Trade Policy as a Tool for Coercion

The ongoing trade war between the US and China has highlighted, once again, how trade policy can be deployed as a tool of coercion. Whether it will be effective is not something that I know enough about. But what interests me is this: what are the conditions under which bilateral trade policy can be used as a tool for coercion?

The zeroth condition is that there must be a substantial trade relationship between the to-be-coercive state and the to-be-coerced state. Failing this condition, trade can at best be used as a tool for inducement but not coercion. For example, India cannot use trade as a tool for coercion with Pakistan because there is barely any trading relationship between the two states.

The next condition is that the coercive state must be an overwhelmingly large market compared to the coerced state. Product bans and raising tariffs can be potent tools only if the losses incurred to the coerced state are significant. It is precisely because of this condition that helped imperial China intimidate many of its small neighbours. The message to all its tributary states was clear and consistent across centuries: we have everything in abundance here. It is you who needs access to our market. So, pay tributes and kowtow to the Emperor or you shall never have trading rights.

Robert Blackwill & Jennifer Harris have earlier described how Russia has repeatedly used trade as a tool for coercion against its smaller neighbours.

In the recent past, Georgian wines, Ukrainian chocolates, Tajik nuts, Lithuanian and even American dairy products, and McDonald’s have all fallen afoul of sudden injunctions… While dealing a significant blow to the Ukrainian economy, Moscow’s geoeconomic moves served, first, to remind Ukraine— and others in the region— of the consequences of decreasing ties to Russia in favour of the European Union; second, to reinforce Russia’s role as an economic regional hegemon; and third, to prevent the continued expansion of the North Atlantic Treaty Organisation to Russia’s borders. Facing Russian threats on countless levels, Ukraine halted its plans to sign deals with the EU at the November 2013 Eastern Partnership summit in Vilnius. [War by Other Means, Blackwill & Harris]

The third condition is that the coercive state should have a bilateral trade deficit with the coerced state. This is counterintuitive — most people regard trade deficit as a liability rather than an asset. But it is this deficit which lends a dimension of intimidation to trade policy. This is precisely the reason why the US could use this tool in the first place against China. There are a range of goods on which the US runs a bilateral deficit with China.

My contention is that the presence of all three conditions is necessary for the use of trade policy as a tool for coercion. Seen from this lens, the US trade war against China satisfies conditions one and three but does not meet condition two. Hence, its effect on China is likely to be limited.

In general, trade policy’s effectiveness as a coercive tool additionally depends on what is being demanded from the coerced state. It also depends on the ability of the coercing state to incur the losses resulting from retaliatory actions by the coerced state. 

PS: Read Anupam’s piece that warns about the economic losses emerging out of protectionist policies.

GST Council Registers a Success

GST Council deferred the decision on levying a cess on sugar on May 4th. A union cess is problematic because the revenue earned by levying it does not form a part of the ‘divisible pool’ of resources, meaning that no part of it goes to state governments.

The trick by the union government is not new. A 2016 EPW article had made a note of this trend:

It is observed that over the years there has been a proliferation of cess and surcharges in union tax revenues. As these levies are not shareable with the states, this has resulted in effective reduction in the divisible pool of resources available for transfers to states. The share of cess and surcharge in the gross tax revenues of the union government has been rising over the years. It increased from 9.43% in 2011–12 to 16.7% in 2015–16 (RE).

 

Quite naturally, state finance ministers opposed the introduction of the 5 percent cess on sugar that was being pushed by the union government. However, this proposal was put on hold after a meeting of the GST Council. The fact that the state governments had a say over the union government’s levy of a cess and were able to block it indicates that the GST Council is on the right track. In a limited sense, it is emerging as a powerful institution for intergovernmental bargaining. This is a good sign for making cooperative federalism a reality.

 

The Lure of the Government Job

The Hindustan Times carried a piece on April 22nd which said that the Indian Railways is set to carry out the world’s largest recruitment drive, one that will fill ninety thousand vacancies from a pool of 2.5 crore applicants.

What struck me most was this seemingly innocuous quote by one of the applicants:

I am anxious for a job and a regular income.

This rather simple statement fits into a hypothesis we have developed over the last few weeks: employment can affect income in two orthogonal dimensions – through income stimulation and through income stabilisation. Income stimulation happens purely because the budget line of an unemployed individual shifts to the right once she becomes an employee. By income smoothening or stabilisation, we mean that the employee is reasonably certain that she will receive her employment wage over the next few payment cycles. For example, a job like the now famous Pakoda seller demonstrates an income stimulation effect but lacks income stability. A software engineers’s job at a large firm by contrast does better on both income stabilisation and income stimulation.

