Meet Chakravarti Rajagopalachari - India’s First ‘Liberalizer’

Chakravarti Rajagopalachari, India’s first Indian Governor General (1948-50) was its original liberalizer. Liberalization now has many fathers. PV Narasimha Rao, Manmohan Singh and even Rajiv Gandhi, according to some.

Rajagopalachari, popularly known as Rajaji, is today more remembered for his elegant and simple rendering in English of the Mahabharata (1951) and Ramayana (1957). But Rajagopachari should be known today as the first one to sound the warning against a state controlled and centrally planned economy, and naïve notions of Fabian socialism. To be sure, central planning did us a great deal of good, but we could very well argue that we might have been even better off without it.

Before he broke with Jawaharlal Nehru over the economic and political direction India was taking at his behest, Panditji and Rajaji were close. In 1950 Rajagopalachari was Nehru’s initial choice for President. But this candidature was opposed by a group of powerful north Indian politicians and Rajendra Prasad became President. Rajagopalachari was immediately inducted in the cabinet as Minister without portfolio. Rajaji played a key role in ironing out differences between Nehru and Patel, and succeeded Patel after his death.

As Home Minister, he differed with the Prime Minister on who the main enemy was – the Hindu Mahasabha or Indian communists? He also disagreed with Nehru’s fascination with the Soviet Union and the creation of linguistic states. The following year he quit the government and returned to Madras, where he became the Chief Minister in 1952.

In 1957 Rajaji formally broke with Jawaharlal Nehru over his economic and political prescriptions for India. India after the Avadi resolution of the Indian National Congress consequently came to be governed by a combination of protectionist, import substitution, Fabian socialism and social democratic inspired policies.

In 1959 Rajaji outlined the goals of the Swatantra Party through twenty-one "fundamental principles" in the foundation document. The party stood for equality and opposed government control over the private sector. Rajagopalachari sharply criticized the bureaucracy and coined the term "license-permit Raj” to describe Nehru's elaborate system of permissions and licenses required for an individual to set up a private enterprise.

Rajaji advocated the scrapping of the Industrial Licensing Act 1956 stating: “the party believes in the incentives for higher production and expansion inherent in competitive enterprise with adequate safeguards for the protection of labour and against unreasonable profits, prices or where competition does not secure the necessary corrective.”

Further, he advocated a restricted space for the Public Sector to such heavy industries such as are necessary to supplement private enterprise in that field, such national services as railways and the starting of new enterprises which are difficult for private initiative. Above all he opposed to the state entering the field of trade and disturbing free distribution and introducing controls and official management with all its wastefulness and inefficiency.

The bureaucratic labyrinth sometimes involved approval by as many as 80 agencies, before a license could be granted to produce with the state deciding what to produce, how to produce and how much to produce using state prescribed sources of capital and often even the selling price. Profits leading to capital formation and investment were never a consideration.

Prime Minister Nehru once told industrialist JRD Tata, who stressed the need for India’s public sector to be profitable to beget surpluses for investment: “Never talk to me about profit, Jeh, it is a dirty word.”

Consequently the rate of growth of the Indian economy in the first three decades after independence was derisively referred to as the Hindu rate of growth by economists, because of the unfavorable comparison with growth rates in other Asian countries.

The “license-permit Raj” rather than creating a more equitable society actually created a hugely corrupt and inefficient system that created oligarchies and huge inequalities, not just between people but also between regions.

Speaking to the Central Advisory in Industries in 1969, JRD Tata accurately captured the system that evolved: “Some of the causes of delay in coming to economic decisions in our country seem to lie in the psychological realm. There is such a thing as the psychology of power which motivates people: power of control and patronage, power to delay an application, power to hold up a file, power to keep people waiting in an ante-room, all of which are consciously or subconsciously treated as symbols of prestige and hallmarks of importance.” The anterooms of ministers, bureaucrats and increasingly of top bankers are still fairly full. This psychology of delay still persists. What has changed somewhat is the freedom from the tentacles of the lesser bureaucracy.

Prime Minister PV Narasimha Rao took the first steps to dismantle the “license-permit Raj” in 1991 when his government effectively dust-binned the Industrial Licensing Policy 1956 and ushered in what has generally come to be known as “economic reforms.” This is still a work in progress. For state control over industry persists with its of fourteen public sector banks and the IDBI and IFCI, perpetuating a newer form of the statist policies of allocation by making industry and business vulnerable to the caprices of politicians and bureaucrats.

Rajaji may not have been entirely satisfied with Narasimha Rao’s and Manmohan Singh’s hesitant steps in dismantling the state’s overarching control over the national economy, but he would have encouraged them to go further and with more daring. He would have done so with Modi and Jaitley too.

All major economies that have grown rapidly have a high level of fixed investment. There are no examples of major economies that have grown rapidly with low rates of investment. Only 21 countries have achieved 8% growth a year sustained over a 20-year period since World War II. The first eight are Asian economies - China, Japan, Singapore, South Korea, North Korea, Taiwan, Thailand, and Hong Kong. Their systems varied by they had one essential commonality. All of them had, during their periods of rapid growth, very high percentages of Gross Domestic Fixed Capital Formation in GDP, between 30-50%.

India’s capital formation languished in the lower two digit numbers for the first three decades after independence. It began to increase from 17.9% of GDP in 1991 to 22.7% of GDP in 2000 and to peak at 37.6% of GDP in 2008, due to the loosening of constricting state controls. India’s GDP growth kept pace with this and rose from 5.2% in the decade 1980-90, to over 6.0% during 1990-2000 and to 7.8% during 2000-10. The decline of GDP growth in the recent can be directly attributed to the decline in capital investment which has fallen to 27.6% now.

Clearly a high percentage of fixed investment in GDP is an indispensable precondition for a rapid rate of growth – there are no countries with rapid GDP growth and low percentages of GDP deployed to fixed investment. But we have countries with high savings rates and less than commensurate growth rates, because public spending is less on investment and more on social spending including subsidies.

If Rajaji’s rejection of Fabian socialist notions of economic and social development were the policy in the late 1950’s, it would have given India a head start in capital formation, industrialization and faster economic growth.

But, we are now seeing a rise of oligarchies and concentration of growth with the topmost decile. The research by Thomas Pikkety clearly illustrates the high income inequality and concentration of wealth. What would India's first liberalizer prescribed for this. Possibly greater liberalization for we also see that the accumulation of great wealth were are witness to relates to sectors such a telecom, power, natural resources, and infrastructure where the state's allocative powers are telling.