they are emblematic of the
WTOs accords since the Uruguay round of trade negotiations. Small wonder
then that such agreements have only resulted in alienation and growing antitrade sentiments across the world because they continue to perpetuate
developmental disparities and global inequalities.
Inflation differences across states:

With consumer price inflation fast emerging as the focal point of monetary
policymaking in India, perhaps it is time to delve into the not-so-insignificant
differences in inflation across states.
To begin with, inflation, both retail and wholesale, has risen in recent months.
This has raised concerns about the scope of further interest rate cuts in the
near future.
All-India retail inflation is now at a 23-month high of 6.07% year on year,
above the upper bound of the Reserve Bank of Indias (RBIs) inflation target.
However there are five major statesAssam, Himachal Pradesh, Kerala, Tamil
Nadu and Uttarakhandwith inflation below 5% in July 2016; that is, below
the target set by RBI for March 2017.
On the other hand, inflation is now more than 6% in 11 of the 23 major states
and Union territories (including Goa and Delhi).
Therefore, it might be useful to know what is causing the differences across
states.

Data from the ministry of statistics and programme implementation (MOSPI)

shows that the inter-state variation in inflation is mostly a rural phenomenon,
with much of it being driven by differences in rural food inflation.
The current series of consumer price inflation, with year 2012 as the base,
consistently shows the inter-state variation, or standard deviation in rural
inflation, to be higher than in urban inflation.

Click here for enlarge

Not only does rural inflation vary more across states, it is also generally higher
than its urban counterpart in each state. Moreover, states with higher overall
inflation also tend to exhibit a wider rural to urban inflation gap, with rural
inflation exceeding urban inflation. To illustrate, a scatter plot of overall
inflation for different states against their ratio of rural to urban inflation
reveals a positive correlation.

Click here for enlarge

To elaborate, the difference between rural and urban inflation is much wider
in states with relatively higher inflation, namely, Odisha and Gujarat,
compared with states that have relatively lower inflation, namely Assam and
Himachal Pradesh.
Also, in case of states with relatively higher inflation, it is mostly rural food
inflation that is driving the rural-urban gap in those states.
Rural food inflation exceeded urban food inflation in the four major states
which witnessed the highest overall inflation in July 2016. It means that rural
inflation would have still exceeded urban inflation in these four states even if
the rural consumer price inflation basket had the same weight assigned to
food as its urban counterpart.

The divergence in zone-wise rural food inflation in India is now the widest
since at least January 2014, when measured by the absolute difference in
inflation between the maximum and minimum food inflation across the six
zones.
Currently, rural food inflation in the western zone (Gujarat, Maharashtra, Goa
and other Union territories) is estimated to be around 11.3% year-on-year,
compared to an estimated 3.9% year-on-year rural food inflation in the northeast.
Within food prices, it was mainly pulse and vegetable prices which led the rise
in prices. While pulse prices rose in almost all states, what differentiated the
low-inflation states from the high-inflation states was the inflation in nonpulse food items. In many of the non-pulse food items, the low-inflation states
fared much better; that is, showed a slower price increase.
Thus, the inter-state differences in inflation appear to be attributable to
differences in rural inflation, which in turn is largely on account of differences
in rural food price inflation. Now the question arises is, what is causing
variation in food prices across states?
The variation in inflation across states could be partially attributable to interstate transportation costs and to the differences in tax regimes across states,
which often impede equalization of prices across regions, said Rajeswari
Sengupta, professor of economics at the Indira Gandhi Institute of
Development Research in Mumbai.
Do state-wise differences in rural wages explain the differences in inflation?
Prima facie, there exists only a weak positive correlation between the statewise rise in rural wages and states rural inflation, as measured by the
consumer price index for agricultural labourers, with base year as 1983.

Click here for enlarge

Correlation does not necessarily imply causation. Moreover, the correlation
gets weaker if we use the rural consumer price inflation according to the new
series, that is with base year as 2012. The possible impact of rural job
guarantee, that is the Mahatma Gandhi National Rural Employment
Guarantee Scheme (MGNREGS) on rural inflation, by raising rural wages and
hence cost of farm inputs, has been a matter of much debate.
However, MGNREGS may not have been the only factor pushing up rural
wages, as noted by a 2012 RBI occasional paper authored by G.V. Nadhanael.
According to the paper, the rise in rural wages post-2007 can be attributed to
a shift in labour supply from agricultural to non-agricultural work, like
construction and services segment.

