While excellent newsletters on specific themes within public policy already exist, this thought letter is about frameworks, mental models, and key ideas that will hopefully help you think about any public policy problem in imaginative ways. Audio narration by Ad-Auris. If this post was forwarded to you and you liked it, consider subscribing. It’s free. #207 The Rise and Rise of ConglomeratesNational champions, Surge Hiring for Boosting Foreign Policy State Capacity, and the Quad's Role in the Indo-Pacific
India Policy Watch #1: Don’t ConcentrateInsights on issues relevant to India— RSJIn one of the recent editions on the Hindenburg short-selling saga, I had written about how easily the Adani group had spread itself into a diverse range of sectors. The group was highly leveraged because it was so keen on getting into newer sectors and then winning bids in them with metronomic efficiency. Generally speaking, it is difficult to run a conglomerate of different businesses. You might argue that each business can be handled by a competent management team who will use the brand name and deep pockets of the parent group to build a solid business. But it is easier said than done. Capital allocation decisions, which lie at the heart of executing a business strategy, are difficult within a single line of business. They become hugely complicated within a conglomerate of businesses. Misallocation of capital, lack of focus and inability to stay competitive against smaller, nimbler players eventually follow. Soon, the businesses need to be hived off, and you find companies convincing would-be investors on how they are doing fewer things and doing them well instead of spreading themselves too thin. This is the usual cycle. Yet, you see conglomerates appearing on the business landscape across countries. In some cases, these are businesses integrating vertically or finding interesting adjacencies in their business. This kind of makes sense in the Coase-ian “Nature of Firm” way. I mean, if the transaction costs of finding someone to do a particular work are higher than you doing it yourself, sure, go ahead and do it yourself. But beyond that, there should be no economic reason for having conglomerates. Unless you have one of these conditions in the economy: a) Cost of capital is high, and access to it is difficult. Newer players find it difficult to access capital to start new businesses while older, established players with free cash flow can muscle their way into unrelated but lucrative new sectors only because they have access to capital at a lower rate. b) The playing field isn’t level for newer players to make a dent. Through a mix of friendly regulations, ‘working’ the networks and M&A activities, the bigger players continue to have an advantage going into a new sector over smaller players who might have expertise in cracking those sectors open. c) There’s relatively little ease of doing business in those sectors or in the evening overall. The established conglomerates with an army of people, lawyers and consultants can get started relatively faster and capture the market than new entrants. You don’t have to be a genius to see where the Indian policy-making framework is on the above conditions. There’s common and easy access to capital through a large number of PEs and VC funds but only for a particular kind of ‘flavour of the season’ variety. This also is getting difficult to access. The market for other forms of capital isn’t deep enough. In the same vein, long-term capital for greenfield projects where the credit risk has to be borne by the issuer isn’t available. There is always a whiff of regulatory capture especially in sectors where the government is closely involved bin decision making. Lastly, we might have moved up in the ‘ease of doing business’ rankings, but it isn’t clear yet how this has changed things on the ground. New businesses still find going tough for them. All of the above means that in the past five years, we are reversing a trend seen since the ‘91 reforms. That of increasing salience of conglomerates in India. You don’t have to research too hard. Just take a look at any sector - already big or one that is emerging - you will have the same spectacle of a few large corporate groups getting themselves into all sorts of businesses, from defence to semiconductors or from airlines to carbonated soft drinks only because they believe they can take advantage of market distortions. As if to illustrate this point further, here's news that’s only a day old. Here’s Moneycontrol reporting:
This isn’t out of the ordinary. If you search for similar news items from the last five years, you will notice the same pattern of large conglomerates (usually the big 5) muscling into other or newer sectors because they think they have the capital and they will be able to manage the sector well. While one cannot blame these conglomerates for their ambitions, this trend suggests we might have tipped over from being pro-markets to pro-business. Coincidentally, as I was writing this, we had a paper authored by Viral Acharya (former Deputy Governor, RBI) on the opportunities and challenges for the Indian economy published by the Brookings Institution and being discussed in the media. Acharya has highlighted the concentration of power in Indian industry as a particularly worrying trend. He writes (I have paraphrased a bit):
Acharya then goes on to list the usual downstream problems of such an increase in market power concentration - inefficient allocation of capital, favouritism in project allocation, regulatory interference, related party transactions, over-leveraging while becoming too big to fail and crowding out new players. But he also makes an important claim that this concentration of market power is one of the reasons for persistent core inflation. He concludes:
