India's Visa Policy Reforms

by Natasha Agarwal.

In 2016, global travel and tourism contributed US$7.6 trillion to world GDP and supported 292 million jobs worldwide (WTTC, 2017). Undeniably, the sector benefits the economy. It generates employment opportunities and export revenues, creates sectoral linkages, and stimulates infrastructure development. However, to fully reap the benefits from international tourism, countries have to make it easier for travellers to visit. Travellers perceive visa formalities as a travel cost – direct in terms of monetary, and indirect in terms of time spent in waiting in lines, complexity of the process – which exceeding a threshold, can put them off a particular destination or lead them to choosing alternative destinations with less hassle (UNWTO, 2016).

Countries are, therefore, increasingly focussing on visa policies and procedures which in recent years have resulted in some notable progress. In 2015, 61 per cent of the world's population required a traditional visa from the embassy prior to departure, down from 77 per cent in 2008 (UNWTO, 2016). Moreover, between 2010 and 2015, a total of 54 destinations significantly facilitated the visa process for citizens of 30 or more countries by changing their visa policies from "traditional visa" to either "eVisa", "visa on arrival" or "no visa required" (UNWTO, 2016). Ranked at 50, India was identified as one of the 54 destinations that has carried out substantial visa policy reforms.

India's eVisa programme

On 1^st January 2010, India introduced a visa on arrival programme. This was replaced by an eVisa programme on 27^th November 2014. On 1^st March 2016, the visa on arrival programme was re-introduced for nationals from Japan only.

India's eVisa programme allows foreign travellers to apply for their Indian visa online. Once the application is approved, travellers receive an Electronic Travel Authorization (ETA) by an email. The ETA permits their travel to India which has to be within the period mentioned on the ETA. On arrival at the port of entry where the eVisa facility is available, travellers have to present their printed ETA to the immigration authorities who would then stamp the travellers passport thereby permitting entry into the country. Travellers can then travel within India up until the expiry date of the stamped visa in their passport.

Since inception, the program has been reviewed and modified frequently. It is now available to citizens of over 150 countries. The fees are based on principle of reciprocity and categorised into four slaps: 0, 25, 48, and 60 US dollars. There is a bank charge of 2.5%. eVisa’s are categorised into three groups: e-tourist, e-business and e-medical. Double entry is permitted on an e-tourist and e-business visa and triple entry is permitted on an e-medical visa. All three are issued for a period of 60 days, and can be availed up to two times in a calendar year.

Despite these efforts, the data shows a lukewarm response. In year 1 (December 2014 – November 2015), only 5% of international travellers availed their Indian visa online. This fraction grew to 12% in year 2 (December 2015 – November 2016) and just 16% by year 3 (December 2016 – November 2017).

Limitations of the eVisa programme

What explains the low uptake of India's eVisa programme?

A closer examination reveals that the implementation of the programme has been poor.

eVisa's are available under three sub-categories: e-tourist, e-business and e-medical visas. The eVisa online application form lists all the activities which travellers can carry out under each of the three eVisa categories. In addition to choosing a primary purpose of visit, the online application form seems to suggest that travellers are permitted to undertake multiple activities within a group. Upon selecting the visa type on the application form, a pop-up window states "all the following activities are permitted, however select the primarily purpose from the following". This means that a traveller on an e-business visa whose selected primary objective is to, for example, recruit manpower, can undertake any other activity permitted on an e-business visa.

However, instruction number one on "Instructions for Applicant" on the official website states: "e-visa has 3 sub-categories, i.e. e-Tourist visa, e-Business visa and e-Medical visa. A foreigner will be permitted to club these categories (emphasis added)." The online application form therefore permits travellers to combine one activity from each of the three eVisa categories. When a combination of activities is chosen, it is not clear what category of visa will be issued.

Let's imagine a Mr. Smith, a national from one of the eVisa programme eligible countries. While filling his eVisa application form, Mr. Smith opts to primarily participate in a short-term yoga programme (activity listed under e-tourist visa category), attend a business meeting (activity listed under e-business visa category), and go through a short-term medical treatment (activity listed under e-medical visa category). India is liberal: Mr. Smith is not restricted to his chosen primary activity. Nonetheless, the question that arises is: since he has opted for one activity listed under each of the three visa categories, will he travel to India on an e-tourist visa and/or an e-medical visa and/or an e-business visa? Surely, the Indian government does not intend to issue multiple visas to Mr. Smith all in one go.

This is further complicated by the number of entries permitted: double entry on e-tourist and e-business visa, but triple-entry on an e-medical visa. For activities across multiple categories, it is not clear how many entries are permitted. Therefore, will Mr. Smith be given a double or triple entry permit?

An array of questions pertaining to re-entry requirements have also not been answered. For example, would travellers require a re-entry permit if they wish to leave and re-enter India within the 60-day eVisa validity period? If a re-entry permit is required, are there any requirements for issuing this permit, such as a last destination restriction? Do travellers have to re-enter only from the ports of entry at which the eVisa programme is available? Travellers have posed their queries with regards to alternative port for re-entry when travelling on eVisa’s especially when the re-entery is from India’s neighbouring country via land (see here and here).

The programme also has administrative glitches. For example, travellers have repeatedly blogged on the difficulties they experience while using the eVisa application form (see here, here and here). The difficulties of the payment gateway, and limited helpful response from the help desk have been highlighted. Despite the programme being in its third year, these difficulties continue to linger making it an unpleasant experience for travellers.

How can we do better?

Let's run through one problem at a time.

The first area is the permission to come into India under multiple categories. There are two ways to solve this problem.

1. The first solution: change the rules and not permit clubbing activities across the three categories.

   This means that Mr. Smith can primarily choose to either participate in a yoga programme OR attend a business meeting OR a short-term medical treatment of self. For his chosen primary activity, the government would accordingly issue him the visa.

   This is easy to implement. The sentence "A foreigner will be permitted to club these categories." from instruction number one on "Instructions for Applicant" on the official website would need to be deleted. As a result, instruction number one would then read as following "e-visa has 3 sub-categories, i.e. e-Tourist visa, e-Business visa and e-Medical visa. An e-tourist visa, an e-business visa and e-medical would be issued for any activity chosen under the respective visa category." Consequently, the online eVisa application form would also need to incorporate this change, and restrict travellers to choose activities across categories.

   While this is not a great option - we are restricting what visitors can do while travelling, it removes the confusion that has come with clubbing categories.

2. The second and better solution: travellers be permitted to club activities across the three eVisa categories.

   This solution is already in place. However, to avoid the current confusion associated with this solution given the existing premise of the programme, there are two alternatives:

   • Permit three entries under each of the three categories. Once this is done, it is even simpler to abolish the three categories, and just allow anyone to visit India with three entries in 60 days.

   • Permit three entries under each of the three categories. On the eVisa online application form, change e-tourist visa/e-business visa/e-medical visa to tourism purpose/business purpose/medicinal purpose. Accordingly, ETA would reflect the 'purpose of visit' along with the details of the purpose, and the number of entries would be changed to "triple" (see Figure 1 – changes in red). The eVisa stamp in the passport would only state that it is an eVisa, and 'number of entries permitted' would reflect 'triple' (see Figure 1 – changes in red).

