What if it is the other way round!

The chicken and egg problem of economic development and corruption.

Mohamed Bouazizi was a fruit vendor in Tunisia. On 17 December 2010, he set himself on fire in protest against unjust behaviour and corruption. What followed toppled at least four entrenched dictatorships—Egypt, Libya, Yemen and, of course, Tunisia—and triggered massive protests in more than 18 countries against autocracy and human rights violations. Year 2011 was marked by massive movements against corruption across the globe. India too saw its share of protests in 2011 with Anna Hazare’s fast and subsequent arrest becoming the rallying point of this movement.

By and large developed countries are perceived to have lower levels of corruption than developing countries, though the developed world has seen its share of scandals and shaming—the IRS scandal in the US, the Lagarde List in Greece, the phone-hacking controversy in the UK, and the series of corruption allegations that led to Italy’s setting up the National Anti-Corruption Authority.[ii]  Chart 1 below reproduced from Transparency International provides intuitive evidence of the possible link between economic development and level of corruption. The correlation between the Corruption Perception Index (Transparency International) and per capita GDP (IMF) in 2012 turns out to be 0.77.

Chart 1: The developed world appears to have lower levels of corruption

Source: Transparency International, http://cpi.transparency.org/cpi2012/results/

Such a high level of correlation between economic development and corruption across countries has naturally led to the growing consensus that corruption negatively impacts growth and development. The biggest challenge for growth in an environment of corruption comes from the lack of predictability in policy and outcomes, which is essential for investment and growth. To some extent, India is witnessing this, specifically with respect to the Telecom and Coal sectors. In the long-term, corruption distorts incentive structures, delays reforms, imposes overly restrictive regulatory structures and imposes heavy implicit taxes on businesses. Finally, it can exacerbate social inequality that can bring economic progress to a sudden halt through violent or peaceful mass movements.

A number of studies suggest that eliminating corruption is a precondition for economic development. What if it is the other way round? What if economic progress purges corruption! There are a number of studies that point in this direction, too. Essentially, we know that economic development is negatively correlated with perceived corruption, but are we certain which way the causality runs?[i]

One of the overriding processes by which economic development can reduce corruption is by creating clear property rights and enabling mechanisms for contract enforcement. Secured property rights are definitely beneficial for economic development, as borne out by the rise of Western Europe/ England.[ii] However, as economies progress, they get better at enforcing property rights.[iii] When people/businesses have clear property rights, they have increased mobility. That’s just one way clear property rights can help reduce corruption—firms are freer to relocate more easily from a region where corruption and associated rent-seeking activities are high to another with fewer corruption issues.[iv]

Rising affluence and increased awareness among citizens also create the will to fight against state’s efforts to confiscate private property and generate rents for public servants. Crony capitalism is not really a good idea for businessmen in the long term, as gains, if any, to private business are limited to very short term. Over time, all agents (businesses and households and their groups) in the economy may begin to agree that a coercive and confiscatory state does not benefit anyone and so “vote out” any government that is overly abusive of property rights.

There are many variables other than economic development, also closely correlated with the perception of corruption. The time taken to set up a business and unexpected inflation are positively associated with the perception of corruption. Religion (especially, Protestantism), democracy, freedom of press and participation of women in government are all negatively associated with corruption. The participation of women in the workforce is, in fact, highly correlated with economic development.

While all variables point to steps that can be taken to eliminate corruption, economic development has a clear association to the perception of corruption. It’s more like an antibiotic relationship—increased corruption affects economic development adversely, while increased economic development can reduce corruption. By influencing factors that stimulate economic development, such as controlling inflation, reducing fiscal deficit, better enumeration and enforcement of land rights and investing in human capital, a virtuous cycle can be kickstarted—increasing economic development can help lower corruption that, in turn, could attract more investment and fuel economic development, which in turn could bring corruption down further until some kind of equilibrium is reached. This cycle can be helped along further by influencing factors that could reduce corruption—strengthening the democratic process, ensuring freedom of speech, easier processes for setting up and exiting business or even greater participation of women in politics.