Meanwhile, the drop in labour force participation rates of women also

contributed to the rise in rural wages.
Such a rise in rural wages could be one of the factors responsible for higher
inflation as wages impact prices (by) feeding into cost of production as
argued by the RBI occasional paper. However, the causality might often run in
the other direction, as noted by the paper itself, when nominal wages adjusted
to rise in prices. Thus, it is as yet difficult to say whether or not rural wages are
the driving force behind rural inflation. If not, then we would have to search
somewhere else to find clues on what is causing differences in rural inflation
across states.
Given the not-so-insignificant variation in inflation across states, further
attention and research is required on the subject.
Currency Question

As the tenure of Reserve Bank of India (RBI) governor Raghuram Rajan draws to a close,
appreciations and encomia have been pouring in. An editorial in this newspaper argued that, if
one had to sift all of Rajans accomplishments, the adoption of inflation targeting as Indias new
monetary policy paradigm is undoubtedly Rajans most defining contribution to policymaking
as governor. This is most certainly truewhether one applauds the move or is critical of it, it
represents an important structural shift in one of the two pillars of conventional macroeconomic
policy (the other, of course, being fiscal policy).
Much ink has been spilt, including, it must be confessed, by your columnist, on assessing the
pros and cons of an inflation-targeting monetary policy rule, both in general, and for India, in
particular. To summarize, proponents of Indias adoption of inflation targeting point to the fact
that this is the gold standard of contemporary monetary policy science and practice and that a
version of it is used by every major advanced economy central bank. It thus follows naturally, for
the supporters, that it makes sense for India, too, to have adopted this system.
Critics of Indias adoption of inflation targeting point out that the system itself revealed serious
flaws in the build-up to, and the aftermath of, the global financial crisis of 2008 and on. In

particular, as is now widely acknowledged, a singular fixation on inflation in the consumer price
index (CPI) by central banks such as the US Federal Reserve System blinded central bankers to
the dangers of asset price inflation and, indeed, the formation of perilous and potentially
destabilizing bubbles in the prices of various assets, including, of course, in the sub-prime
mortgage housing market in the US and property markets elsewhere.
We know how badly that movie ended, and the world is still living with the consequences in its
interminable sequels. Thus, even in the US and elsewhere in the advanced economies, and
among regulatory agencies and global financial institutions, serious and credible economists,
analysts and policymakers are raising legitimate questions about whether inflation targeting
ought to be tempered to allow central bankers to use conventional monetary policy tools (in
particular, the policy interest rate) to prick incipient asset prices bubbles prophylactically.
Defenders of the status quo will respond, with some plausibility, that if one does not like
inflation targeting, then what would you propose replacing it with? Given that a central bank is
committed to a flexible exchange rate, then some nominal anchor must be picked, and a policy
rule created which maps the policy interest rate into a desired outcome.
Indeed, before inflation targeting was hit upon, the previous benchmark approach, later largely
discarded, was monetary targetingan approach proposed by Nobel economist Milton Friedman
whereby the central bank directly targets a chosen monetary aggregate, with inflation being
determined for a given velocity of circulation.
Defenders will also argue, with some justice, that monetary policy is a blunt tool in trying to
combat asset price bubbles, and that so-called macro-prudential policies ought to be used
instead. This is the source of a lively and as yet unresolved academic and policy debate with
which readers of this newspaper will likely be familiar.
In a word, then, while the mainstream consensus in the economics profession favours inflation
targetingassuming as a given that one is committed to a system of flexible exchange rates
that is now marked with an asterisk, for the reasons I have suggested.
It must be added that this leaves aside the larger debate on whether a global system (or rather
non-system, as Nobel economist Robert Mundell has rightly dubbed it) of central banks, each