     Abolishing the three categories altogether is lucrative. However, having three categories is useful as it facilitates tracking the number of applications within each category which in turn can be used to for drawing sectoral development strategies.

     

   Figure 1: Proposed changes to ETA and eVisa stamp in passport marked in red. Photo courtesy: Traveller's Website

The second area for simplification is the problem of re-entry. This can be solved if the government says:

1. Irrespective of travellers chosen activity across tourist, business and medical categories, the following is applicable:

   • Travellers can re-enter India without a re-entry permit within the 60-day eVisa validity period.

   • There are no last destination restrictions imposed on travellers when re-entering India on an eVisa.

   • Travellers on an eVisa can re-enter India through any port of entry, be it land, air or sea ports

A third improvement lies in greater flexibility for renewing an eVisa in India, capping the number of days a traveller can stay in India on an eVisa. This has been done by many countries e.g. Kenya where travellers can renew their eVisa for a further 90 days at the immigration headquarters in Nairobi, capping the maximum number of days on an eVisa at 6 months.

A fourth area for progress is on information access. The 'Frequently Asked Questions Relating to Tourist Visa' on the website of the Bureau of Immigration, Ministry of Home Affairs, needs an additional FAQ item stating:

1. Travellers who wish to travel to India for a short period, can also avail their India visa through the eVisa programme. Please check the website of the programme (https://indianvisaonline.gov.in/evisa/tvoa.html) for eligibility and requirements.

2. Travellers on an eVisa can carry out activities that spread tourism, medical and business categories. For a list of activities please visit the eVisa online application form.

These four initiatives would solve the flaws of the Indian eVisa program in the following ways. First, it would help in avoiding confusion at the border especially when travellers want to enter and exit India, a country incorporated in intraregional travel plans. Second, it would also help in avoiding policy glitches with respect to the number of entries permitted, and the type of visa issued when activities are chosen across tourism, business and medical categories. Third, it would enable travellers to undertake multiple activities without being held up for violating visa norms. Fourth, it would help rationalise benefits from availing eVisa's over the traditional embassy route visa especially for travellers from countries to whom the government, with effect from 1^st April 2017, provides multiple entry tourist and business visa. This benefit becomes even more apparent when travellers incorporate India in their regional travel plans as travellers have blogged of their preference to avail a traditional visa rather than have to worry about the nitty-gritty missed details of the eVisa programme (see here). Fifth, it would help resolve the consequent administrative glitches especially those that are seen on the ETA and the eVisa stamp in the passport.

Conclusion

To encourage and reap socio-economic benefits from cross border movements of persons, addressing visa procedural bottlenecks can be as, rather even more, important than liberalising visa policies. As a matter of fact, UNTWO reports that communication around visa policies provided by destinations are among the simplest but least addressed areas of opportunity (UNWTO, 2016). While India’s efforts to liberalize the eVisa programme are to be lauded, it needs to ensure that the programme is free from procedural bottlenecks. Afterall, "easy and hassle-free availability of visas is one of the basic ingredients for attracting foreign tourists" (WTTC, 2012).

References

UNWTO, 2016 Visa Openness Report 2015.

WTTC, 2017 Travel and Tourism Global Economic Impact and Issues 2017.

WTTC, 2012 The Impact of Visa Facilitation on Job Creation in the G20 Economies.

 

Natasha Agarwal is an independent research economist affiliated with Research and Outcome Consortium (R&O).

Addressing poverty traps through migration, in the small and in the large

by Ajay Shah.

People who were pessimistic about the future of BIMARU states and other poverty traps have long felt that migration out of these bad places was a good way out. In recent months, an empirical literature in the US has suggested that there are large positive effects upon poor people when taken out of poverty traps. Let's think about policies that assist or retard migration, and about downstream implications. Some things that make a difference (positive or negative) to migration are well known:

• `Workfare' programs like NREGA may hamper migration.
• A malfunctioning land market makes it harder for people who own land to leave. Laws that make it difficult for SCs or STs to sell land are particularly harmful in locking people to the land.
• Improvements in urban governance will help increase migration flows to cities.
• A better criminal justice system will increase the safety of migrants and thus assist migration flows.
• Divergence of per capita income across states will spur migration flows.
• More use of English in education and in government creates a nationwide labour market where people from all over the country are able to move, get jobs, access government services, file a complaint in a police station, etc. We should aim to become more like the US (a nationwide labour market with English) and less like Europe (where barriers of language reduce migration flows).

While leaving is good for the household or the individual who leaves, it's interesting to think about the consequences of departure. In the US, the standard intuition is expressed in the Tiebout model, where labour mobility creates local neighbourhoods for people with homogeneous preferences. I worry that we have a different problem in India. We should think more carefully about the consequences for a place like Uttar Pradesh when many people choose to leave.

We may conjecture that the more capable people leave. I'm reminded of the HMY model: there's a fixed cost of migration, and paying this activation energy is justified when the NPV of future cashflows is large enough. In the HMY model, only more productive firms export or do outbound FDI. In similar fashion here, more capable people are likely to make the jump.

In the small, this is not a problem. But what if a sufficiently large phenomenon of migration-by-the-best takes place. Could this rob a poverty trap of the people who can exercise leadership in starting a business, teach, do research, criticise wrong-doing, or engage in politics? For a sufficiently strong selectivity process, and for a sufficiently large exit-by-the-elite, we could get an explosive process where the departure of the elite leads to a reduction in the quality of government and the local economy, which encourages more elite flight, and so on. Badlands with warlords might become worse if there is a systematic bias where people who could fix things tend to leave.

For this unpleasant dynamics, migration has to take place on a large enough scale to adversely affect the talent pool at the source location. As an example, in the 1960s, Jagdish Bhagwati worried about the `brain drain' out of India. With the benefit of hindsight, we know this was not a big issue. There has been no real problem in the talent pool within India for the purpose of teaching, doing research, criticising wrong-doing, leading firms, participating in politics, etc. The scale of out-migration from India was not large enough to damage the upper tail in India.

For example, from my batch at IIT Bombay, which graduated in 1987, roughly half are in India today. The selection process for departure has not strongly encouraged departure of the upper tail. I have often felt that leaving India is efficient for people below $2\sigma$ (by ability) but by the time you get to $4\sigma$ (by ability), life in India is more interesting.

Could conditions in Bihar or Uttar Pradesh be different? Could the selection process and the magnitude of out-migration create an explosive process which knocks out the upper tail? If such a vicious cycle is present, it changs the way we think about federalism. In a happy Tiebout world, politicians compete to offer local public goods that are attractive to the median voter, and the tails of the distribution of preferences leave. At the same time, there would be in-migration of people who are attracted to the package of local public goods that the politicians are offering. In this benign world, more federalism is undoubtedly a good thing. If, on the other hand, we get feedback loops through which poverty traps get trapped with warlords, this raises concerns about the outcomes associated with the democratic process in poverty traps.

