Planned Economic Crisis

Everybody makes mistakes; but only those who learn from their mistakes,finally succeed. In the nineties, India admitted its failure with centralisedplanning and state control of almost all production and mainstream distributionactivities and returned to the road that it deliberately rejected in thefifties. Finance minister C D Deshmukh had sought the advice of economists ofall hues, from Indian experts to Kalecki, Rosenstein-Rodan, Tinburgen, Frisch,Lange and Kaldor, who had all concurred on the dirigiste system of licensing andcontrols. The three notable dissenters were Professor Peter Bauer of the LondonSchool of Economics, University of Chicago Professor Milton Friedman, 1975 Nobelrecipient, and Professor B R Shenoy of the University of Gujarat. Were thesepeople right, then? As the Delhi-based Centre for Civil Society, anindependent think tank, has shown with this publication of two articles writtenby Milton Friedman on India in 1955 -- his memorandum to Deshmukh - -and in1963, they most certainly were.

Outlook reproduces here the second article written in 1963 -- the first wasreally a suggested roadmap to attain an "entirely feasible" five percent growth since "India lacks none of the basic requisites for economicgrowth except a proper economic policy". Friedman was critical of the focuson heavy public sector industries and traditional handicrafts at the expense ofsmall and medium units, rigid investment and forex controls, high input taxationand excessive deficit financing. The 1963 essay is a relook at and confirmationof what he’d thought would happen in India, how it was happening and what waslikely to come out of it. India had nurtured an "influence" societycharacterised by public affluence and private squalor, he lamented. One third ofthe people, the poorest, had experienced no change at all in their foodconsumption in 13 years of planning. "The current danger," he wrote, "isthat India will stretch into centuries what took other countries onlydecades." We leave you to find out how prophetic he was.

Paromita Shastri, Assitant Editor, Outlook

(Reproduced with permission from: Centrefor Civil Society, B12 Kailash Colony New Delhi 110048)

In 1955, the Indian government was engaged in preparing its Second Five YearPlan-a practice reflecting the strong influence of the Soviet experience. Inthat connection, the Indian government asked the Eisenhower administration forassistance.The administration recognized an opportunity to counter the influenceof the left-wing advice by sending two strong proponents of free markets. NeilJacoby was one of the two. I was the other one. That is how I came to visitIndia in the fall of1955 under the auspices of the U.S. InternationalCooperation Administration (as the foreign aid agency was dubbed at the time).Once I was in New Delhi, I was assigned to advise Mr C.D. Deshmukh, the Ministerof Finance.

I spent a very intense month in India, at the end of which I wrote thememorandum that is the second chapter in this publication. It was given to MrDeshmukh and to my superiors in the International Cooperation Administration,was circulated in the government, leaked in part to the press, and not heard ofagain until thirty-seven years later when it was published for the first time bySubroto Roy and William E.James in their record of a conference on India held atthe East-West Center in Honolulu, Hawaii.'

As I reread it, I am impressed by two features: ( 1) its diplomatic tone, nodoubt reflecting my status as a representative of the U.S. government; and (2)its continued relevance to the problems of India today. On the issues it covers,we know no more today about how to promote development than we did then.However, the intellectual climate of opinion is far less hostile today to theviews expressed in my memorandum than it was then.

Some seven years after my first visit, my wife and I spent a bit over twomonths in India. This was part of a year's trip around the world that I spentstudying monetary conditions in five countries: Yugoslavia, Israel, Greece,India, and Japan. This time I was in India strictly in a private capacity. Wewere able to travel widely; talk to many entrepreneurs, academics, economicjournalists, government officials,and political activists; visit factories anduniversities, as well as do a good deal of touring. I gave a number of talksunder various auspices and published a few letters and columns in newspapers.

After we left India, I wrote the piece that forms the first chapter in thispublication 'Indian Economic Planning'. Initially, I intended to revise it forpublication in an American periodical such as Fortune magazine, but forvarious reasons I never did so. I did, however, send it to a number of friendsfor criticism. The most interesting response was from Professor B.R. Shenoy whois referred to in my memorandum.