pursuing its own monetary policy rule and tied together by flexible exchange rates, makes sense
to begin with.
The alternative, as I have discussed in this space on several occasions, would be some form of
Bretton Woods Mark II, which recreates a global unit of account, much as the original Bretton
Woods system was anchored by the US dollar fixing the price of gold at $35 an ounce and all
other economies fixing to the dollar.
The narrower question for India, which obviously is not in a position to shape the global
monetary order to its will, would be whether, in the current global non-system, inflation targeting
by the RBI is the best amongst available choices. Recall that, at least in theory, a classical
inflation-targeting rule disregards the path of the nominal exchange rate, except insofar as it
feeds into anticipated future inflation.
Thus, at least in theory, an inflation-targeting central bank has no intrinsic interest in stabilizing
the exchange rate or even in dampening its volatility (unless these have induced effects on
anticipated future inflation).
At the moment, this may appear to be an academic question: we have, after all, already
committed to inflation targeting, and it is a little late to be considering alternatives. But then,
since adopting the new regime, we have not as yet witnessed a major bout of exchange rate
instability, of the sort that characterized the taper talk crisis of May 2013, before the new system
(and the present governor) were in place.
Every fortnight, In the Margins explores the intersection of economics, politics and public policy
to help cast light on current affairs.

As Raghuram Rajan steps down as governor of the Reserve Bank of India (RBI), it is
widely agreed that the adoption of an inflation-targeting monetary policy regime is
one of his signal accomplishments. For instance, an unsigned leader in Mint argued
that this was undoubtedly Rajans most defining contribution to policymaking as
governor.
Controversies around whether inflation targeting makes sense as a policy choice, for
India in particular, are not new. I sifted some of the issues in a recent Mint column.

Briefly, proponents argue that as inflation targeting is the gold standard for advanced
economies, it makes sense that India, too, should adopt it.
Critics point to the failure of inflation-targeting central banks to pick up on, and
defuse, destabilizing bubbles in asset prices that helped precipitate the 2008 global
financial crisis, arguing that this calls into question the bona fides of such a regime.
This debate is still unsettled.
Logically, however, any such debate should be grounded on an understanding of what
actually causes inflation in the first place, if it is to reach any sort of viable
conclusions in the specific context of a given economy, India in this case.
A very recent research paper released by the International Monetary Fund is only the
newest in a spate of research trying to understand the roots of inflation, and, in
particular inflation dynamics, in India.
Authored by economists Sajjid Chinoy of JP Morgan and Pankaj Kumar and Prachi
Mishra of the RBI, the paper attempts to understand the sharp disinflation which set in
during the past three years following a period of high and persistent inflation from
2006 to 2013.
As the authors note, headline inflation in the consumer price index (CPI) averaged
more than 9% between 2006 and 2013. But, after peaking at 12.1% year-on-year in
November 2013, CPI inflation plunged all the way to 4.3% by December 2014, just
over a year later. Since then, it has accelerated back to the 5% range, but remains well
below what is was the during the period of high and persistent inflation from 2006 to
2013.
The obvious question is, what caused the collapse in inflation after November 2013?
And, as a follow-up, based on the answer to the first question, is the current period of
low inflation sustainable or merely a transitory phase back towards higher inflation?
As the authors themselves aver, this is a knotty problem. The disinflation starting in
late 2013 occurred at a time of many changes in both the global and the Indian
economy and polity, making it difficult to disentangle and assign relative importance
to the various possible causes.
Among many others, this period witnessed a sharp fall in global oil, commodity and
food prices; a new Indian government working on, among other things, easing
bottlenecks in the food supply chain; government restraint on minimum support prices