Now, the simple observation by the railway job aspirant shows that the lure of a government job is that for less well-paid jobs, a government service leads to income stabilisation as well as income stimulation which is not the case with a private job for the same skill level. At least that is how the perception is. And this is essentially the lure of a government job. What this means is that for any meaningful rise in employment in India, private sector jobs will have to compete with government jobs on both these dimensions.

Not Waving But Drowning

This is one of my favourite poems, and at first glance it seems that it deals with the personal and doesn’t belong on Pragati Express. But hey, wait a minute: do you think the metaphor in the poem could be extended to decades-long victims of bad public policy?

NOT WAVING BUT DROWING
by Stevie Smith

Nobody heard him, the dead man,
But still he lay moaning:
I was much further out than you thought
And not waving but drowning.

Poor chap, he always loved larking
And now he’s dead
It must have been too cold for him his heart gave way,
They said.

Oh, no no no, it was too cold always
(Still the dead one lay moaning)
I was much too far out all my life
And not waving but drowning.

The Second Order Effects Have Begun

Financial Express reports that demonetisation and glitches in GST implementation has led to a loss of 4 lakh jobs, erosion of wages, and reduced exports in the textile industry in Surat.

The Federation of Surat Textile Traders Association (FOSTTA) claims that after the rollout of the new tax structure, over 4 lakh jobs have been lost with many of the textile units in the city running far below their installed capacity. Moreover, the past 18 months have seen sales slump by about 30-40 % and payments getting delayed.

It further mentions that the small and unorganised textile units are not able to comprehend the complex GST rules. The delay in refund has also led to a fall in export orders.

Nearly a year and half after demonetisation, the second order effects are beginning to show up. The recent shortage of currency is another such second order effect. Any big macroeconomic shock will have multiple rounds of effects – the growth slowdown and all the associated effects in 2016-17 was just the first order effect. Unfortunately, I believe we’ll see many more stories of particular industries getting affected in novel ways due to the double whammy of demonetisation and the faulty implementation of GST.

Karnataka’s Electricity Woes

It is the election season. We are talking about Bangalore in the year 2018. Yet, the city is facing scheduled and unscheduled power cuts up to 4-6 hours per day. It is simply unacceptable by any standards. If the government cannot ensure uninterrupted power supply in peak election season in the most important city in the state, I shudder to think of the situation in rural areas.

BESCOM, the power distribution company in Bangalore, supposedly received 6552 complaints on just one day (April 24th) regarding power disruption. For the month of April, the number of complaints touched nearly 40,000.

The two normal reasons given for power cuts are: increased demand and disruption due to technical reasons following rains. These are not tenable excuses. BESCOM seems to be surprised every year that people use more electricity during summers. There are no steps taken in advance to manage the higher demand.

This is the statement given by N Jayanthi, the General Manager of customer relations of BESCOM:

Transformers get overloaded, flashovers occur and there are other technical problems. Sometimes, trees bring down feeders with them, and as a precaution, we have to cut off the power, so that no one gets electrocuted.

Is our critical infrastructure setup so fragile that a bit of rain and wind can leave an entire city dark? Surely, there are solutions to prevent such damage to the power lines due to wind and rain.

Ultimately, to solve the problem, the government would need to increase the price paid by the consumer for electricity, which would allow the ESCOMs (Electricity Supply Companies) to buy power and invest in better technology. BESCOM can introduce also special seasonal tariffs for summer or prepare for a weak monsoon by making arrangements to buy power in advance. Privatisation will also go a long way in ensuring uninterrupted power supply. Cities in India, such as Mumbai and Gudgaon, which have privatised has witnessed good power supply.

Finally, ESCOMs in India should operate the way a private firm does: project production quantities, projecting demand, possibilities for production disruption, alternatives for mitigating the disruptions, etc.

The Oil Conundrum: Reduce Taxes vs. Reinstate Price Controls

Global oil prices are rising, but still only half of their record high at $75 a barrel. However, the price of petrol and diesel in India is the highest that it has ever been, causing quite a bit of distress to consumers. The knock on effect of high diesel prices, mainly used in transportation, can also be significant. It can have an inflationary effect on the commonly consumed goods and of course makes the visit to the petrol bunk all the more painful for owners of motorbikes and cars.

With many state elections around the corner and the general elections next year, the government is feeling the pressure to restore the price controls on fuel. Early in 2014, the government had decided to remove all subsidies on diesel and free up the prices on diesel and petrol, in an effort to reduce the massive subsidy bill.

Simultaneously, in 2014, oil prices came crashing and the government decided not to pass on the entire reduction in prices to the final consumer. Instead, it decided to levy a tax on fuel, which is still in place. Now, with global oil prices rising, and the tax still in place, consumers are feeling the pinch.