Quite a few ideas are being debated in India and some bills along these lines have either been passed or are being considered by the Indian parliament. Examples include the land acquisition bill and women’s reservation bill, while there is growing clamour for controlling inflation and fiscal deficit. Even if the direct purpose of these bills and debates may differ from the goal of eliminating corruption, it could be a fallout. India seems to be moving in the right direction.

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[i] For an interesting review see Daniel Treisman, “What have we Learned about the Causes of Corruption from Ten Years of Crossnational Empirical Research”, November 2006 < http://www.sscnet.ucla.edu/polisci/faculty/treisman/Papers/what_have_we_learned.pdf>.

[ii] D. North and B. Weingast , “Constitutions and Commitment: The Evolution of Institutional Governing Public Choice in Seventeenth-Century England,” The Journal of Economic History, 49(4), 1989, pp. 803-832.

[iii] One simple reason for this may be growing revenues and, therefore, ability of the state to incur costs associated with enforcing property rights. Mark Gradstein, “Governance and Growth”, Journal of Development Economics, 73, 2004, pp. 505-518.

[iv] Jie Bai, Seema Jayachandran, Edmund J. Malesky, and Benjamin A. Olken, “Does Economic Growth Reduce Corruption?: Theory and Evidence from Vietnam”, April 11, 2013 < http://economics.mit.edu/files/8777>.

What exactly is the poverty line?

Poverty is a normative concept. Its definition differs across countries and over time. The concept of poverty line, therefore, cannot be delinked from its historical discourse. It has to be seen in reference to the social, political and economic context in which poverty was initially defined and the methods that were used to measure it over the years.

Measuring poverty

Poverty can be classified into two groups: absolute poverty or relative poverty. Relative poverty is a variant of the measure of inequality in a society. Absolute poverty, on the other hand, is a measure of deprivation of food, clothing, shelter, health care and education (or any other human need considered essential) in a society. For example, in the United States, official poverty line is defined as three times the cost of a minimum food diet in 1963, which translated into $22,811 for a family of 4 (2 adults and 2 child) in 2011. By this measure, nearly 15% of the population was poor in the US in 2011.

At the current exchange rate (~61), the official poverty line in the US would translate into an income of Rs. 13.84 lakh, which would likely lie in the top 5% income bracket in India. (Still people complain that salaries in India are becoming comparable to the developed world and that we would soon lose our competitiveness—an argument I am unable to fathom).

Defining poverty in India

In India, the current definition of poverty has its roots in the definition adopted in 1977 by the task force headed by Y. K. Alagh. The poverty line was defined on the basis of minimum calorie intake—2400 calories per person per day in rural areas and 2100 calories in urban areas—coupled with some non-food consumption considered absolutely necessary to get the required calories (see Table 1). The task force used the NSSO’s all India survey to estimate the level of expenditure that would translate into meeting the required calorie norm. The poverty line was estimated to be Rs.49.09 in rural India and Rs. 56.64 in urban areas.

The poverty line was, thus, “observed” from real expenditure and consumption pattern of the poor. This definition, as stated by the Lakdawala committee, “was partly normative and partly behavioural”. Though anchored in the calorie norm, it measures the purchasing power necessary to meet the minimum calorie standard rather than evaluate actual malnourishment or under-nourishment. The calorie norm serves only as a first order approximation for measuring the poverty line.

Table 1: Definition of Poverty Line in India

Year	Poverty Line (expenditure per month per capita in Rupees)		Definition
	Urban	Rural
Working Group, 1962 (at 1960-61 prices)	25	20	Minimum standard of living, excluding spending on health, education and shelter, which were supposed to be provided by the state
Dandekar and Rath, 1971 (at 1960-61 prices)	22.50	15	Calorie norm of 2250 per person per day
“Task Force” of Planning Commission, 1979 (at 1973-74 prices)	56.64	49.09	Average calorie intake per person of 2435 calories in rural and 2095 calories in urban areas—based on estimates by the Nutritional Expert Group

There were two major attempts to revise the poverty line, with the Lakdawala committee in 1993 and the Tendulkar committee in 2009.