(MSPs) in agriculture; and, notably, the announcement of the new inflation-targeting

regime itself.
The researchers eschew a conventional multi-equation framework in favour of a
simple, singe-equation statistical model to find that of the 3.3 percentage point
disinflation which occurred between fiscal years 2013-14 and 2014-15, fully 46% is
attributable to lagged inflation.
In statistical terms, lags of inflation from previous quarters capture the fact that
inflation expectations tend to be adaptive or backward-looking in India, as well as
capturing the persistence in inflation dynamics in India. This latter fact is attributable
to the way in which wages and MSPs themselves are set, which tends to also be
backward-looking rather than based on expected future inflation.
Of what remains, 21% of the disinflation was found to be due to the discretionary
component of MSPs: basically, that the setting of MSPs was less inflationary over the
2013-14 to 2014-15 period than before. Perhaps surprisingly, the role played by
factors often featured in journalistic and non-technical accounts of falling inflation
seemed to play a very minor role, at best.
Thus, the much-touted falling global crude oil prices accounted for a scant 2% of the
total disinflation. Likewise, the much-discussed greater stability in the exchange rate
accounted for only 11% of the total disinflation.
What is perhaps most interesting is that the second largest component amongst the
explanatory variables, after lagged inflation, is a dummy variable (that is, a variable
which takes the value of 1 when a given factor is present and 0 when it is absent)
capturing the new monetary policy regime. This factor accounts for fully 33%, or just
under a third, of the total disinflation.
This potentially important finding must be interpreted with caution, as the authors
themselves note. The statistical analysis employs a dummy variable which takes on a
value of 1 during the period from the first quarter of 2014 to the first quarter of 2015.
This time period coincides with the introduction of the new monetary policy regime,
which is this reason why this component is identified by the study as due to the new
regime itself.
But, in a broader sense, this dummy variable could capture a range of factors which
anchor expectations of future inflation, apart from the new monetary policy regime.

Thus, for instance, if the public expected future oil and commodity prices to continue
to be low or dropping, and if they believed that this would mean inflation itself would
be lower in the future, this belief, quite unconnected to the new monetary policy
regime, would also be soaked up by the dummy variable.
The basic conclusion of the research paper is, as the authors suggest, to debunk the
narrative that the sharp disinflation which occurred in India starting in late 2013 was
due principally thanks to good luck, such as dramatic drops in global oil and
commodity prices and other popular explanations.
Their bottom-line conclusion is that exogenous shocks to inflation... were
perpetuated through backward looking expectations and domestic institutional
structures that amplified the influence of the original shocks. This is not a conclusion
that is easily amenable to a quick sound bite, unlike the good luck story, so perhaps it
has not yet filtered into the wider discourse.
The Chinoy-Kumar-Mishra paper is a useful addition to what, as I noted earlier, is a
large body of research going back many years trying to understand the causes of
inflation in India. (A good starting point is a2015 research paper by economists
Laurence Ball of Johns Hopkins University, Anusha Chari of the University of North
Carolina, Chapel Hill, and Prachi Mishra of the RBI.)
An important milestone in this earlier literature worth delving into briefly is an
influential 2012 research paper by the late Gangadhar Darbha and economist Urjit
Patel. The latter author will be well known to Indian readers as the RBI governordesignate, and, notably, the chairperson of an important RBI committee commissioned
by governor Rajan, which submitted its report in January 2014.
The Patel committee was tasked with proposing ways to revise and strengthen
Indias monetary policy framework, and the final report which came out of its
deliberations recommended that India adopt inflation targeting, which indeed was
subsequently adopted and enshrined as the new policy after a vigorous public debate.
Without getting into the technical details of the Darbha-Patel paper, which deploys
finance-theoretic concepts and statistical methods somewhat different from what
would be typical in macroeconomics, it is noteworthy that the unstated subtext
appears to be to provide a scientific foundation for the theory and practice of inflation
targeting.

