Why killing the Planning Commission is a great idea

We should hail this move as one of the most far sighted in independent India’s economic history, and the best thing that could have happened to the country’s poorest

What should replace the Planning Commission? This is a question many intellectuals throughout the country are worrying about. But they shouldn’t. They’d do much better to hear what one Friedrich Hayek noted: “The curious task of economics is to demonstrate to men how little they really know about what they imagine they can design.”

For those who understand Hayek, the question about the Planning Commission would not have arisen. For the rest, let’s delve into this a bit deeper.

The Commission was a brainchild of Pandit Nehru, based on the ideas of British economist Harold Laski. The aim was balanced development for a poor country. Who could object to such a hallowed goal?

Yet, the Swatantra Party of Chakravarti Rajagopalachari and Minoo Masani did not want this to happen! “If the Swatantra Party had a chance, its first act would be to liquidate the Planning Commission,” Masani is reported to have said.  What were these people thinking? What could possibly be wrong with planning for a balanced future?

What exactly was the Planning Commission supposed to do?

To put it very briefly, the most important charters of the Planning Commission were to:

1. Collect data on the resources available in the country and decide on the allocation among various options available to achieve an ‘optimal’ distribution that provides balanced growth.
2. Find resources that are critical but scarce, and plan to get more of them.
3. Coordinate activities of multiple entities involved in achieving these goals.
4. Measure parameters of the country’s economic growth.

Important tasks indeed, impacting the very survival of the country as we know it. Yet, some would argue, we should not have the government plan for all this! They will tell you that we should leave the allocation of resources to be decided by consumer demand. And let the coordination and scarcity be handled by the price signal.

But how will the system work without a plan? These and many other questions come to mind when the prospect of not having a Planning Commission is presented.

The Socialist calculation debate: Why it is close to impossible for the Planning Commission to get it right

Since time immemorial, well-meaning individuals have thought through plans as to how some people can make decisions for others and achieve superior results, than people making decisions for themselves. All such plans have failed. This empirical experience is an argument for preferring democracy over dictatorship. It also is an argument for preferring a free market economy over a democratically controlled economy.

Ludwig von Mises’ critique of socialism provided the theoretical foundations for this empirical observation. All economic models discussing the efficiency of a framework depend on some measure of personal preferences that determines an individual’s level of satisfaction with a particular state of affairs. Due to this, economic planning by any centralized economic authority suffers from two major drawbacks.

First, personal preferences are subjective. It is close to impossible to represent them as numbers. Can I make a statement like Ram is 1.5 times as happy with two mangoes as Shyam is with three apples? These can serve as indicative ideas in economics textbooks, but cannot be the basis of serious economic policy making. Personal preferences should not be confused with, say, choices between vanilla and strawberry flavours of ice cream. Here, they are about what a poor man faces when he has an incremental Rs 10 and he has to make a subjective choice between spending it on healthcare for his ailing mother, or for food for his hungry daughter, or a combination of the two. With every incremental Rs 10, the same question needs to be answered by him again, until he can begin to think of repairing the leaking roof of his hut.

Second, the collection of such data by a central authority is practically impossible and inefficient. Subjective personal preferences change with time.

All these issues are handled by a freely floating price signal. People make decisions for themselves factoring in every possible subjective or objective emotion. This gives you the most granular information on what are the marginal changes in resourcing to various sectors, which will improve efficiency. For doubters, we’ll come to the Greenwald–Stiglitz theorem later on.

Planning is good. Planning leads to success. Private individuals plan. Corporations plan. The country should plan.

As Praful Bidwai says: “Even corporations draw up plans for investment and growth.” Why should the country not do the same? But Bidwai’s Marxist hangover is missing some basic economic insights.

When individuals plan, they suffer the consequences of bad planning. When private corporations plan, the individuals finally making the plan suffer the primary consequences of bad planning and the secondary sufferers are those who voluntarily chose to associate with the corporation whether as investors, employees or customers. When politicians/ governments plan, the common people who were forced into the plan, suffer the consequences. The set of incentives for government planning is quite different from private planning. And that is precisely why government plans generally lead to inefficient outcomes.

