So have reservations helped?



In case you missed, The Hindu got a whiff of an article from American Economic Review about the effectiveness of affirmative action in India and the American Economics Association (AEA) got a whiff about this in return:

Here is the link to the original news feature from AEA web-portal that links the article in The Hindu as well as the original research article:

In case you are curious: reservations do seem to work in terms of providing access to education opportunities to the disadvantaged castes students and women. But there is more to it than just that:

Despite the presence of a beneficial affirmative action program, we find large gaps in pre-college preparation, college participation, and college academic performance between the most disadvantaged castes and their more advantaged counterparts. The gaps in participation rates are magnified for women, especially for women from the
most disadvantaged castes. Our work also indicates why affirmative action policies generate debate; we find that improved educational outcomes for targeted students come at a cost to those who do not receive preferential treatment.

So Raghuram Rajan decides to go!


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So finally what I feared about RBI Governor’s term renewal has come true! Raghuram Rajan put all the speculation about his second term to rest through a letter to his colleagues in the RBI announcing his return to academia at the end of his term. Here is the link to his letter. What stands out of all in the letter is the following statement clearly indicating the role of the government in his exit:

While I was open to seeing these developments through, on due reflection, and after consultation with the government, I want to share with you that I will be returning to academia when my term as Governor ends on September 4, 2016.  I will, of course, always be available to serve my country when needed.

It is really unfortunate that Rajan will not be continuing as he brought about a lot of positive changes in the financial system, contained inflation, established a new monetary policy framework and took firm stand on issues often ruffling feathers of the Modi government. Hopefully, the new RBI governor will continue many of the reforms he initiated. The academic world should be happy as he continues contributing brilliant research papers in future.

Economics of Affirmative Action!



Looks like affirmative action in higher education in India does work in reducing inequities in access to higher education. However, as suspected it does so at the cost of having less number of open category students being admitted. Clearly the solution lies in the problem- increase the number of higher education institutions. But we have experienced a continuous decline in planned allocation spending on university and higher education over the subsequent five year plans.

Here is the link to the article from AER:

and to the article in the Hindu that is based partially on the above article:


Debating MNREGA!


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In an article in support of Mr. Modi’s decision to limit MNREGA to only 200 poorest districts, Bhagwati and Panagariya  argue the following:

To appreciate fully how inefficient NREGA is at transferring income to the poor, consider the following. Existing data show that on average 30% of NREGA expenditures are incurred on materials and 70% on wages. Assuming daily NREGA wage to be Rs 130, this requires an expenditure of Rs 186 to employ one worker per day.

But not all Rs 130 in wages amount to transfer. When accepting NREGA employment, the worker forgoes the opportunity to work elsewhere. Even assuming daily market wage to be a low Rs 80, net transfer under NREGA is only Rs 50. So we spend a solid Rs 186 to transfer a mere Rs 50.

Even though the opportunity cost argument might sound logical prima facie it may not hold much water when confronted with reality. In absence of productive work, the opportunity cost for the rural labor could be in fact zero. In that case the transfer is the total Rs. 130. So it really boils down to the number one chooses or the wage rate and probability of finding work the actual worker faces!

Secondly, as argued by Kotwal and Sen, the wage rate offered by MNREGA may have served as a reference rate for determining the market wage rate as demanders and suppliers of agricultural labor internalize this opportunity cost. So most likely, the opportunity cost logic works from MNREGA to the market for agricultural labor and not other way round. Dili Abreu et. al provide a more balanced critic of MGNREGA that is worth reading in this context.

Are firms in India credit constrained?


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Do Firms Want to Borrow More? Testing Credit Constraints Using a Directed Lending Program


This article uses variation in access to a targeted lending program to estimate whether firms are credit constrained. While both constrained and unconstrained firms may be willing to absorb all the directed credit that they can get (because it may be cheaper than other sources of credit), constrained firms will use it to expand production, while unconstrained firms will primarily use it as a substitute for other borrowing. We apply these observations to firms in India that became eligible for directed credit as a result of a policy change in 1998, and lost eligibility as a result of the reversal of this reform in 2000, and to smaller firms that were already eligible for the preferential credit before 1998 and remained eligible in 2000. Comparing the trends in the sales and the profits of these two groups of firms, we show that there is no evidence that directed credit is being used as a substitute for other forms of credit. Instead, the credit was used to finance more production–there was a large acceleration in the rate of growth of sales and profits for these firms in 1998, and a corresponding decline in 2000. There was no change in trends around either date for the small firms. We conclude that many of the firms must have been severely credit constrained, and that the marginal rate of return to capital was very high for these firms.

Abhijit V. Banerjee and Esther Duflo, The Review of Economic Studies 2014 81: 572-607.

Baba Ramdev and his unsound tax proposals!