The Lakdawala Committee: Focus on state-level estimates
The Lakdawala committee focused its attention on three aspects of poverty estimation: the base-year consumption basket, the choice of price index for adjusting the poverty line over time and estimation of poverty at state level.

On the first issue, it decided to retain the existing definition to retain comparability over time.

To update the poverty line, it recommended constructing a new price index for the poor by using CPI (-IW, -UNME and -AL) instead of using the price deflator from National Accounts Statistics estimates of private consumption.

State level poverty estimates were becoming increasingly controversial, primarily because the centre’s financial assistance to states depended on it and many states claimed that the planning commission grossly underestimated their poverty status. The committee agreed that the current methodology needed to be revised. It recommended adjusting the base year (1973-74) poverty line for observed differences in cost of living across states. It then updated it for future years using the consumption pattern of the poor and the state-level consumer price indices.[1]

Tendulkar Committee: Taking a slightly broader view of poverty

While clearly stating that there is “an inevitable element of arbitrariness in numerically specifying the poverty line” and that the “in the interest of continuity” it would be best “to situate it in some generally acceptable aspect of the present practice”, the Tendulkar committee made four radical departures from the past, of which two are especially important:

1.     It did not pay too much heed to the nutritional requirement. The Tendulkar committee decided to ignore the calorie norm. Lakdawala committee had put the head count ratio at 25.7% in urban areas in 2004-05, using the calorie norm as the anchor. Tendulkar committee estimated the total per capita consumption expenditure associated with it. The purchasing power represented by this per capita total consumption expenditure was taken to be the “poverty line basket”, to be applied to rural areas after allowing for rural-urban price differential. Note that with this method the rural-urban differential in calorie norm disappeared.

Inevitably, the application of the new method meant lower calorie consumption by the poor as it had to allow for expenditure on various other heads, including health and education. However, the committee accepted this based on the notion that per capita calorie intake in India has declined over the years, which suggests a change in preferences of consumers. Further, as per FAO recommendations, 1800 calories per day may be enough for a person in urban area to function without any decline in productivity, and this matched the committee’s calculation of what the poor were consuming.

2.     They changed the price deflator. The Tendulkar committee used the NSS implicit price deflator to update the poverty line, both at the all-India and state level. This has been considered a major correction from the past as it refers to the same consumption basket that the poor consume rather than apply a generic price deflator.

The poverty estimates of Tendulkar committee are much higher than in the past (see table 2), which shows that the poverty line was revised substantially.

Table 2: Estimates of Poverty Line and the Head Count Ratio

Year	Poverty Line (expenditure per month per capita in Rupees)		Head Count Ratio (Percentage of population below poverty line)
	Urban	Rural
Official estimates of Poverty
1972-73	47	41	51.5
1977-78	69.9	60.6	48.3
1983-84	117.5	101.8	37.4
1987-88	152.1	131.8	29.9
Lakdawala Committee
1973-74	49.63	56.96	54.9
1977-78	56.84	72.5	51.8
1983	89.45	117.64	44.8
1987-88	115.43	165.58	39.3
1993-94			36.0
2004-05			27.5
Tendulkar Committee
1993-94	-	-	45.3
2004-05	578.8	446.68	37.2
2009-10	859.6	672.8	29.8
2011-12	1000	816	21.9

Source: Planning Commission, various reports.

Two primary concerns

Two concerns of the various expert groups on estimating poverty have been: (1) Identify poverty based on some objective notion of what it means and how to interpret it using (NSS) data; (2) Consider the historical narrative and not create a new notion of poverty in vacuum.

They needed to retain some way of comparing the numbers over the years. Inter-temporal comparisons allow us to understand whether our policies are working and to what extent. For instance, Tendulkar committee’s estimates suggest that poverty has declined faster in the years after 2004-05 than in the previous decade. This could have related policy implications for growth and anti-poverty programmes.

Conclusion

Defining the poverty line was a very important step in the Indian context as it set the agenda for a model of development that reduced poverty over time. It provided an objective framework for estimating poverty, researching the causes and consequences of poverty, and designing targeted anti-poverty programmes.