The statist dogma which generates such arguments has done immense harm to the country. The biggest fear is that such rhetoric seems plausible unless scientifically investigated.

An example. How do the incentives of private hospitals and government hospitals compare? Private hospitals get more funding if they perform well. Government hospitals get more funding when they perform poorly due to more government health funds flowing into the region which has worse health outcomes. The results are obvious and widely observed. But Das Kapital fans have always been immune to scientific analysis.

The Greenwald–Stiglitz theorem: Correct theorem, incorrect implications!

Nobel Prize winning economist Joseph Stiglitz proved that markets lead to efficient outcomes only under some very strict conditions. There is no doubt about the validity of this result. In a strict scientific sense, this theorem states that there exist outcomes which are more efficient than the free market outcome. As an example, free markets can leave some people unable to afford food, whereas some do not even remember how many bank accounts they have. It will be more efficient if Rs 100 from the rich guy’s account were with the poor guy, with which he could have food and get ready to find work the next day. The rich guy will not even notice the Rs 100 less in his account.

This argument is flawed in multiple ways. It does not consider that the extra ₹ 100 lying in ‘filthy’ rich guys account is actually money that has been lent out to someone who is using it to maybe create a job opportunity for someone. But let us focus at the specific point of Stiglitz, which states that outcomes more efficient that the market outcome exist.

Existence of an outcome more efficient than the market does not imply that governmental actions can achieve it. This is a point which cannot be stressed enough. People generally equate existence of a more efficient outcome as justification for government intervention and planning. And this incorrect deduction leads to devastating results which Marxists and Keynesians are unable to explain with their theories. A recent example is Obamacare which was ‘intended’ to make healthcare affordable for the common American. The reality has been very different and predictably so; it has made things worse than earlier (Stiglitz was one of the staunch supporters of the legislation). So what went wrong if the Greenwald–Stiglitz theorem was correct? At the risk of repeating myself, I will restate that it was the conflation of the fact of existence of outcomes superior to the free market with the dogma that government planning can achieve that outcome.

Consider the rich man–poor man example. What are the various options we have to achieve the more efficient outcome than the free market? One is to convince the rich guy to share some of his fortune with the poor guy. If this works, we have achieved an outcome more efficient than the free market. But wait! This too was a free market outcome! Any voluntary action without government coercion is a free market outcome. A basic premise of the free market is that everyone should be free to use their money the way they want.

But what if the rich guy chose not to voluntarily share with the poor guy? Statists tell you that the way to achieve efficiency in this case is for the government to forcibly take from the rich and give to the poor. That’s the incorrect implication of the Greenwald–Stiglitz theorem. Because this has two major problems. First, any forced redistribution reduces the incentive to produce, leading to the whole pie becoming smaller. Forced redistribution might be justified on the basis of equity but not on the basis of efficiency as Stiglitz might want you to believe. Second, the government is composed of people among us who work according to their own incentives. If government has the power to redistribute wealth, who has the highest incentive to get into government? Simple answer: the corrupt and the criminals.

What has happened in India is that we started with a plan to take efficiency over and above the market and ended with an even inferior outcome. This is real world socialism.

What is the central problem with Marxist and Keynesian policy prescriptions? It is the rejection of the idea that economic variables are related. Affecting one affects the other. Capping the price of food reduces the supply of food. Raising the cost of labour reduces the demand of labour. These pseudo-economists want you to believe that any of these variables can be independently chosen. And the government can make that choice. And that’s how they achieved the collapse of the USSR.

The Bill Gates critique: Malaria and Male Baldness

Let’s turn now to the critique of free market capitalism from, whom some would call, the poster boy of capitalism.

As Bill Gates says, in a laissez faire system, the investment in malaria research will be much less than that in male baldness, because malaria is a concern mainly for the poor whereas male baldness is a concern for the rich. Voila! We have a market failure and let us lay out the red carpet for the government to interfere!