We should be careful to distinguish between two distinct issues. The subsidiarity principle suggests that the best accountability for local public goods is obtained by placing the votes and the voice in the hands of people who are at the lowest possible level of government. This favours decentralisation. However, if there are conditions where an explosive process can remove the upper tail of the talent pool in a poverty trap, this can adversely affect the quality of local politics, and the ability to create productive firms. Under these conditions, we should worry about decentralisation.

Elections in Maharashtra: Have the fires of nativism subsided?

by Naman Pugalia, Renuka Sane, Viral Shah.

The results of the Assembly polls in Maharashtra are anxiously awaited. The four main contenders, the Congress, the NCP, the Shiv Sena, and the BJP have all been part of one of the two principal coalitions, the Democratic Front (Congress and the NCP) which ruled the state for the last 15 years, and the Mahayuti (Shiv Sena and the BJP) that has been the principal opposition alliance.

The battle against the `other'

After these two principal alliances in Maharashtra broke up, ahead of the assembly elections, political parties have been quick to rouse nativist sentiments to secure the Marathi vote. Each political party contesting in Maharashtra, and especially in Bombay, has been vying for the "marathi manoos": the BJP by bringing together Narendra Modi and Chattrapati Shivaji, and the Shiv Sena and the upcoming Maharashtra Navanirman Sena reacting strongly against such a comparison, comparing the BJP leaders as foot soldiers of Afzal Khan, the commander of the Adil Shahi, who was killed by Shivaji. At heart seems to be the idea that the son-of-the-soil will never prefer an outsider as the ruler of the state.

The roots of this angst date back to the Samyukta Maharashtra Movement launched in 1955 in Pune. As Kumar Ketar in the Asian Age says:

the business lobbies, mostly consisting of the Gujarati's and Marwaris wanted Mumbai to be an independent city state or a bi-lingual or autonomous city state. But the mass movement led by Samyukta Maharashtra Samiti foiled that plan. The Marathi angst of the time was one of the reasons for the Shiv Sena's rise, and continues to the reason for the undeclared hostility between the Gujarati-Marwari business community and the Marathi working class.

The Gujarati-Marathi antagonism was mostly restricted to Bombay. In other parts of Maharashtra, it has always been a "Maratha" vote, something that the Congress and the NCP had capitalised on over the last few decades. In the 54 years since Maharashtra was formed, the Congress has ruled the State for 49 years. Of its 17 Chief Ministers, 10 have been Marathas. The outgoing cabinet did not have a single non-Maratha!

By this logic, you would have expected that a national party, with a low support base in Maharashtra in the past, with a Gujarati leader and a Gujarati campaign manager, would not fare that well in the coming elections.

Several commentators, have, however argued that the new Marathi middle class has moved on in its economic and cultural ambitions. It no longer shares the sense of injustice that was the cornerstone of the Samyukta movement, and is in fact, brimming with enthusiasm to participate in the new India. In addition, over the years, migration on a large scale has taken place into Bombay and it's environs, and into Poona, which has created a new set of immigrant voters.

How relevant is the issue of the "marathi-manoos"?

FourthLion Technologies has been conducting message testing polls in the run up to the elections in Maharashtra to tease out voter preferences using its Instavaani. The methodology involves using a control and multiple treatments, and comparing the treatments to the control to get a relative understanding of the persuasion power of different messages.

In a message testing poll, the control is a simple horse-race poll, that asks voters to pick the party or candidate of their choice. The poll on October 1, 2014, showed that 41% of voters preferred the BJP, 11% Congress, 14% Shiv Sena and 11% the NCP. BJP was comfortably in the lead. This is the control.

In each treatment, a particular message is read out to the listener, and then the horse-race question is asked again. Differences from the control give us a sense of the immediate short-term impact of this message on the minds of the populace. These polls are conducted by randomly sampling phone numbers across the entire state. The poll typically strives for 200-400 observations. With assumptions of perfect random sampling of a small sample from a representative population, the margin of error is 0.98/sqrt(n). At 200 samples, the margin of error is 7%, and at 400 samples, it is 5%. These polls are typically carried out as soon as news breaks out, and situations develop in real-time, allowing the observation of the mood of the people within hours after an event.

Here are some results which illuminate attitudes to nativism:

1. `Prithviraj Chavan is a true son of Maharashtra. He went to school in Karad, which is in south Maharashtra. His mother and father, Premalakaki and Dajisaheb Chavan, went to jail because they fought for an independent state of Maharashtra. No other candidate for Chief Minister has the same legacy of fighting for Maharashtra as Prithviraj Chavan'.
   

   Would you vote for	% of respondents
   BJP	31%
   Congress	26%
   Shiv Sena	15%
   NCP	11%
   Others	17%

   This shows that the CM's background matters quite a bit, and led 10 percentage points of voters to switch from the BJP to the Congress. This also explains why Prithviraj Chavan led the Congress' campaign in the state - his popularity is higher than the party's.
2. `In 1960, Gujarati minister Morarji Desai ordered police to fire on activists of the Samyukta Maharashtra Samiti, killing 105 Marathis. The Samyukta Maharashtra Samiti activists won their fight to create an independent state of Maharashtra. Today, the BJP is bringing Gujaratis such as Amit Shah to again place Maharashtra under Gujarati dominance'.
   

   Would you vote for	% of respondents
   BJP	33%
   Congress	14%
   Shiv Sena	25%
   NCP	11%
   Others	17%

   If there was indeed strong antagonism about Gujaratis, this question should have caused a lot of people to switch votes out of the BJP. However, only 8% of the voters seems to have moved away from the BJP, mostly to the Shiv Sena.
   
3. `The BJP has no leaders in Maharashtra who are clean, honest and capable of running the state government. That is why the BJP has to parachute in outsiders like the Prime Minister and Amit Shah to campaign for them. The BJP is afraid to announce who their CM candidate will be because their local leaders, including Devendra Fadnavis and Eknath Khadse, are inexperienced and unqualified to run the second-largest state in India, and also have dozens of criminal charges against them'.
   

   Would you vote for	% of respondents
   BJP	39%
   Congress	15%
   Shiv Sena	19%
   NCP	10%
   Others	17%

   This yielded the least movement away from the BJP: only two percentage points, which is not statistically significant. 39% of voters continue to root for the BJP. It shows there is far greater confidence in the BJP leadership than in that of any other parties.
   

This post is about nativism, so we don't talk about other measurement of how voters feel. But one point must be made. None of these treatments work as well as other treatment messages that talk about construction of roads, public works, anti-corruption, etc. These results suggest that the passions of caste and creed are now less important; that the history of the Gujarati-Marathi antagonism has faded from memory. By this logic, the BJP was perhaps on the right track in breaking away from the Shiv Sena, and focusing on its core messages of development and good governance. This is what voters in Maharashtra seem to care about.

