MC Interview: Not just tax incentives, India needs to clinch FTAs to lure investments, says NITI Aayog member Virmani

NITI Aayog member and former CEA Arvind Virmani

India needs to double down on bilateral trade agreements with key nations in a bid to lure global companies to invest in the country, NITI Aayog member and former Chief Economic Adviser Arvind Virmani told Moneycontrol.

Responding to a question on whether India should offer tax incentives to global giants such as Tesla, who are keen to set up shop in the country, Virmani said, “Bangladesh and Vietnam have Free Trade Agreements (FTAs) with the European Union (EU) that puts India at a disadvantage for products such as electronics. So, clearly that problem can be addressed by having FTAs with the EU. So, we have to identify the problem then fix it and not just give general tax incentives.”

New Delhi has been negotiating FTAs with a bunch of nations, including the UK, as well as with the EU grouping.

Virmani spoke to Moneycontrol on a range of issues, including the need to overhaul the Production-Linked Incentive (PLI) scheme, volatile oil prices, and rural demand.

Excerpts from the interview:
Should India offer tax incentives to the likes of Tesla and other global companies keen to set up shop in India?

The key is to understand the comparative disadvantage. We have been talking about infrastructure for three decades, which is being taken up very rapidly in some cases. For example, currently the highway system is expanding at a huge pace and the turnaround time of ports has come down dramatically because of private competition. Another problem was scale. Chinese companies are very large because they monopolise manufacturing. However, we have to identify the minimum efficient scale, keeping in mind that every product need not be manufactured with large volumes. In addition, FTAs are important. Illustratively, Bangladesh and Vietnam have FTAs with the EU that puts India at a disadvantage for products such as electronics. So, clearly that problem can be addressed by having FTAs with the EU. So, we have to identify the problem then fix it and not just give general tax incentives.

India’s economy is expected to be worth $30 trillion in 2047. What would be the crucial policy efforts required to achieve this?

Of course. There are many, many different aspects. But, I see it from a macroeconomic perspective in terms of the demographic changes in India and the world. Particularly, there is a reduction in the workforce in the developed world, while in India there is a rising share. I see it as a key opportunity for the future. So, India has an opportunity to push manufacturing production and exports, which are shifting out of China for geopolitical and other reasons. In the next five years, I see it as the greatest opportunity for accelerating growth.

Furthermore, the onset of business services, especially IT services, and later, social services, will pose an opportunity. Around the 1980s and 90s, we had an unbundling and diversification of large manufacturing and I think similar things may happen to services like education and health. Considering the demographic aspect, there are many countries in Europe that cannot find employees for government services and there are shortages of personnel. Second, there is this problem of conflict with immigration and there are groups in societies seeking a reduction in immigration. So, given these two things, the unbundling of services creates an opportunity for a country like India, which has a demographic advantage. Therefore, India needs to make scale available for both domestic and international purposes.

Does the PLI scheme require an overhaul, especially to ensure that it benefits more sectors beyond electronics?

The original PLI was designed for a complex industry, where the scale was known to be small, that is electronics. I think the government is on the right path, which is a review. Moreover, if we want to extend PLI, we may have to identify problems in specific sectors and address them. Similarly, we may analyse whether the current structure of the PLI scheme is good only for electronics or works for other sectors, too.

NITI Aayog is framing a vision document aimed at making India a developed nation focussing on aspects such as infrastructure, welfare, commerce and industry, technology, and governance. What would be the key deliverables of this vision?

Currently, the vision document is in preparation. The framing of a best perspective document requires a broader vision that may pick up information and knowledge from the bottom and then meet in the middle. Therefore, the first aspect is to observe how businesses are reacting, what they are facing. The second aspect is the involvement of departments, ministries and states. Consequently, you explore the system and create a plan. The challenging aspect is bringing these elements together in time. I am sure that will happen. NITI Aayog is the think tank that will be bringing all these parties together.

India's growth story is holding up well despite global uncertainties. What is your forecast when it comes to India's GDP growth for FY24?

I don’t keep changing my forecast, I have a band. Since the Russia-Ukraine war, my forecast is the same. It is 6.5 percent, plus or minus 0.5 percent, for FY24. I am emphasising on this because two months ago, according to some estimates, it was 6 percent and today it has gone up to 6.8 percent. In policymaking, frequently changing forecasts may result in no policy. Thus, I have stuck to this forecast and I am confident it will be achieved the way I have framed it.

I expect rural consumption to make a comeback next year unless there is another big shock from outside the country. In fact, even GDP growth should be at least 7 percent for next financial year in the absence of any external shocks.

Oil prices have been volatile since September owing to geopolitical events. To what extent do you see this as a risk for the Indian economy?

The continued uncertainty in my forecast is oil prices, rather, energy prices. Saudi Arabia, in earlier days, was very predictable considering its strong relationship with the US, so we knew that prices wouldn’t go too far up. That was severed over the last year or two. But in my view, with the Israel-Hamas war now, the convergence may go back. So, in that sense the geopolitical uncertainty part is offset. Some people say that the war may increase uncertainty. I don’t think it matters because even if the war increases uncertainty the intention and motivations of Saudi Arabia have moved. So, if oil prices go too high, I think they will take action in cooperation with the US. In that sense the uncertainty has not increased but the concerns around overall uncertainty due to oil remains. Last year, oil prices went up to $120 per barrel, this year it has been less than $100 per barrel. The 80-90-100 range is the uncertainty.

How worrisome is the decision by some states to go back to the old pension system and what according to you is the fiscal impact?

I was on that committee that developed that New Pension Scheme (NPS). It would be absolutely an adverse move to go back to the Old Pension Scheme at this time because it benefits a small proportion of people who are mostly retired, well-off government-service employees. Governments don’t act in the interest of a small group of people who are already well-off. The only rationale I accept is wars and pandemics. So, leave the NPS, but introduce some element of a minimum guarantee by the government, so that whenever there is big turmoil, the retiring person should not suffer for something no one could predict. So, some kind of a minimum insurance system would be fine in my view, one that would not take away from the basic essence of NPS but would give some insurance to people from complete shocks and uncertainties.

With election season on, we have seen the culture of freebies make a comeback. What is your take on this and where should governments draw a line when it comes to welfare vs doles?

In the culture of freebies, one could stick to merits. The concept of ‘freebie’ is not new. But there is an understanding that there is something called a merit subsidy and something called a non-merit subsidy. But recent studies in India show that the multiplier effect from capital investment is between 2.5 to 4 times while the revenue multiplier is only one. So, besides merit subsidies, one should focus on capital expenditure, because everyone will benefit since the multiplier effect is higher. A non-merit subsidy benefits only a few. Every government does a little bit of favouritism, especially before elections. As long as it is limited, it does not matter. But the overall focus has to be on capital expenditure — it benefits you and everybody.

Do you see inflation pressures abating or is it too soon to tell?

Core inflation is on a declining trend. And, interestingly, the manufacturing core is declining faster than the services core, partly because of the excess capacity deflation from the usual countries. We have been wrong on inflation many times because of multiple and unpredictable shocks. From the first wave of the pandemic, to the second wave, the Russia invasion and then you have the Hamas outrage in Israel. All terribly confusing for any economist in the world because any forecast we make there is one more shock on top of it. The shocks have been particularly bad for inflation forecasting.

Bottomline is I still think much of this is supply disruption and it will eventually abate. But not if the shocks keep coming. Assuming these shocks stop and the global and Indian economy is allowed to get back to some kind of normalcy, inflation will fall. I am still optimistic about this as the short-term data is moving in that direction, both in India and the world.