I have been in India only once since our 1963 trip. That was in 1979 when wefilmed briefly in India in connection with our television programme 'Free toChoose'.2 Nevertheless, I have tried to follow from a distance the economicdevelopments within India. I continue to be impressed by India's enormouspotential and depressed by the contrast between that potential and the minimalprogress that has been achieved in the forty-five years since I was first inIndia. The latest decade shows more signs of change. India may finally be on theway torealizing its potential. If so, it will be a blessing for the people ofIndia and for the world as a whole.

March 29, 2000
MILTON FRIEDMAN
Stanford, California

1. 'Memorandum to the Government of India 1955', pp. 163-76 in Foundationsof India's Political Economy: Towards an Agenda for the 1990s, Subroto Royand William E. James (eds), Sage Publications, New Delhi, 1992.

2. Our several trips to India are chronicled in our memoirs, TwoLucky People (Chicago: University of Chicago Press, 1998), pp. 257-69, 305-.316, 488.

On the positive side, there are clear signs of improvement since my earliervisit. The roads in the countryside are noticeably better, there are many morebicycles and automobiles in both city and country; beggars, though stillnumerous, seem somewhat less ubiquitous. There are many new buildings, somestriking, and more and better hotels; new industrial plants and a few rapidlyexpanding centres of small industry; there are new universities and evidentsigns of expansion of old universities. Much of this and more is for the good.But, unfortunately, the progress appears spotty, and some of the appearance ofprogress is misleading. Many of the most impressive new structures are signs notof progress but of waste, for example, factories producing items at a far highercost than that at which they can be purchased abroad. Most important of all,there is little that is evident to the naked eye in the way of improvement inthe conditions of the masses of the people. On every side, there are extremes ofunrelieved poverty that is difficult to make credible to someone who has notbeen to India. As a friend from Britain remarked, after his first visit toCalcutta where over a tenth of the population have no home other than thestreet:' One can adjust to a square mile of this kind of thing but when it goeson for square mile after square mile, it is more than one can bear.' Theseconditions seem to have shown little, if any, change in the past decade.

This kind of casual impression is most untrustworthy, especially when itconcerns conditions at a level of living which the observer has never come closeto experiencing himself. What the poor in India might regard as a majorimprovement, you and I might not be able to recognize. However, much objectiveevidence confirms these general impressions.

One bit comes from work done for a committee appointed by the Prime Ministerto study changes in the distribution of income. The chairman of the Committee,Professor P.C. Mahalanobis, is Director of the Indian Institute of Statistics, amember of the Indian Planning Commission, the author of the draftframework of the Second Five Year Plan, and one of the people who has done mostto shape present Indian ideas of economic planning. The report of the Committeehad not yet been made public when I was in India but Professor Mahalanobis, inprivate conversation, showed me some of the work he and his associates at theIndian Statistical Institute had done for the Committee. Data from samplesurveys of Indian rural and urban households indicate that the poorest third orso of the population experienced no increase what so- it ever in foodconsumption per capita during the decade of the 50s-which roughly coincides withthe first two Five Year Plans. And it must be recorded that food accounts forthree quarters or more of the total consumption expenditure of the poor.

Aggregate figures on the consumption of specific items support the generalimpression given by household surveys. The major items of consumption for themasses of India are food and cloth. The greater part of food consumption isaccounted for by foodgrains -- rice, wheat, other cereals, and pulses. Indeed, atthe bottom of the income scale, foodgrains alone account for half or more oftotal expenditure on all items of consumption. Per capita availability offoodgrains has fluctuated a good deal but with no steady upward trend: it wasabout the same in 1958 as in 1950, in1960 as in 1955. The situation is not muchdifferent for cloth. The number of yards of cloth per capita is now no higherthan in 1939. The consumption items that have shown the most rapid increaseshave been items like bicycles, sewing machines, automobiles-not luxuries bywestern standards but clearly so by Indian standards.