An interesting feature of the work of expert groups has been that both the (Lakdawala and Tendulkar) committees significantly revised upwards the estimates of poverty. This shows that the poverty line has been revised upwards, in keeping with changing social norms. Yet, a link with the past was always retained.

While we definitely have the choice to redefine the poverty line to suit our new preferences, delinking it completely from its historical narrative will mean that we will lose the option to evaluate the effectiveness of our policies and programmes. Revising it substantially upward would also have the implication of spending more on anti-poverty programmes and increasing the resource transfer from the centre to the states.

Finally, it is ironic that Professor Tendulkar had often argued that our poverty estimates were too low. It is ironic that he is now being cast in the shadow of the devil who defined the poverty line too low; despite a fairly big jump in their estimate of poverty in India.

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[1] A more detailed explanation cannot be attempted here. Readers are advised to read the report of the expert group: Planning Commission, “Report of the Expert Group on Estimation of Proportion and Number of Poor”, July 1993 < http://planningcommission.nic.in/reports/publications/pub93_nopoors.pdf>.

Are Raj Babbar and Professor Tendulkar really wrong?

Everyone seems to have discovered the poverty line in India. And everyone has an opinion on it—especially along the lines that the poverty line makes fun of the poor. These opinions are expressed via Facebook, Twitter and Blogs with complete abandon and often with rabid satire and smug self-validation of superior intellect, attracting mutual “likes” and comments. Defunct economists and politicians add to the confusion, creating sharp ideological divides rather than promoting rational arguments. So, what’s the reality?

First, talk to your maid

My maid and her husband together earn nearly Rs. 10,000 per month. They are a family of 6—4 kids and 2 adults. All the kids, except the eldest daughter, go to school. The family doesn’t have to spend anything on their education. They get monetary assistance through the school for buying books etc.

They spend Rs. 3000 on rent and Rs. 1000 on electricity. That leaves them with roughly Rs. 6000 to spend on food and non-food essentials. With Rs. 6000, they manage to cook two vegetables per meal, dal and roti, and include chicken often. They consume 1.5 litres of milk everyday and 30 kgs of atta (wheat flour) and 6 kgs of rice every month (Rice is consumed only on special occasions, like when there are guests). Any extra expenses, like medical bills or even new clothes, need additional income or borrowing, but they manage their food and other essentials within Rs. 6000.

Now, do the math. With 6 people, Rs. 6000 translates into a spending of Rs. 1000 per capita per month—or Rs. 33.33 per capita per day—on food. This definitely doesn’t seem like much, but if we take the family as a whole, it means spending Rs. 200 per day on food, and that should give us pause, long enough to delve deeper into the feelings of outrage and bring to light some very obvious flaws in current popular opinion.

Eating out vs. home food

The TV news reporters have been taking us into town, showing us price lists at local dhabas, and asking us “how can anyone survive on Rs. 30 a day?” And we have been exclaiming with them: How can anyone!

In the heat of the moment, we forget the overheads and profits built into that price list. We forget that home food does not have those margins built into them. And we forget that we do not eat at dhabas and restaurants everyday.

Conflicting logic

By the public outcry I’ve been witnessing recently, I’d believe that more than 1/5^th of India’s population is starving to death. I’d believe that extreme hunger is a reality for a much larger proportion than 2% of the population. I’d believe that my maid and her family are at the point of starvation deaths! And so would be yours!

If that’s the reality, then why are there equally vehement outcries against the Food Security Bill? We may need the Bill at a much larger scale than currently envisaged.

The only possible conclusion!

As we are not staring at the horrendous scenario of the imminent deaths of nearly 270 million persons and we are shouting ourselves hoarse against the Food Security Bill, what we are really saying amid all our name-calling and mud-slinging is this—the poor are actually earning and spending more, but report wrong consumption patterns, maybe to receive government aid! And if that’s what we are saying, our outrage is misdirected at Raj Babbar and Professor Tendulkar.

Coming soon: What exactly is the poverty line?