Readers will note that the paper begins with a sharp critique of a statement by the then
RBI governor, D. Subbarao, which appears to suggest that the complexities of the
Indian situation make it difficult if not almost impossible for the RBI to singlemindedly pursue a CPI inflation target. The authors not only disagree with this
proposition, they go so far as to call Subbaraos statement nihilistic and lacking
even a hint of scientific thoroughness!
The conclusions of the Darbha-Patel paper, in the same spirit, suggest that their
research debunks the notion that complexity and idiosyncratic factors make it
impossible for the RBI to meaningfully target an inflation rate. Their basic message is
that economy-wide factors have driven inflation dynamics in recent years in India,
rather than the conventional narrative that they are driven by, say, food and fuel prices.
The implied conclusion, but not stated explicitly in the paper, is that shifting to a
policy of inflation targeting might make sense.
It is rare for an economist to write an academic paper on a topic, to follow it up a few
years later with an official report proposing a particular change in policy, and then
also still be a key official in that sphere a few year later when the proposal that he
championed actually becomes policy.
Yet, this is the case with Urjit Patel and inflation targeting. The fairy-tale ending is
that Patel is now becoming the RBI governor, and thus could cement his reputation as
an inflation-targeting economist, both in theory and in practice.
Every time you pay property tax or apply for a permit to build a house, government agencies
collect data around that interaction. Now, imagine a city with 10 million people, each interacting
with six departments in a municipal corporation. Thats the volume of data being collected and
stored.
Why do governments store data? In addition to record-keeping, I believe, governments store data
on behalf of citizens to administer better. So, when you think of government departments as
custodians of data, who collect and store data on behalf of citizens, this is the next question to
ask: is that data accessible to all?

Technically yes, because anyone can file a Right to Information (RTI) query and source the data.
But these are individual queries. No Indian city, as a matter of policy and practice, makes
available data on important aspects of governance.
For example, we dont know the collection efficiency of property tax in various localities. Or,
how many people applied for permits from different departments, who received the permit and
who didnt, and how many days it took for each application to be processed? Or, how many
safety inspections were conducted in restaurants and what was the outcome of each?
This is all data stored by various departments on behalf of citizens. It should be made available
to them, to be used in ways that can improve governance.
I looked up the websites of municipal corporations of the top 10 Indian cities by population. Not
one provides data on its various services: data that can provide a measure of volume, access,
efficiency, processes, turnaround, etc. The first step is for governments to realize that this data
belongs to the people, and make it available to them.
The second step is to make data available in a machine-readable format so that software
developers can make use of it. Often, we see data given in PDF documents or, even worse,
scanned PDF documents. As a result, we spend a disproportionate amount of time converting
data into a machine-readable format.
Cities such as London and Boston have taken major strides in making open data available. The
cost of doing so was not high, as only raw data needed to be made available in a machinereadable form.
Once data is made available, there are enough data enthusiasts and researchers out there waiting
to analyze it, and software developers and entrepreneurs wanting to use it to create utilitarian
apps. The government could create apps, but it would struggle to match the collective
imagination of the software community, besides spending taxpayers money.
For example, 8,500 developers have registered with Transport for Londonthe local
government body that runs the transport system in Greater London to use its data to build
apps. They have built about 500 apps, which are used by 42% of Londoners. Like Citymapper
(which helps in route planning) or Colourblind Tube Map (which helps the colour blind view the

colour-coded London Tube maps correctly). Indian cities can do the same simply by making data
available. Insights and solutions will follow.
More data will mean more media engagement and conversations. It will open up newer
possibilities for researchers, besides reducing time taken by them to procure and clean data.
Open data can also address the grouse of government officials that answering RTI queries is
time-consuming.
A simple analysis of RTI queries will reveal what type of information is being sought, and
making it available under open data can reduce their workload.
In the context of governance, data is one issue in India. Another issue, with strong linkages to
data, is maps.
There is a glaring lack of availability of shape-files needed to draw digital maps, as the
discussion forums of DataMeet, an active forum of data enthusiasts in India, testify.
Census office gives physical maps, but not digital shape-files. The monopoly for digital shapefiles is with the Survey of India, which charges a hefty sum. For example, the village boundary
database per district costs Rs.7,500 per licence for multiple users.
At 640 districts, the total cost to procure shape files to map all of Indias villages works out to
around Rs.48 lakh.
Such pricing excludes small and individual software developers. The 2012-13 annual report of
Survey of India, its latest available, does not state how much it earned by selling shape files. My
guess is less than Rs.10 crore a year. Even if it was Rs.1,000 crore, it is nothing compared to the
value people can add when map files are made available free.
Survey of India could make a start by making available, at no charge, shape-files of the 505 cities
with a population of above 1 lakh, along with ward-level boundaries within each city. The
challenge of urbanization requires Indias cities to become better for those who inhabit them, and
open data is one lever to make that happen.