The observation is correct and the free market could indeed lead to such an outcome. But what are the implications then? Can government action improve things?

The free market distributes investment according to consumer demand weighted by individual productivities. The ‘weighted by individual productivities’ part is very important and this is what differentiates free markets from the Marxist vision of distributing investment according to consumer demand with equal weight to each individual’s choices. Any attempt through government to achieve the Marxist vision leads to reduced incentive for increasing one’s own productivity.

For the sceptic, a look at Indian government hospitals can serve as proof of the above. The mess the government creates in trying to achieve a utopian investment pattern is for all to see.

Gates is right that such a thing could indeed occur but the solution lies in stopping the government from doing things which worsen inequality like monetary policy, whether expansionary or contractionary, employed by central banks. IMF economists have, after years of research, found experimental evidence that contractionary monetary policy exaggerates inequalities. Interestingly, such effects were elementary for free market economists. It is a matter of time before interventionists realize that expansionary monetary policy has even worse effects on inequality.

And even though Gates makes a critical observation on free market capitalism, he knows the right answer to the problem. And his answer is the Bill and Melinda Gates Foundation. Voluntary philanthropy is always superior to government mechanism because voluntary philanthropy gives the granular choice to reduce investment if the plan does not satisfy the ‘self-interest’ of the philanthropist.

Voluntary philanthropy is superior to no philanthropy. No philanthropy is superior to government solutions.

The middle path fallacy

Two criminals had a disagreement on whether to murder the captive or set him free. Being lazy enough to analyze the various options they had, they chose to follow the middle path. They chopped off the hands of the captive which was a middle path between murdering him and setting him free.

We are told regularly that the middle path is the best path. But is it that simple?

The same argument is used to justify a mixed economy. Nehruvian socialists theorize that since competition is good, private companies competing with government companies is the superior model. A little bit of thought will make it clear that this idea is totally flawed. What are the incentives for the various players in the game? The private player has every incentive to bribe the government company to increase his profits. The government player has every incentive to accept the bribe and take actions to reduce profits because his personal money is not at stake. Even if the manager of the government company turns out to be honest, he will not be as driven as the private player. When the government player makes a loss, the taxpayer pays. Everybody pays.

This is not to say that the middle path is always worse. The only point made is that an option is better or worse depending on its individual merits rather than just due to it being the middle path.

Some of the credit for India’s development goes to the Planning commission.

All said and done, some people argue that whatever its flaws, at least some credit must be given to Planning Commission. For example, Dr Syeda Hameed, former member of the Commission, argues that credit for eradication of polio must go to the Commission.

This is an acute case of Stockholm syndrome. If any credit has to be given to the Planning Commission, it will be for retarding development in health services. If you just add up the amount of money spent by the government on health services and measure the outcomes, the fog will clear. Using outlays as a measure of government effectiveness is flawed. Using outcomes as a measure of government effectiveness is flawed. The only objective measure is outcomes per unit outlay.

The Planning Commission was required after independence because we were a very poor country

If wasting resources is bad, why would wasting resources be a good idea when you are very poor?

In fact, if you get the economics correct, central economic planning is as bad for Somalia as it is for USA. It will not be wrong to state that India’s escape from poverty was retarded due to the central planning mindset.

Critics argue that India is a unique country with unique problems. Our years of caste-based discrimination are a problem unique to India and the solutions must be unique. There is no denying this fact. But what is being denied is that central planning is the cure. A much superior model to handle this is income-independent, caste-independent, time-bound cash transfers.

Even Subhash Chandra Bose supported central planning!

And then we are told that since a patriot as unparalleled as Netaji Subhash Chandra Bose was in favour of central economic planning, it must be a good idea.

While I cannot dare to question the nationalism of a personality with as high a stature as the Mahatma himself, I will certainly question Netaji’s economic ideas.

There are two major reasons for Netaji’s inclination towards central planning.