So, the government has two options – reduce the tax, which roughly amounts to 50% of the price of a litre of fuel or go back to price controls. The government is preferring the second one. The government has gotten addicted to the revenue that excise duty and other fuel taxes bring – estimated to be about 2.5 trillion rupees for 2018-19. Reducing taxes might severely affect its fiscal health and is thus, favouring the second option of partially reinstating price controls.

Taxes on gasoline is far higher than many parts of the world. It accounts for a bit more than 50% of the final price. There are union and state level taxes on gasoline. Excise duty, one of the major components of federal tax, was hiked nine times between 2014 and 2016. To get an idea, of the Rs. 75 final price of petrol in Delhi, nearly Rs. 39 are taxes.

Price controls on fuel would again damage the finances of the upstream oil companies. In the previous regime of price controls, the finances of HPCL, IOL, etc were in a bad shape. If their bottom-line gets affected, it is again the citizens who will pay for it. It might also worsen the debt situation of these companies, which will affect an already fragile banking system. To give a taste of this, when the fuel subsidies and price controls were lifted, the debt burden of the oil companies reduced by as much as 50-65%. A reversal is not in the public interest.

P.S: Back in 2016, I had written a blog on the break-up of petrol price in Delhi. The main image from that blog is reproduced here and shows the price break up of a litre of petrol costing around Rs.60:

 

The Kennedy-Klobuchar Bill – Updates from a Post-Zuckerberg Congress

(This post is part 1/n of what’s happening in the US Congress post the Zuckerberg testimony.)

If (like me) you spent hours watching Zuckerberg testify before the US Congress, then you’d remember how several legislators promised Facebook they would be tabling bills to regulate social media.

Well, it’s just over two weeks after Zuck’s testimony, and the first such bill is already tabled before the Senate. Sponsored by Democrat Senator Klobuchar and Republican Senator Kennedy, the Social Media Privacy Protection and Consumer Rights Bill, 2018 centers around important principles of user consent and compulsory breach notification.

The bill stresses on drafting the terms and conditions in simple English so that users know exactly what data the website wants to collect, store and process. It also puts the ball back in the user’s court by allowing her to delete her social media data once she becomes aware of a breach.

Well-intentioned as it is, it looks like the Kennedy-Klobuchar bill retains a “Take It or Leave It” binary. It proposes solid user protection and rights, but most of them are squarely based on the power of the data collector to provide only two polar options to the user – to opt-in to its terms, or to opt-out of the platform completely.

If you’ve been so bored that you’ve read your favourite app’s terms and conditions, you will know that several of them today are a binary.

These are called “Take it or Leave It” clauses – so, if a user does not agree to a particular clause her only option is often to not sign up on the platform at all. While this provides simple, easy to understand options to the user, it is also a problem because it may make the user accept terms she is unhappy with. This is why, one of the suggestions data privacy advocates make is that companies collecting data devise smarter, non-binary ways in which the user is assured while still making their platform available to users.

Simplifying these terms and conditions, while still allowing the user multiple options other than to “Take It or Leave It”, as well as being a fast moving service provider at the same time is bound to incredibly tough for the social media company. The good news is, there are some effective ways to do that. However, as the Kennedy-Klobuchar bill rests on the correctness of this approach, its impact is automatically limited.

That said, the Kennedy-Klobuchar bill is an otherwise significant proposal. It looks out for the user by making the data collectors responsible for communicating terms and conditions in a simple manner.

The nerd in me is super excited to do a clause-by-clause breakdown of the bill, but until then, here are some neat summaries of what it talks about:

Senate privacy bill gives Facebook what it asked for.

Senators introduce bipartisan internet privacy bill.

Blogging Is Not Dead Yet

In the first episode of this weekly podcast, Amit Varma and Hamsini Hariharan discuss the launch of Pragati Express, and their favourite pieces for the week. Here are some of the pieces that were spoken about in this podcast:

  1. The Freedom Fighters of Pakistan by Chintan Girish Modi
  2. Breaking New Ground by Manoj Kewalramani
  3. A Strong Law is Not Enough by Rishi Majumdar
  4. We Will Not Protect You by Alok Prasanna Kumar
  5. I Want My Free Sub by Gaurav Sabnis
  6. The Future of The Internet on the Seen and the Unseen

 

Closure of Bars on Election Day Reflects Failure of Democracy

The Election Commission in Karnataka has been overzealous in enforcing the model code of conduct, with special regard to sale of alcohol. Election times are generally a pain for owners of liquor stores and bars, but this year seems to be a whole lot worse.

The EC has issued directives and guidelines for owners of bars and other establishments selling liquor. They must maintain diligent accounts of every sale of alcohol. The specific order that has many bar owners worried states: “If there is more than 10 per cent difference in sales compared to the previous year, such outlets will have to face inquiry”. This is ridiculous.