Implications

We may conjecture that three things are going on:

1. Part of the reason for this move away from nativist sentiment is the personal appeal of the Prime Minister. His approval ratings, measured in a survey FourthLion did for Mint on August 16, 2014, were highest in Maharashtra and West Bengal. In the bye-polls, there was very little involvement of the Prime Minister, and the BJP did not do well. It is no surprise then that the BJP is seeking votes under the Modi banner, with messages like "Chalo chale Modi ke saath" ("let's walk with Modi") and "Ab ki bar Modi sarkar" ("this time let's make it the Modi administration").
2. Anti-incumbency against the state government, and the 2 parties (INC + NCP) that jointly governed the state for 15 years, has voters looking for an alternative. Given the BJP's own brand, their assessment of being able to achieve a majority on their own, and the country beginning to taste the benefits of a clear mandate, the BJP has an edge in asking voters in Maharashtra and Haryana to give it a clear mandate in the states too, so that they can work well with the Centre.
3. But most important is the fact that the Indian electorate has moved on. The desire of the voter to look beyond tribal considerations is the reason why Maharashtra might be the first state to throw up a verdict that challenges preconceived notions about the eternal power of old hatreds.

Does this have implications for regional parties elsewhere in India? Many regional parties may have to go in for radical reconstruction if nativist fires are subsiding. Some, like the BSP, have begun doing this. The entire eastern and southern belt, which sees strong regional parties - West Bengal, Orissa, Telangana, Andhra Pradesh, and Tamil Nadu - could see change. While Jammu and Kashmir and Jharkhand will give us some more intuition in the coming few months, Bihar is going to be the next big test in 2015.

One possible argument is that Maharashtra is a better state, with greater exposure to new ideas, low levels of violence, and a successful economy. In contrast, the backward parts of East India may still be trapped in the old nativist ways. But what about the South? The developments in Maharashtra could be particularly portentious for the better states of the South.

The politics of Bombay has long been benighted by the problem of nativism. What was once a great metropolis has been bogged down by decades of nativist politics. These results show a possibility for becoming a normal city, where the political questions that matter are about efficiently producing local public goods.

Should policy makers favour home ownership?

The argument in favour of home ownership

Many people believe that more home ownership is a good thing. It is felt that people who own homes have a greater incentive to get involved in local politics as they have a stake in higher house prices. In contrast, people who rent lack this commitment device. Indeed, in a short run sense, a person who is renting benefits when the neighbourhood goes bad : his rent goes down.

From the viewpoint of the individual, renting is always better as it preserves flexibility. Owning a house imposes limitations on the locations where one could live and work, as the frictions of moving home are substantial. This biases individuals in favour of renting.

In the four-part classification scheme of market failures (monopoly power, asymmetric information, externalities, errors by consumers), this falls under the heading of externalities. If home owners become better citizens and better voters and induce better urban governance, this induces positive externalities upon all residents of cities. To the extent that this is the case, some elements of State policy should favour home ownership, so as to counteract the market failure.

This argument has limited value in India today, given that urban governance is organised in a terrible way. We have just not established the feedback loops of accountability from voters to the city mayor. Even if a voter wanted to get involved in more political action, and wanted to nudge his city administration forward, he does not have the levers to do so. If one only looked at the India of the present, we would reject this externality argument and say that there should be a pure level playing field between owning and renting.

Or, one could be an optimist and think that in the future, as the political system is reformed, these feedback loops will fall into place. One could then argue that large scale home ownership sets up interest groups today that have a stake in cities doing well in the future, as their portfolio value is bound to the quality of the city. The presence of such interest groups may help increase the probability of political system reform, when households get worried about potential damage to their portfolios as a consequence of urban mis-governance.

Today we're highly distorted in favour of owning

If one started out at a undistorted market, one could have a reasonable discussion about whether there is something intrinsically good about owning as opposed to renting, and possibly envision whether levers of policy might be applied to favour home ownership, and the scale of intervention that is justified. In India today, unfortunately, the game is highly stacked against renting:

1. Tax policy favours owning in the divergent treatment of interest payments as deductible versus deductibility of rent.
2. Rent control laws inhibit renting.
3. High inflation disrupts rental contracts by forcing repeated renegotiation. 
4. House owners that are corporations have not yet emerged. It is, hence, hard to find professional contracting in this field. Search costs are high, and there are often restrictions such as owners that won't rent to single women or muslims out of social conservatism. Our failures on property as a fundamental right, and on achieving a capable judiciary, have led to the risk of expropriation when the renter is elderly, a journalist or a lawyer. This has the perverse effect of diminishing access to rented houses for such persons.
5. Contracts are frequently disrupted, which induces costs of moving and frictions such as fees to brokers.
6. Less than professional owners imply that many practical issues such as smoothly functioning utilities don't work out properly. Under home ownership, a person has the incentive to make sure that utilities work correctly. With renting, this falls between the cracks and the service level is often poor.

The game is thus highly stacked in favour of owning. We need to level the playing field in favour of more renting.

The problems of home ownership

From first principles, the ownership of an illiquid asset (a home) diminishes flexibility. A person who lives in a home is much less likely to move.

In India, we need to achieve massive migration flows. Large scale migration will generate better matching between the requirements of the labour market at various locations all over India, and the requirements of production. Large scale migration will break down tribal and ethnic loyalties.

A country where people easily up and move is one in which the labour market is more flexible. This is a blessing and has consequences such as milder business cycle fluctuations. That's a different kind of market failure. The State should favour renting as this gives a more flexible labour market which yields milder business cycle fluctuations, which induces gains for all. Every person who owns a house imposes a negative externality upon everyone else in the form of a more inflexible labour market.

On this theme, here is a fascinating new NBER WP by Blanchflower and Oswald. The abstract says: We explore the hypothesis that high home-ownership damages the labor market. Our results are relevant to, and may be worrying for, a range of policy-makers and researchers. We find that rises in the home- ownership rate in a U.S. state are a precursor to eventual sharp rises in unemployment in that state. The elasticity exceeds unity: a doubling of the rate of home-ownership in a U.S. state is followed in the long-run by more than a doubling of the later unemployment rate. What mechanism might explain this? We show that rises in home-ownership lead to three problems: (i) lower levels of labor mobility, (ii) greater commuting times, and (iii) fewer new businesses. Our argument is not that owners themselves are disproportionately unemployed. The evidence suggests, instead, that the housing market can produce negative ‘externalities’ upon the labor market. The time lags are long. That gradualness may explain why these important patterns are so little-known.

Turning to international finance, the objective of international risk sharing is to remove home bias. In the real estate context, what works best is for a person in Bombay to rent a flat owned by Japanese investors and for a person in Tokyo to rent a flat owned by Indian investors. This achieves risk sharing: each party avoids the risk of real estate fluctuations that are correlated with the main portfolio which includes human capital. Capital controls that interfere with such investments are an obvious mistake that need to be removed. But as in trade integration, once overt restrictions are removed, an array of institutional factors that impede cross-border interaction come to prominence.

For the risk-sharing outcome (homes in Tokyo owned by investors in Bombay and vice versa), we need real estate to be owned by professional companies that rent it out. The shares of these professional companies, or securitisation instruments that generate cashflows out of rental streams, can then be purchased by foreign investors. As long as real estate ownership is in the hands of individuals in India, we will suffer from home bias with too much of the portfolio of residents being invested in local instruments. This is another dimension of owning versus renting that we need to keep in mind; we are better off when there is less home ownership.