First, the world situation in the pre-independence period masked the flaws of socialism. Socialism does not work because every individual has different objectives. But Netaji’s time was the time of WWI and WWII and the freedom struggle. A large segment of people in many countries around the world voluntarily chose the societal goal as the individual goal and the basic flaws of socialism stayed hidden. And many people mistook this as a success of socialism. This mistake was not unique to Netaji; most countries around the world elected Marxo-Keynesian governments post-war including the Democratic Party victories in USA under Harry Truman and the Labour Party victories under Clement Attlee in the UK. The way central planning performed during war confused people into believing that it can work during peace.

The second was the influence of the Axis powers on Netaji, which were essentially socialist and with whom Netaji forged good relations due to nationalist objectives. Adolf Hitler’s National Socialist Party, also known as the Nazi Party, had economic policies quite in line with its name. Benito Mussolini’s National Fascist Party was not much different, with central economic planning as the cornerstone of the economic idea.

What if the Planning Commission gets it right?

Let us override all the objections listed above and assume a case in which the well-intentioned, omnipotent planners in the Planning Commission actually get the numbers right, that is, same as what the market would result in, the numbers which have been touted as oh-so-perfect all through this piece. Will this be an argument to say that central planning will work?

No. For the simple reason that even if central planning gives you the same numbers as the free market, it will necessarily use up a lots of resources in getting those numbers. Imagine the time and energy of the population wasted in collecting humongous amounts of data required for this exercise. The free market could have given you these numbers without incurring these overheads, just by people using the price signal in their private decisions.

Even in this case, central planning is inferior.

Space research will not get funding if we let the free market decide the allocation of resources

And then the socialists and pseudo-capitalists try their trick on the middle and upper classes by raising issues with which the better-off in the country are sentimentally attached. We among the better off in the country cheer when ISRO’s mission reaches the moon and hold our heads high with pride.

Yet an economic analysis of the proposition would tell you that if it’s a given that the government will tax us, it’s better use of that money to give another morsel to the hungry rather than spend it on getting more moon pics. The multiple fallacies in the idea of the State investing in scientific endeavours overriding market demand—though amusingly confused as insights—are presented in this book by economist Mariana Mazzucato.

If no one will invest their private money in the venture, it means no one values the gains from that investment more than the alternates. When the government overrides this decision, it essentially is forcing private individuals to do what they would not have done otherwise—after all, all government money is private money taxed away. Government investment in science finally helps the better-off much more than the worse-off, aggravating inequality even further. Mazzucato’s book states precisely this fact in the context of Apple though misinterpreting it as a success of government intervention in the economy. When the State makes a high-risk investment, it is essentially putting every private individual’s money at risk. If the venture fails, all citizens lose money. If it succeeds, some rich capitalist will use it for even more profits without enduring the initial risk.

This is one rare case where I see that the Marxists and free marketers somewhat agree on an issue, though with differing approaches. The Marxist persuasion is that the government should prevent investment in space exploration whereas the free marketer argues that the government should not have the power to take these decisions and private investment in space exploration is perfectly fine.

The abolition of the Planning Commission is the best thing that could have happened to India’s poorest

The Union Government’s decision to do away with the Planning Commission will not affect the better-off in the country much, but it’s a blessing for India’s poorest. This will reduce wastage of resources in governmental planning and reduce bureaucratic corruption. This will allow the government to reduce taxes, leading to greater private sector growth benefitting the poorest.

The spending done through government must be replaced by income-independent time-bound cash transfers. My support for redistribution in no way stems from any misconceptions about economic efficiencies of redistribution. Rather, it is atonement for the exploitation of the poor in the country by the non-poor through socialist government programmes which exacerbate inequalities. The current government seems to be already thinking in this direction and it needs to be commended for it.

We should hail this move of scrapping the Planning Commission as one of the most far sighted in independent India’s economic history, comparable to the liberalization by P.V. Narasimha Rao. The only difference is that the latter was under IMF duress whereas the present reforms are due to a level-headed conviction in a scientifically superior economic model for the country.