Andhra-Singapore Contract: We Must Start Holding State Governments Equally Responsible For Their Economies

When I heard about power contracts in Andhra Pradesh and the state government’s reluctance to honour them, I was not surprised. It has become a norm in India that successive governments, especially headed by regional political parties view government contracts as a tool to extract rents and strengthen their hold over economic assets within the state.

That this has happened repeatedly is no secret and that this is damaging for the country is also well recognised. Yet, it continues to happen. The recent scrapping of the tie-up for Andhra Pradesh with a Singapore consortium is yet another instance where state government has decided not to honour contracts signed by the previous regime.

Indeed, such contracts are viewed with a political lens in India, and therefore, everyone is extremely reluctant to enter into a contract with the government. At least the non-politically inclined investors and businesses are happy to stay away from the government sector primarily because of a lack of certainty with respect to any such contract.

The two regional parties in Uttar Pradesh, for instance, are the perfect example of how political power was used for economic consolidation. This trend of use of political power for consolidation of economic power in many ways originated post nationalisation of banks.

India’s poor performance in the enforcement of contract has two aspects to it.

First is the long judicial process to ensure private contracts can be ensured. This often results in a tedious, lengthy and expensive legal dispute which dissuades people from getting through the process.

Consequently, most such disputes tend to get settled and because of the uncertainty with respect to enforcement of contracts, transaction costs in India continue to remain high.

The second aspect is with respect to the state which has indeed from time to time failed to honour its contract. The problem for many reasons is a lot more severe at the state government levels, especially where we have regional political leaders.

Just at the time when central government is trying to improve India’s ease of doing business, we find state governments undertake decisions that not just impact the credibility of different governments in India but has far-reaching consequences for investments in these states.

It appears as if state governments either lack the capacity to evaluate the second or third order effects of their decisions or they disregard them completely as trivial.

This undermines the essence of establishing a rules-based regime that the Narendra Modi administration has been trying to establish in the country.

The fact is that there are multiple areas where state governments are doing significant damage to economic prospectus of the country.

A friendly reminder, post 2011 when growth started to slow down, Gujarat and Madhya Pradesh were among the two state governments that ensured a robust growth for their individual states.

However, post 2014 we have not seen any state-led initiatives that will help improve investments for them. Yes, there has been a routine Vibrant Gujarat Summit in the state since its inception, and many states also have similar investor summits, but state-level reforms have been missing for a long time.

On the one hand, state governments are not taking policy decisions to enhance their growth while on the other some state governments are taking decisions that will have a negative impact on investment and credibility of contracts across the country. The expectation of state governments seems to be of growth revival due to policies by central government and they can continue with a business as normal approach.

The collective ownership or the ‘team India’ spirit seems to be missing now and it is making the job of the Union government twice as hard as it must compensate for lack of decisions of states and the impact of some of their bad policies.

Indeed, we must start holding state governments equally responsible for their respective economies and put greater pressure on them to undertake better policy decisions. But, more importantly, we need to undertake critical judicial reforms to strengthen the enforcement of contract.

Provisions must be made to limit the arbitrary nature of contract termination by several state governments and focus must be back on establishing credibility of respective Indian governments.

While conventional reforms like land, labour and agriculture are important, but equally important are electoral and judicial reforms to limit the possibility of bad policy choices by respective state governments.

Therefore, while government is considering factor market reforms, it must initiate a broader discussion on both electoral and judicial reforms.