Conclusion

Most people assume that home ownership is a good thing, that a country is better off if more people own homes. Like most interesting questions in public policy, the story is more complex than meets the eye. There are two different externality-based market failures running in different directions.

At present, in India, the first externality (more home ownership makes people better citizens) is absent since urban governance is unresponsive to voters. The only externality at work is running in the opposite direction (more home ownership gives a less flexible labour market). In the short term, policy should work on pushing towards more renting.

In the long run, urban governance in India might improve, and then we would need to understand the magnitude of these two opposing effects, and then one could choose whether it's worth pushing in one or the other direction. If one can't quantitatively estimate these things, then a cost benefit analysis is not feasible. The best thing is then to do nothing.

In either event, the mainstream view -- that policy makers should push in favour of more home ownership -- needs to be questioned.

The rise of high-end finance work in India

by Shashank Bansal.

Until recently, outsourcing by global financial firms to India conjured up an image of commoditised low end services outsourcing: call centres, peripheral systems programming, and testing and maintenance. However, in recent years, there is a new rise of more sophisticated work. This reflects supply and demand factors. Global financial firms are keen to cut costs. Capabilities of operations in India -- both captives and independant firms -- have grown for many reasons:

• The individuals involved in this field in India have gained experience ("learning-by-doing") and credibility.
• New management practices and improved telecommunications technologies have improved the extent to which teams and projects are handled in a more non-local way.
• The Indian diaspora has been rising to senior management levels in global firms, and is better able to envision what can be done in India and to obtain execution.

A European investment bank was among the first to experiment by bringing in teams in India into critical projects. This was a landmark change as a lot of inertia about confidentiality was overcome. Other banks followed suit. New management practices, higher pay, greater meritocracy came in, which helped Indian teams make the transition from low-end work where the HR and management techniques used are quite different. Demand for high skill labour has helped induce greater supply, with a lag, as individuals were more inclined to tool up with advanced degrees and high-end knowledge.

Alongside the developments in finance, parallel developments were taking place in the field of offshoring which have driven up skill levels, and helped create a high skill ecosystem in India. Top tier consulting firms launched `centres of excellence' in India, hiring grads from IITs, IIMs, IISc, statisticians, economists. While education in India has huge problems, the raw talent available in India was of good quality, particularly when we focus on individuals who were able to read on their own and reinvent themselves ("never let your school come in the way of your education"). This process has been helped by globally recognised certification exams such as the FRM and the PRM.

IT firms have have been evolving from core development and maintenance to an entire gamut of IT strategy and consulting for financial firms. Many smaller KPO firms with specialised domain knowledge in finance have emerged, who cater to smaller hedge funds, trading houses, not just outsourcing increasingly complex pieces of work, but also advising them on the entire outsourcing strategy. All this has helped create a pool of high skill labour which is moving between multiple employers in India and able to build knowledge through diverse kinds of experience.

The most impressive development of recent years has been the growth of offshore trading units of global brokerages and trading houses, where people sitting in India take independent trading decisions in international financial markets based on their own skills and judgement. In some ways, this is the highest level of transfer of decision functions to India, albeit at relatively low monetary stakes.

In this fashion, within a period of 15 years, India had graduated from doing repetitive low value tasks to Knowledge Process Outsourcing (KPO) for the global financial system. While these activities are primarily in Bombay, they are also taking place in Gurgaon and Bangalore. The number of high-end finance workers in Bombay has never been greater than it is today. It is estimated that there are now 50 individuals working in Bombay doing work for global financial firms who have Ph.D. degrees in quantitative fields. This is starting to become a big enough number for them to talk with each other and get network effects going. From an employer's point of view, it is now possible to shop in the labour market in Bombay and recruit a 10-man team all with Ph.D. degrees so as to get a new group going. This is a sea change when compared with conditions just a few years ago.

To appreciate this change a little further, it was interesting to take a look at some of the capabilities of finance focussed KPOs, divided mainly into 4 broad categories, catering to Sales and Trading, Middle office and Back office:

1. Quantitative Research and Analytics Support:
   1. Equity and FICC Analytics: Model Validation, Price Verification jointly with clients: these are pretty quant heavy functions which require in-depth understanding of products.
   2. Technical and Fundamental Analytics.
   3. Index and Portfolio Analytics: Index maintenance, design, construction, operations and after sales, Portfolio tracking, decomposition and correlation analysis, performance measurement and attribution support.
   4. Derivatives and Risk Analytics: Measurement of derivatives Greeks, Value at Risk, Tolerance checks.
2. Research:
   1. Equity and FICC Research: Company research, Credit Research, Economics research etc. to augment senior analysts in money centres.
   2. Trade idea generation and back testing: Sales pitches for clients and internal trading desks.
   3. Country, Sector, Company profiling, trends, news and projections: Pitch book generation and support.
   4. 24x7 weather patterns tracking for global energy trading outfits
   5. Overnight trade and market tracking to feed in summary reports, Market Dashboards, news letters, morning meetings and agendas
   6. Market Research: Pre-entry market research and positioning survey for bank's clients.
3. Data Analysis and Modelling:
   1. Data sourcing from multiple heterogeneous sources, refining and maintenance: Static data, Live and Historical market data maintenance. Data research and statistical studies feeding into trading strategies.
   2. Data Mining solutions.
   3. Data modelling, smoothing: Providing data solutions for Algo trading desks.
4. Operations and Control
   1. Derivatives trade processing and documentation: Trade review of structured trades and complex documentation. End to end life cycle management of trades e.g., matching, broker confirmations and fee calculations.
   2. P&L and balance sheet control: Generation and reporting of P&L for vanilla products. Some banks have started moving exotics P&L functions to India. This is quite a significant milestone as such activities require high degree of confidentiality and direct user (e.g., traders) interaction who have zero tolerance for mistakes.
   3. Risk Stress testing, VaR back testing, Risk reporting to senior management.
   4. Auditing: external auditing of valuation marks of trading desks and control processes around it.
   It should be noted here that since the funding crisis of 2008, these jobs have become quite complex as most banks have built more sophistication into their analytics. For example, most yield curves would now have multiple basis spreads (like tenor basis, xccy basis) and not just rates desks but even credit and equities desk have been using such advanced discounting curves.)

What's next

The biggest push probably has been in quantitative middle-office functions with an ever increasing emphasis on valuations and counterparty risk management. Given the way markets have adopted collateral based pricing of derivatives, and the regulatory push on managing counterparty default risk, some captives have started building quantitative teams who will develop and manage CVA, DVA, etc. processes for all trading desks.

The new regulatory climate (Dodd Frank, Basel III etc) has lead to a substantial increase in costs due to additional checks and reporting requirements e.g., centrally cleared OTC trades, real time trade reporting to regulators, exhaustive risk reporting - all of which can are leading to fresh volumes of activity in offshoring.

