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Entry level firms – exiting Indian Economy

Entry level firms – exiting Indian Economy

UPSC CSE – SYLLABUS: GENERAL STUDIES-3– Indian Economy and issues relating to planning, mobilization of resources, growth, development and employment.

Entry level firms – exiting Indian Economy

  • A market economy requires unrestricted entry of new firms, new ideas, and new technologies so that the forces of competition can guide capital and labour resources to their most productive and dynamic uses.
  • But it also requires exit so that resources are forced or enticed away from inefficient and unsustainable uses.
  • Over the course of six decades, the Indian economy has moved from ‘socialism with limited entry to “marketism” without exit’.
  • Since the early 1980s, the Indian economy has made remarkable progress in increasing entry: industrial licensing has been dismantled, public sector monopolies have been diluted, some public sector assets have been privatised, foreign direct investment has been considerably liberalised and trade barriers have been reduced.
  • However, there has been less progress in relation to exit and impeded exit has been resulting in substantial fiscal, economic and political costs.

Associated costs

Fiscal costs:

  • Exit is impeded often through government support of incumbent, mostly inefficient, firms.
  • This support – in the form of explicit subsidies (for example, bailouts) or implicit ones (tariffs, loans from state banks) – represents a fiscal cost to the economy.

Economic costs:

  • Economic losses result from resources and factors of production not being employed in their most productive uses.
  • In a capital scarce country such as India, misallocation of resources can have significant costs. Another cost, in the current context, stems from the overhang of stressed assets on corporate and bank balance sheets.
  • The consequence is a reduced flow of new investment, dampening medium term growth.

Political costs:

  • The lack of exit can have considerable political costs for governments attempting to reform the economy.
  • The benefits of impeded exit often flow to the rich and influential in the form of support for “sick” firms.
  • This can give the impression that governments favour large corporates, which politically limits the ability to undertake measures that will benefit the economy but might be seen as further benefitting business.
  • In India, the exit problem arises because of three types of reasons, what might be called the three I’s:

Interests, institutions, and ideas/ideology.

Causes of impeded exit in India:

Interests:

  • The first, most obvious, and perhaps most powerful reason for lack of exit is the power of vested interests.
  • Often, this vested interest problem is aggravated by a certain imbalance or asymmetry that confers greater power on concentrated producer interests in relation to diffused consumer interests.
  • An example of interest groups blocking reforms is the introduction of JAM for MGNREGA.
  • In case of administrative schemes, vested interests often create a market of their own, planning their actions to benefit from it.
  • Thus, schemes may become an instrument of granting favours.

Institutions:

  • Another reason for impeded exit is institutions – both weak and strong institutions.
  • Examples of weak institutions are legal procedures that increase the costs – time and financial costs – of exit.
  • One example is the debt recovery tribunals (DRTs).
  • On the other hand, strong investigative agencies are responsible for the tendency of risk-aversion in decision makers, perpetuating status quo and impeding exit.

Ideas/ ideology:

  • A third reason for impeded exit relates to ideas/ideology.
  • In a democratic country like India with sizable poverty and inequality, it is very difficult to phase out entitlements/incentives.
  • To address the exit problem, the government must allow inefficient firms to exit through its direct policies and transparent actions.
  • Recent initiatives like Bankruptcy Code, rehabilitation of stalled projects, changes in Prevention of Corruption Act etc. are steps in the right direction.

SOURCE:” Hindustan Times.”

POSSIBLE UPSC MAINS EXAMINATION:

While India has made great strides in removing the barriers to the entry of firms, talent and

technology, less progress has been made in relation to exit. In this context, discuss the causes of and costs associated with impeded exit in India.