The official estimates of national income-that favourite magnitude of moderngrowth-men-give only a slightly more favourable impression. National income,corrected for price change, rose during the decade of the first two Five YearPlans 67at the rate of about 3 1/2 per cent per year, but population roseat the rate of 2 per cent a year, so per capita output rose by about1 1/2 percent per year. And even these figures over state the progress. In the firstplace, the official figures probably over state the growth in out put during theSecond Five Year Plan period because they make insufficient allowance for theprice rise that occurred (this overstatement is almost surely much larger thanthe major error in the opposite direction, which is an underestimation of thegrowth in the out put of small-scale industry). In the second place, anincreasing fraction of national income has taken the form of capital investmentand government expenditures. The new and elaborate office buildings in NewDelhi, the elaborate luxury Ashoka Hotel built by the government in New Delhi,the strikingly well-appointed and attractive guest houses, as well as all thenew buildings, at the newly constructed universities, and, of course, the newautomobile plants, fertilizer, steel, and other plants, all these enter thenational income at their current costs and regardless of whether they willultimately add to the national output, as the fertilizer and steel plants may,or be a perpetual drain, as the automobile plants are and will continue to be.

For the purpose of judging progress, the increase in consumption is much.moremeaningful than the increase in total out put, both because its measurement isless ambiguous and because the aim of development is, after all, to raise theconsumption level of the populace. Even the official figures show that percapita consumption has risen at the rate of only one per cent per year.

Some growth in total out put but at a disappointingly slow rate and with awidening, rather than a narrowing, of the distribution of income: that is theconclusion suggested by all the evidence. I met no Indian economist who did notagree with this general verdict.

Just how disappointing the rate of growth is can be judged by measuring itagainst a standard that is repeatedly set forth. Time and again one will hear asan article of faith in India that the economic and political pressure fordevelopment is so urgent that India must develop at a faster rate than westerncountries did. A standard cliche is that India must compress into decades whattook other countries centuries. There is, of course, much merit to thisposition. The scope for improvement is tremendous, the desirability ofimprovement is unquestioned; and it should be easier and faster to imitate thanto initiate. But the actually achieved rate of growth to date is lower than wasachieved in Britain, the United States of America, and other developingcountries during their early stages of development. It is lower than the currentrate of growth in Japan, Greece, Israel, Formosa or in Italy, France, andGermany. Even at the officially estimated 1 1/2 percent per yeargrowth in per capita output, it would take over a century of steady growth atthat rate for India to reach the current level of per capita income in Japan,and well over three centuries to reach the current level of per capita income inthe United States. The current danger is that India will stretch into centurieswhat took other countries decades.

And all this under circumstances that have mostly been very favourable foreconomic growth. The achievement of independence from Britain in 1947 raisedmany real problems, particularly as a result of partition, the relocation ofpopulations, and the bloodshed between Hindus and Muslims. But it also createdreal opportunities. For decades, the enthusiasm and energy of a sizable fractionof the ablest people of India had been devoted to the independence struggle.They had themselves been engaged in activities that were not merely neutral butactively hostile to economic development and they had persuaded a large fractionof their countrymen to do like wise. Independence released these energies andmade them available to promote economic progress. Independence also fostered aweakening of rigid social and economic arrangements, increased flexibility ininstitutions, greater mobility of people, and in general an environment moresuited than before to change. Finally, the years after independence saw a greatinflow of resources from abroad. External assistance during the decade spanningthe first two Five Year Plans averaged about 11/2 per cent ofnational income, which means that it provided something like a fifth of netinvestment; and external assistance was disproportionately concentrated in theSecond Five Year Plan period, when it amounted to about 2 1/2 percent of national income or to over a fourth of net investment. On that scorealone, growth should have accelerated during the Second Five Year Plan ratherthan apparently slowing down a bit.

What is the reason for the disappointingly slow rate of growth? Onefrequently heard explanation is that it reflects the social institutions ofIndia, the nature of the Indian people, the climatic conditions in which theylive. Religious taboos, the caste system, a fatalistic philosophy are said toimprison the society in a strait jacket of custom and tradition. The people aresaid to be unenterprising and slothful. The hot and humid climate of much of theland saps energy.

These factors may have some relevance in explaining the present low level ofincome in India, but I believe they have almost none in explaining the low rateof growth.