All high quality banks have a team of techno-quants who work closely with the sales/trading desk, risk managers etc, on their day to day needs as well as on strategic projects. It is now feasible to move such high impact roles to India. It would be possible to have "extended front office teams" where dedicated staff support traders in money centres, doing real time risk analysis and client profiling, while the trade is being dealt overseas.

For a back-of-envelope calculation, if we think of internal billing rates of $100,000 per person per year, and if there are 10,000 persons at this average price, then this is services export of $1 billion a year, which is a sizeable amount. It appears that the early beach-head is in place, and this area will grow dramatically now.

This blog post reflects my experience, which is in investment banking and money management. A similar escalation of complexity of work in India is taking place in retail banking, insurance, etc., reflecting similar compulsions and opportunities.

Constraints

There is a certain tension between the push towards offshoring to India, and the activities that regulators consider `key in-house activities' that cannot be outsourced.

There are serious constraints with education in India. The top institutions are producing some quantitative skills (e.g. fluency with matrix algebra, fluency in numerical computation). On one hand, there are weaknesses of broad intellectualisation that shapes cognition, creativity and malleability. On the other hand, there is essentially nothing in place by way of a finance education in India. A small amount of high-end finance research is taking place (example) but for the rest, there isn't much capacity in the existing academic campuses. New approaches to learning and training need to be devised through which high quality individuals, with strong quantitative skills, can be converted into full fledged participation in high-end global finance work. A mix of public and private initiatives are required in order to jump to the next level.

There are strong synergies between the sophistication of the Indian financial system and the work that is done for global financial firms. There is a two-way feedback loop here: Better domestic capabilities will help do sophisticated offshore work, and the brainpower built for offshore work will strengthen domestic capabilities. The best example of this is found in the equity derivatives market, where India has a world-class market. The individuals with a domestic background here are ready for offshore jobs in fields like algorithmic trading, and individuals with capabilities built in offshore work are useful in the domestic setting. This is where India can set itself apart from Malaysia and the Philippines. To the extent that Indian financial reform makes progress, this will fuel the rise of high-end outsourcing to India.

Acknowledgements

I am grateful to Anand Pai, Paul Alapat and Gangadhar Darbha for useful discussions.

The young are getting away from agriculture

Who does agriculture in India? Here's some fascinating evidence, from the CMIE Household Survey for the quarter Apr-May-June 2012. This is a survey of 700,000 individuals in 150,000 households all across India, both urban and rural. Let's look at the share of the working population, in each age group, that's engaged in agriculture:

Age 15-20	19.69
Age 20-25	21.22
Age 25-30	24.70
Age 30-35	28.22
Age 35-40	30.91
Age 40-45	32.76
Age 45-50	34.75
Age 50-55	36.96
Age 55-60	40.02
Overall	31.31

As we see, in the overall dataset, 31.31 per cent of the working population is in agriculture. CMIE shows three categories of this -- `Small farmer', `Organised farmer' and `Agricultural labourer'. I have added up these three categories to make the table above.

That 31.31 per cent of the Indian workforce is in agriculture is fairly well known. What I had not thought about, previously, is the age structure. Will agriculture have a bigger share of young or old workers? We can envisage two competing effects. On one hand, if a family has underemployed young ones who are engaged in agriculture by default, then we'd see a lot of young people in agriculture. On the other hand, if families try hard to get their kids off the farm, and the growth in industry and services in India is successfully absorbing this workforce, then we should see a smaller share with the young.

The evidence above favours the latter story. The share of the overall workforce which is engaged in agriculture is 31.31%. But amongst the old (age 55-60), the share is higher at 40.02%. This share steadily drops as you get to the young. In the class of the working young (i.e. age 15-20 but a part of the working population), just 19.69% are in agriculture.

Perhaps there is greater malleability of human capital with the young: the old may not be able to easily pick up the skills required to participate in the modern world of services and industry. When the shift of a worker into services or industry is accompanied by migration, it adds up to a powerful engine of social and economic modernisation. It is a powerful mega-trend that is reshaping India today.

The agricultural workforce is greying. There are many divides between the old India and the new one. This evidence suggests one more: the old world of agriculture is disproportionately one of the old, while the new worlds of industry and services are disproportionately manned by the young.

This data helps us understand India's demographic dividend. Many people worry that services and manufacturing in India will not absorb the great surge of young people in India. If that was the case, there would be a lot more people in agriculture. Instead, we see only 20% of the young depending on agriculture.

The application of sound economic principles in the field of agriculture will give us a situation where no more than 5% of the workforce is required there. At present, agriculture is using up 31% of the workforce. This gives us a headroom of an additional 25% of the workforce which can move out. This movement would give a one-time improvement in GDP because the per-worker output in industry or services is greater than that seen in agriculture. But these effects are diminished with the young, where the alteration that's feasible is smaller: from 20% to 5%.

For an interesting comparison against China, in 2007, roughly 10% of the workforce was in agriculture in the age group from 16 till 35. By the time you got to the age group of 41-50 (in 2007), roughly 45% were in agriculture.  By 2012, China has reached a point where there is relatively little upside for GDP growth by getting workers out of agriculture. The Indian evidence for 2012 looks similar to China of 2004, so India is perhaps 10 years away from this loss of upside in GDP growth.

The resource curse of land ownership

by Ajay Shah.

 

Land ownership in pre-modern India

 

In India, 50 or 100 years ago, land was a defining feature of wealth. The stock of land generated a flow of income. The landless were low-paid agricultural labour. The landed gentry of rural India were the kings of their heap. They had power, prestige, position, prosperity.

In the eyes of many, the initial conditions of high inequality of land ownership were a key barrier that held India back. It was argued that a one-time bout of bloodshed was essential, to expropriate the rich, and to transfer land ownership into a more equitable distribution. In India, this capacity for State-inflicted bloodshed was present in some places only. In much of India, the unequal distribution of land ownership found in 1947 was left intact.

Fast forward into the present, and there has been a sea change in the fortunes of the owners of agricultural land.

Agriculture is less important

 

Particularly after we escaped from the Hindu rate of growth (3.5%) in 1979, the share of agriculture in GDP has dropped sharply. In relative terms, the wealth created through firms in industry and services has dwarfed the wealth of the landed gentry. The richest man in India today is born of one who started out with no land. Government interventions continued to stifle agriculture, but shifted to a greater laissez faire approach in industry and services; this helped accelerate the decline of agriculture.

The plight of those who stayed back

 

Rural to urban migration has unleashed new forces on the role and status of the landed lords. Within rich families, high IQ children may be going off to the city to a greater extent, e.g. based on the filtration by competitive examinations where outcomes are correlated with IQ. To the extent that such a process has been afoot, it has given a selection bias where the low IQ children were the ones more likely to stay back in the `idiocy of rural life' (as Marx characterised it). Over a couple of generations, the interplay of nature and nurture can add up to substantial effects.

That there was an easy option - to live off the land - was a `resource curse' which afflicted the households who had land. In contrast, for landless households, there was no conflict of interest in moving to cities (other than the recently introduced NREG, which tries to perpetuate poverty by hindering rural to urban migration).

