Niti Aayog’s Real Problem: A Surfeit Of Macroeconomists, A Deficit Of Micro

Niti Aayog, the government think-tank which replaced the outdated Planning Commission, has a unique problem: it is short of economists in a country where you can’t chuck a brick in Delhi without hitting an economics establishment or two. Every brokerage worth its P/E multiple has an economist or two lurking in the woodwork. Universities have entire streams of students doing economics – though, one must add, often without the foggiest knowledge of the real world of political economics.

According to a BusinessLine story today (5 May), Niti Aayog, which is headed by ace economist Arvind Panagariya, is “compelled” to seek “home-grown” economists from the Indian Economic Service (IES) cadre. An anonymous source quoted for the story has this to say-

It (NITI Aayog) is facing difficulties in getting good, professional economists, who are aware of the country’s socio-economic structure and can help in grassroots issues. Getting back IES officers, who are already familiar with such development and planning work for the government, is being seen as a good option...

How come India has a problem of too many world-class economists (from Raghuram Rajan at the RBI to Arvind Subramanian at the finance ministry to Kaushik Basu at the World Bank) and too few with the ground-level expertise that Niti Aayog needs?

The answer: we has too many of the wrong sort (macroeconomists) and too few doing “unsexy” work in microeconomics. Put in oversimplified terms, macroeconomics is about figuring out how the overall economy will behave (GDP growth, inflation, etc), while microeconomics is about how individual firms and buyers will respond to specific signals of price, demand or other stimuli.

Macroeconomics is about figuring out broad directions, while microeconomics is about figuring out specifics. Macroeconomics has been the sexiest field of economics since Keynesian times, when microeconomists failed to provide answers to the problem of digging economies out of the ditch when individual and firm-level decisions to consume or save were making the problem of economic depression worse.

So, as any microeconomist could have told you, entire generations of economists took the high road to the sexy, post-depression economics of macro instead of the less fashionable one of micro. TCA Srinivasaraghavan anticipated this problem months before Modi got elected. He noted that the answers the new Prime Minister will seek can only come from microeconomists, but he won’t have enough of them.

Srinivasaraghavan wrote in March 2014-

…There are too many macroeconomists in India and too few microeconomists….You can visit the website of practically any think-tank, private or public, or the Reserve Bank of India or the finance ministry or any other ministry or any bank or stock exchange such as the National Stock Exchange, the Telecom Regulatory Authority of India or whatever. You will hardly find any microeconomics research papers….In fact, the field has been left open, by default, to tax experts, most notably from the Big Four. But what they provide is not economic analysis that can help policy. They provide attempts to influence tax policy....

That was prescient. This is what Arvind Panagariya, Deputy Chairman of Niti Aayog, may be discovering now.

Microeconomists seem to be very good at building new findings on old foundations. Take the Nobel Prize (for 2012)… The prize went to economists who built on cooperative game theory, an ancient development by economic standards (one of the main papers was published in 1962). Cooperative game theory looks at how well people can do when acting together; by examining all the possible combinations, theorists can spot outcomes that individuals acting alone cannot achieve. They then focus on something called the “core” of the game - those outcomes that are “stable” in the sense that no subgroup would do better by breaking away and acting alone. So far, so theoretical. But the theory is pivotal in understanding how to set up medical job-matching system in a stable way so that no hospital or medical school wants to break off and set up alone.

The same happened with the post-2008 monetary easing policies pursued by the US Fed and other central banks. All central banks wanted to improve liquidity by buying illiquid assets, including possibly bad assets. But how does one price an illiquid asset, an asset which, by definition, had no market? This is where microeconomists pitched in. The answer, says The Economist, lay in a new kind of auction called the “product-mix auction” developed by Paul Klemperer.

In India too, we need more microeconomists to solve problems in which macroeconomists can offer only generic ideas. For example:

It is easy to say lower taxes will ensure higher revenues, but what is the exact elasticity of revenue given a certain level of current taxes? Will we get more revenues by taxing incomes more or less?

Or take MNREGA. It may be needed as an ameliorative measure when rural poverty is high and wage growth low. Can MNREGA really substitute for policies that create real jobs? Will MNREGA ultimately destroy jobs by prompting more mechanisation, or will it create new ones somewhere, somehow?

Macroeconomics will merely say that more investment is needed in rural growth, but it can’t say what pouring money in the countryside will actually do. It is no coincidence that the high spends on MNREGA have not resulted in major jobs growth. At best, it may have provided wage contestability, by forcing farmers to pay MNREGA-level wages to labour during peak seasons.

Or, what is the net benefit of replacing physical subsidies (food ration shops) with cash benefits? And where will this money generate demand? In food or non-food items? Only microeconomists can offer some answers.

We can go on and on. But the point is simple: macroeconomists can shoot in the dark about how the policies they advocate may be needed, but only microeconomists can tell you how a given amount of fiscal or monetary stimulus will actually work on the ground.

Macro without microeconomics will be real one-eyed economics. Blind macroeconomists will be leading wilfully blind politicians towards a deadend. We can see where western growth is headed, driven by pure macroeconomics, post-2008. Nowhere.