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Bad ideas driving good ideas out- that is what is happening with Baba Ramdev’s tax proposals. Tax harmonization in general is good idea. So there is a good argument for abolishing interstate custom duties creating a unified market for commodities. There is also a good argument for streamlining the income tax code to reduce distortion of consumption choices and making tax calculation easy. But to scrap all the taxes and replace it by one single bank transaction tax- bad bad idea!

One for starters, as far as you cannot observe and tax people’s ability, economic theory suggests there is an optimal mix of direct and indirect taxes. Secondly, by taxing bank transactions, we change the relative price of cash versus transactions routed through banks. It only means that transactions would be done more with cash than through banks. It also might be regressive in the sense that people who do not have access to off the book cash will benefit at the cost of people who have to route their transactions through banks.

It looks like Baba Ramdev has been infected by Arthakranti‘s misguided ideas based on very poor understanding of economics. For those who are interested can find my critique of Arthakranti Proposals here. But let me demonstrate the absurdity of these ideas in a few lines.

For example, Ramdev wants de-monetisation of currency notes of Rs 500 and Rs 1,000 to help ease inflation, improve employment generation and also lower corruption. True that inflation in the long run is a purely monetary phenomenon but that does not mean if some denominations of currency notes become unavailable inflation is going to be eased. In order to reduce inflation, in this case, would need a sustained decrease in overall money supply.

Now this would work if in fact inflation is just a monetary phenomenon for India. There is plenty of literature debating on what actually causes inflation in India and the consensus seems to be that supply side bottlenecks and rising demand for protein foods is causing it. I am not sure how making some denominations of notes unavailable is going to change that. Moreover we actually want people to eat more protein based foods rather than less and as incomes improve we should expect this demand to increase further. Eventually, production will respond and the rise in protein prices will be arrested. What actually might help stem inflation right now is not to institute the next few pay commissions and may be use that money to fund more roads, electricity and schools!

Simplistic ideas are many times just that- they are simplistic but might end up causing more damage than good. We should all be wary of those and remember that there is no shortcut to better economic performance but to invest in infrastructure, education and health.

Equity Premium in India


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Asset Pricing and the closely related research agenda on equity premium puzzle is a fascinating research agenda and I am always looking for some pointers to what is happening in developing countries like in India in this context. Here is a very well written entry on the Equity Premium in India by Rajneesh Mehra the author of the original article on equity premium puzzle with Ed Prescott .

Is it time to give up on the Nehru-Gandhi Clan?


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I have often heard people complain about the dynastic nature of Congress and how many Indians fall for the Nehru-Gandhi clan’s charm. The question is does that mean that democracy has not truly deepened in India? While there are many other indicators of the shallowness of the Indian democracy, a vote for the Nehru-Gandhi dynasty may not be one of them!

In an interesting paper on dynastic choice, Tim Besley and Reynal-Querol address this choice of a leader from dynasty by looking at data across countries since late 1840s. Acknowledging that political leaders who are part of a dynasty have been an important feature of the political landscape throughout history, they argue that dynastic selection can play a role in improving economic performance when institutions for controlling politicians are weak and policy-making skills are persistent within a dynasty. Testing this idea empirically using a sample of leaders between 1848 and 2004, they show that economic growth is higher in polities with dynastic leaders but only when executive constraints are weak. They also find evidence that dynasties end when the economic performance of dynastic leaders is poor suggesting that citizens are tolerant of selection in dynasties when economic performance is good.

So, keeping in line with this finding, it looks like choice of a leader from Nehru-Gandhi clan may actually have been a rational one, since people did not trust the ability of Indian institutions to control other politicians. Also, it made sense if status-quo on economic growth was maintained. In the recent times, however, that confidence seems to be waning. It might be because the likelihood of having a viable candidate from the clan is perceived to be very low. Rahul Gandhi just does not seem to fit the bill!  Also, public activism through anti-corruption movements, judicial activism by the Supreme court, etc might have increased people’s confidence to control other politicians from non-Congress background.

This means that NaMo might stand a chance after all! Given the rise of AAP, NaMo better rise to the challenge though or else BJP might as well write off any future chances of forming a government at the center. The AAP, Congress, and people at large are going to watch for any slip-up very closely and it is not going to overlooked in future elections.


Weather shocks, railroads, and openness to trade


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It is quite interesting to see a bunch of papers written on one aspect of Indian economy from a variety of angles. Following are some such papers by Dave Donaldson of MIT. The first one was presented in the ASSA 2014 and that is what got me reading Dave’s work.

1. Can Openness to Trade Reduce Income Volatility? Evidence from Colonial India’s Famine Era

2. Weather and Death in India

3. Can Openness Mitigate the Effects of Weather Shocks? Evidence from India’s Famine Era

While we are on weather shocks, you might be interested in my earlier post on weather shocks and consumption smoothing in India and this one on general importance of rainfall shocks in post independence India.


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