The power and status of the landed lords was now twice undermined. Their quick-witted cousins who established themselves in the cities were connected into capitalism and getting ahead. Families of the landless have tended to move to cities, connect into capitalism, and get ahead. The erstwhile lords have started looking nervously at both groups of escapees, wondering whether land ownership was such a nice initial condition.

In a fascinating recent article, Devesh Kapur, Chandra Bhan Prasad, Lant Pritchett and D. Shyam Babu gave us some insights into these changing social structures. In their survey data, in 2007, 98.3 per cent of Harijans were contracting-out the work of tilling their fields to their erstwhile lords, the upper-caste men who owned and operated tractors. The upper tail of the Indian income distribution has, in a few generations, been reduced to operators of agricultural equipment.

The importance of engaging with the market

 

A defining issue of modern times, for an individual, is a continued and deep engagement with the market. For insights into this idea, see this interview with Tom Sargent. The Ljungqvist/Sargent story matters even more in India, when compared with what has happened in the West. At 7 per cent GDP growth, every few years, far-reaching change comes about in technology and processes. Each individual builds knowledge and human networks by continually engaging with the market. If a person is cut off from engagement with capitalism for even a few years, this generates a lot of human capital depreciation. At that reduced human capital, the person has to either accept an offer at a much reduced wage, or stay unemployed (which further undermines human capital).

The Ljungqvist/Sargent story helps us understand the plight of adivasis in India, who have been away from the market economy, and are unable to plunge into it. It helps us understand the plight of the unemployed of Europe: the welfare state pays them dole to stay warm and well fed for many years of unemployment, but after this they are unable to come back into the labour market.

In this setting, consider the plight of a land owner, who has been living off the land, and has never engaged with modern India. Particularly in the post-1979 period, when India has experienced relatively rapid growth, each year of being a country hick owning land meant being further away from the skills required to participate in the contemporary Indian economy. The landed gentry of India lacks the skills to participate in the market economy. Income from the land, their resource curse, dulls their incentive to overcome the barriers. They are often too proud to accept low wage assignments which are the starting point through which the unskilled connect to capitalism. These problems have come together to give a unique vicious cycle of dis-engagement with modern India.

Sale of land in the outskirts of cities

 

At the edges of all cities, urbanisation is proceeding through developers buying land from the local landed rich and transforming it into the endless suburbs. In the short term, this has generated immense windfalls of wealth for the landed rich. But in some ways, this is a bit of a disaster for many of them. Lacking in knowledge about the market economy, they are scammed by insurance salesmen and such like. Much of this newfound wealth tends to get dissipated in a few years.

Urbanisation and land development throws open vast opportunities for trade and industry. But the erstwhile landed rich tend to be uniquely ill equipped at harnessing these opportunities. They tend to be too proud to work for someone else, and inadequately equipped to stake out on their own. They experience a brief blaze of glory when paid fabulous prices for their land, and then fade away into insignificance.

Some politicians have been moved to advocate special legal protections for the hapless rural rich who sell land to the modern sector. It's quite a turnabout within a few generations: from landed elite that oppress the others, to witless folk who need to be protected by special laws that inhibit the sale of land.

The curse of land

 

A few decades ago, the left-of-centre view dominated the thinking in India. It was felt that inequality of land was a major bottleneck that held India back. Many argued that the failure of Indian democracy to engage in a one-time bout of class warfare through `land reform' was a major mistake that was holding India back. It was argued that the Chinese path was the right one: to expropriate the landowners and then start a capitalist economy under conditions where everyone is equal.

With the benefit of hindsight, things look different. I think this story reiterates the dangers of social engineering. We are dealing with enormously complex systems that we only dimly understand. As far as possible, it is wise on our part to use the force of the State as little as we can, and to always avoid treading on fundamental human rights such as property rights.

Acknowledgments

 

I am grateful to K. P. Krishnan, Suyash Rai and Mihir Thaker for insightful conversations.

The murder or departure of the Soviet Jews

Gal Backerman has this fascinating story about events from 1970 (40 years ago), where Soviet Jews started fighting for the ability to leave the USSR and go to Israel. By the end of 1971, 13,000 Soviet Jews were permitted to leave for Israel -- more than the number in the previous 10 years put together. In 1972, 32,000 people got the right to leave. The article ends with:

But the true solution was no less mortal a threat to the Soviets in the late 1980s than it had been in 1970. If they let the Jews leave, what would keep everyone else from doing the same? 

When Soviet Jews finally emigrated en masse -- nearly 1.5 million by the end of the 1990s -- it looked like just another happy side effect of the Soviet Union's collapse, another wall crumbling. Forgotten were the decades of pushing from the inside. The Soviet Union might have gone the way of China and had an economic liberalization that ignored human rights. But this option was not open, because the Soviet Jews made it clear that any change would need to include open borders. 

As a result, not only were hundreds of thousands of Soviet Jews able to build new lives, but forces were set in motion that would bring down the Berlin Wall and, eventually, an empire -- a world-shaking transformation born from the hopes once placed on a small airplane that never even left the ground.

This raises an empirical question: Was the departure of Jews important to the functioning of the USSR, or was it just a powerful political demonstration of the bankruptcy of the system? Does this kind of brain drain matter, or is it just a side show in the larger scheme of things? Does it matter to a country that its intellectual elite stays or leaves?

In India, for many decades, some of the brightest people left. Vikram Pandit and Anshu Jain now lead two of the top 10 financial firms of the world. Conversely, from the 1990s onwards, there has been an increasing phenomenon of India being able to pull back some of the brightest ones back into the country. So it's interesting to ask what are the consequences of elite flight or its reversal. Are these few who leave just a drop in the ocean or does it matter in the larger scheme of things?

Daron Acemoglu, Tarek A. Hassan and James A. Robinson have a recent NBER paper analysing a related story titled Social Structure and Development: A Legacy of the Holocaust in Russia where the abstract reads:

We document a statistical association between the severity of the persecution and mass murder of Jews (the Holocaust) by the Nazis during World War II and long-run economic and political outcomes within Russia. Cities that experienced the Holocaust most intensely have grown less, and cities as well as administrative districts (oblasts) where the Holocaust had the largest impact have worse economic and political outcomes since the collapse of the Soviet Union. Although we cannot rule out the possibility that these statistical relationships are caused by other factors, the overall patterns appear generally robust. We provide evidence on one possible mechanism that we hypothesize may link the Holocaust to the present --- the change it induced in the social structure, in particular the size of the middle class, across different regions of Russia. Before World War II, Russian Jews were predominantly in white collar (middle class) occupations and the Holocaust appears to have had a large negative effect on the size of the middle class after the war.

Addressing the problems of Rupeezone

While everyone is pondering the ways in which Eurozone is not an optimal currency area, I found myself worrying about the ways in which Rupeezone is not an optimal currency area. In the Financial Express today, I have a column: Addressing the problems of Rupeezone.

Here are interesting materials on Greece which set the stage for this:

• A money too far by Paul Krugman, in the New York Times.
  
• A response by Greg Mankiw on his blog. He refers to this AER article from 1986 by Christine Romer, and this article by Christopher Hanes in AER in 1993.
  