The 20th of April in 2018 was a Friday, when sales generally tend to be high and in 2017, the date fell on a Thursday. The discrepancy could easily be 10 percent.

There will also be a flying squad constituted by the excise department which will patrol the city. It can visit any shop at any time and ask the owners to produce the accounts and sale details. This makes it ripe for rent seeking and discretionary abuse of power. Consider this:

Till Tuesday afternoon, 303 excise licenses have been temporarily suspended in the city alone, and a total of 793 establishments have been temporarily shut till the polling day for various violations across the state.

Further, there has been a lot of seizure of alcohol stock by the excise department, the flying squads and the Election Commission’s vigilance units. In less than a month, these entities together have managed to seize a total of 3,65,388 litres of alcohol seized since March 27.

There are also restrictions on how much alcohol a retail store can sell to an individual: no individual can be sold more than 2.2 litres of beer, or 750 ml of hard liquor. Again, these limits are ridiculous. Is it impossible to imagine a person buying two full bottles of alcohol for a private party he is hosting at home?

Finally, the biggest problem I have with all of this is that it curbs economic freedom. How is it fair to restrict the business of one type of commercial establishment? How is it fair to close down bars and disrupt business on election days? The election day closures are a feeble compensation for state failure and on a larger scale, failure of our democracy. If people vote based on liquor they receive, the problem is not with whether bars are open or not. Finally, I would argue that it is on the election day and the day of results that I could really use a drink.

Is the US immigration policy an opportunity for India?

Earlier in the day, we discussed the impact of a tighter US immigration policy regime on India. At the margin, will it lead skilled Indians to return to India? Nitin Pai in The Print gives a conditional yes as an answer.

Even if pay scales were equivalent (say in terms of purchasing power parity), few NRIs would trade the comfort, security and quality of life in a developed country and come back and face the challenges of daily life in India. Despite sentimental links, patriotic feelings and family connections, most NRIs prefer to live abroad. It won’t change because of government schemes, no matter how attractive they are on paper.

This idea can be conceptualised as two forces acting in the opposite direction. One force is a “India” premium — the extra salary that would compensate for the returnee’s lower quality of life in India. A force in the opposite direction is the “motherland” discount — the discount arising out of patriotic and familial considerations, leading people to stay back or return to India. It is the interplay between these two forces that will decide the direction of skilled labour flows.

As of today, the “India” premium is way larger than the “motherland” discount. Closing this gap is necessary to convert US immigration policy into an opportunity for India.

No sermons, no carrots, only sticks

The Reserve Bank of India on April 6th prohibited banks from:

dealing in Virtual Currencies or from providing services for facilitating any person or entity in dealing with or settling Virtual Currencies.

This is not strictly a ban on people from mining bitcoins or possessing them. Perhaps, it’s not even possible for RBI to enforce that ban given the decentralised nature of cryptocurrencies. Nevertheless, prohibiting banks from dealing with any cryptocurrency is symptomatic of how quickly governments resort to blunt policy instruments in India.

Carrots, Sticks, and Sermons has a wonderful classification of policy instruments. It argues that any government primarily has three policy instruments available to it: information (moral suasion, transfer of knowledge, communication of reasoned argument, advice, and persuasion etc), economic instruments (grants, subsidies, charges, fees etc), and regulation (absolute bans, prohibition with exemptions, obligation to notify etc).

Now, which of these three policy instruments should governments choose? The book has this to say:

All other things being equal, in most cultures at least, the use of coercive power is more alienating to those subject to it than is the use of economic power, and the use of economic power is more alienating than the use of information and exhortation. Or, to put it the other way around, exhortation and information tend to generate more commitment than economic instruments, and economic instruments more than regulatory instruments.

The book says that even politically, it is rewarding if these three instruments are applied in a sequence:

politicians have a strong tendency to respond to policy issues (any issue) by moving successively from the least coercive governing instrument to the most coercive. The idea is that over time a policy problem is tackled in three different ways: first by the provision of information such as uttering a broad statement of intent, subsequently by the application of selective incentives, and lastly by the establishment of regulations accompanied by the threat of sanction. The underlying notion is that in solving social problems the authorities employ instruments of increasing strength in successive stages.

But is this order followed in India?

It would take a thorough study to investigate this. But if the regularity of prohibitions is taken as an indicator, it appears that even if this order is adhered to, the predilection in Indian policymakers is to pick the coercive option fairly quickly. And this says a lot about India. It can be taken as a proxy for how liberal political philosophy is stillborn in India. A liberal society would default to a minimal constraint principle – cause as less trouble to the populace as possible. Policy instruments are ends in themselves as they determine the style of policymaking in a polity. So, a high number of bans and prohibitions indicates that at the margin, greater government control is the default in India. Seen through this lens, the RBI note does not surprise.