• A response by Paul Krugman on his blog.
  
• A blog post by David Beckworth.
  
• On the subject of labour mobility, Casper van Ewijk and Michiel van Leuvensteijn have an important column on voxEU making the link between labour market mobility and the transactions taxes which governments impose on real estate transactions.
  
• Here is a column by Feldstein on these issues back in 1998.
• Greek lessons for India, in the Business Standard, by Suman Bery.

This is an interesting demo of how economics happens today: an interleaving between journal articles, newspaper columns and blog posts.

How much capital is coming into India?

In continuation of the recent focus on interest rate differentials and their consequences for upholding a pegged exchange rate, Ila Patnaik has an interesting article which makes two points:

1. Remittance inflows seem to be roughly of the same range of values as net capital flows. It is well known that a lot of remittances are actually capital flows: a person working abroad sends money to India to his relatives who get invested here.
2. Eyeballing the time-series seems to show a strong relationship between remittances and the interest rate differential.

This considerably enlarges our sense of how much capital is or can come into India in response to one-way bets. Conversely, if we set out to capital controls, then these will have to extend to remittances also. Else, money that is blocked as capital inflows will merely show up as remittances. Hmm, and if capital controls are placed against remittances, then passangers will need to be frisked at airports, because a kilogram of gold is roughly the size of a box of cigarettes. X-ray machines will detect a kilogram of gold? A cigarette-box filled with one-carat diamonds is worth roughly 2 million dollars.

Here's an amusing aside on Indian monetary policy. At a meeting at the Planning Commission, the policy debate on Indian monetary policy was reduced to the three corners of the impossible trinity:

• Some people favour closing down the capital account, so as to have pegged exchange rate + monetary policy autonomy (e.g. Shankar Acharya)
• Some people favour pegging the exchange rate with an open capital account, saying that the loss of monetary policy autonomy is harmless (e.g. Surjit Bhalla)
• Some people favour an open capital account with a floating exchange rate, which buys monetary policy autonomy (e.g. Suman Bery, Ila).

A remarkable feature of the present situation is: People at all three corners agree on one thing: RBI should cut rates now! :-)

Real estate - an asset class?

Many people are increasingly comfortable treating real estate as `an asset class'. It is argued that land isn't being produced, that as the population grows, demand for real estate only goes up. Astronomical prices of real estate in India encourage holding real estate assets in the hope of obtaining high profits in the future.

This proposition is debatable. There is actually ample land out there. A calculation shows that even if all of India's population had a dwelling of 1000 square feet per family of 4, this requires only 0.76% of India's land area, assuming a low FSI of 1.

In the case of equities, we know that in all countries, a diversified portfolio of equities earns a few percent per year in real terms over long time periods. Some papers show that this is not the case with real estate (!).

If land isn't scarce, then the cost of built-up housing isn't much, it's just the cost of steel and bricks. To think of it as an asset class is as odd as treating (say) a car as a financial asset. The only challenge is one of overcoming government zoning restrictions, and building enough property, so that prices can then crash.

This is part of the story of the US housing market in recent years. Thanks to sound urban policies, there are no real entry barriers to building houses in the US. Zoning rules are sensible, and the policy framework supports easy extension of urban areas into outlying barren land. When houses could be sold for more than the price of cement and steel required to make them, this kicked off a massive supply response. This kicked up GDP growth for a few years. It took a little time, but this killed off the phase of rising prices. For some time now, house prices in the US will be low because of this overhang of supply.

There are legitimate concerns about bank exposures to real estate, since the market is non-transparent and marking to market is difficult. I think it is easy to build a risk management system governing loans against shares or bonds, but I'd worry about loans against houses or cars.

There are strong concerns about foreign capital coming into the real estate sector of a country like India. It is claimed that foreign speculators will drive up prices and thus make housing unaffordable. This needs to be questioned, for foreign capital that goes into development (directly or indirectly) ultimately drives up supply and thus solves the problem (see above link).

Transforming the real estate sector requires a sustained push in terms of financial capital in development, professional management teams that will build millions of square feet instead of thousands of square feet, and a big jump in the FSI. Once these initiatives are in place, real estate prices will drop, households and businesses will find space to be much more affordable, and it will not look so good as an asset class.

Some of these pieces are now coming together. A new breed of firms are now accessing public markets to obtain capital on a scale that was previously unimaginable, and bringing modern professional organisations to bear on the task of rapidly building properties. Foreign capital and foreign firms are increasingly coming into this area, though much slower than would be the case thanks to capital controls.

The CMIE executive summary for this sector shows a growth in total assets from Rs.22,156 crore in 2004-05 to Rs.53,522 crore in 2006-07. The market capitalisation of listed firms on NSE in this sector is Rs.3,13,981 crore, and the P/E of 37.3 will attract entry. Of the 80 firms in this sector, CMIE finds that 54 have adequate liquidity to make it into the price index for this sector. These are all still small numbers compared with the size of India, but it looks like serious firms are finally coming together, that might ultimately be able to pull off a massive supply response.

In this context, I was intruiged by this story by Raghavendra Kamath in Business Standard, describing incremental supply of ~ 15 million square feet in Bombay in a year. That sounds nice, it represents the kind of dent that is required on the part of supply to make a serious difference to prices.

Barriers to migration within the country

A lot is written about inter-state disparities of income. To an economist, the twin lines of attack through which these disparities will decline are:

Connecting low price labour to markets.

This gets done by improvements in infrastructure. As an example, the new NHAI roads are linking up locations where labour is extremely cheap into global markets. New opportunities are now available for entrepreneurs to buy labour at a low price and sell goods at a global price.

Shifting low price labour to high wage locations through migration.

If the jobs won't come to the people, the people must move to the jobs. This happens through migration, which has been taking place in India on a fairly big scale (though there is some dispute on just how big it is). It is taking place in two parts - through workers that fully relocate, or through migrant workers. But in either event, these movements of people are driven by wage differentials and serve to reduce wage differentials.

These `equalising differences' are fundamental to the logic of the market economy. Both lines of attack are prominent in the Chinese growth story. India has made significant progress on the institutional transformation required for the first - this is the task of building roads, ports, airports, telecom, etc. India has not particularly begun on the second - that of becoming a migrant-friendly country. Too often, migrants lead a tenuous existence without the full rights of locals. Today, Laveesh Bhandari has an excellent article in Indian Express on the lack of institutional infrastructure to support migration.

The economic logic in favour of migration is powerful, and I expect that migration flows will grow considerably. This is partly a mere reflection of differences in the price of labour. In addition, migration is enabled by dropping costs of telecom and transportation.

There is a link between migration and the functioning of the land market. If the land market functioned better, then more land-owning agriculturists would have the choice of selling land and migrating to cities. The rigidities of the land market serve to keep poor people in place.

Update: In today's New York Times I saw an article on the problems faced by migrants in China. The situation seems to be quite a bit worse than that seen in India. Chinese migrant workers weren't able to get their children into public schools until 2003, and through some weird twists and turns, the government seems to be sometimes shutting down private schools that spring up to serve the children of migrants.