I won’t go as far as Acharya yet on this thesis. As he admits, there’s more work that needs to be done here, but his conclusion on pricing remaining high because of industry concentration does pass the smell test. And it should concern policy makers. I know there are many who will ask what’s wrong in creating ‘national champions’ like the tiger economies did between the 70s-90s. But there are a few differences in our case. Firstly, the focus on creating national champions elsewhere was to choose specific sectors where they might have a comparative advantage, invest in them, especially on technology and then win in global markets through an export-oriented strategy. It is a somewhat flawed approach, but it still makes sense for a low-income economy to do this. But we aren’t really doing this in India. Our so-called national champions are focused on domestic markets where there’s no particular need to have them. In fact, there is only a monopoly risk here with the attendant problems of price cartelisation and poor customer service. Also, the limited focus on exports that these big five domestic players have as of now is largely linked to natural resources and not large-scale, job-creating manufacturing setups. It is unclear how the broader economy is benefitting from this apparent design. Secondly, the successful national champion model in other economies didn’t need high import tariffs to support their ambitions like it is now the case in India. We have written about this many times in the past. Higher tariffs will reduce the competitiveness of the domestic players in those sectors to compete globally. It is counterintuitive to have a high tariff regime if you want to build national champions. After all, global markets are much larger than the domestic market, and that’s where these conglomerates must be competing. Thirdly, what’s the government getting out of the apparent tilting, if it is intentional, of the playing field in favour of these players? If the idea is to have national champions despite the obvious flaws in this intent, it makes sense to have stakes in these ventures to participate in the value being created. Lastly, the overall economy will benefit if the process of creating such champions leads to factor market reforms and real ease of doing business for other participants in the process. Else, the larger players will continue to get ahead not because of better products or innovation but simply because they know how to manage the system. In other words, it is the 1970s all over again with a tadka of markets. It is difficult to see how we can trace our way back from this path, given the apparent lack of opposition and the already dominant position of these conglomerates in industry and media. Also, any walking back will require some bold antitrust kind of measures (it is what Acharya suggests) which is quite impossible in India. Possibly, the only medium-term scenario is these conglomerates start stepping on each other's toes as they continue to diversify their businesses and that competition alleviates the problems of concentration. But that might be too late in coming, or they might have a tacit understanding of the rules of the game in competing with one another. It will distort markets further. Maybe this is a tad alarmist, but it is important to acknowledge there’s way too much diversification among the top conglomerates in India and that’s always a sign of market distortion. India Policy Watch #2: We Need an Agnipath for India’s DiplomacyInsights on issues relevant to India— Pranay Kotasthane In edition #198, I highlighted that at least three areas of the Indian executive need a quick state capacity boost. These were: the Ministry of External Affairs, Ministry of Electronics & Information Technology (MeitY), and economic regulatory bodies such as the Competition Commission of India (CCI). Then I came across this tweet from the External Affairs Minister, which acted as a positive reinforcement for this line of thinking.  A busy week for Indian diplomacy. Italy State visit✔️ G20 Foreign Ministers’ Meeting✔️ Quad FMM✔️ IBSA Handover✔️ India-Europe Conclave ✔️ Raisina Dialogue✔️ 33 Bilaterals: 🇩🇰🇲🇺🇹🇷🇧🇷🇬🇧🇰🇲🇲🇽🇪🇺🇳🇬🇷🇺🇦🇷🇳🇱🇿🇦🇺🇸🇨🇳🇮🇹🇦🇺🇸🇪🇸🇦🇪🇬🇯🇵🇧🇩🇸🇬🇫🇷🇴🇲🇸🇮🇲🇻🇨🇦🇸🇰🇱🇰🇭🇷🇧🇹🇦🇲 Managing these engagements in an unsettled world order needs an immediate boost in India’s foreign policy capacity. Solutions like incremental increases in the Indian Foreign Service (IFS), while required, will be too slow. What we need today is a ‘surge hiring’ strategy. The external affairs ministry, in fact, was the first union ministry to experiment with a broader lateral entry for government officers in 2015. It also opened up positions in its policy planning and research division for people in academia and the private sector. However, these tentative trials seem to have lost steam. The underlying reason is the internal resistance from the foreign service officers, who see such attempts as a threat to their career progression. The surge hiring strategy should try a different approach. It should attempt to hire a much larger number of people below ambassadorial positions. This way, the cadre protection impulse can be side-stepped. Instead of targeting joint secretary levels, two fellowships could be attempted: one for fresh graduates and another for young professionals working within and outside the government (thanks to Nitin Pai for this idea). Given the growing prominence of technology and economic issues as foreign policy domains, this approach would help build institutional knowledge within the ministry. More importantly, the surge should target staffing for the headquarter functions in Delhi for managing various engagements and new initiatives. Indian missions abroad can continue to be led by IFS officers. Past attempts at lateral hiring were advertised as single posts in the unreserved category. By opening up a larger number of positions concurrently, the government could retain existing norms on reservations and quotas. Finally, the surge hiring strategy should have a sunset clause and a well-defined recruitment target. If it is conceptualised as a non-recurring measure keeping the current geopolitical situation in mind, it will resonate with the opposition and the parliament. With the Agnipath experiment of the defence ministry, the idea of short-term employment within the government has gained some acceptability. It is no longer anathema to the government but an idea whose time has come. Without a surge in foreign policy capacity, we will only have great ideas but tardy implementation, resulting in a perennially underperforming foreign policy. Matsyanyaaya: Reflections on the QuadBig fish eating small fish = Foreign Policy in action— Pranay KotasthaneLast week, I attended a US State Department sponsored programme that aims to invigorate think tank research on Quad collaboration in the four countries. As part of the first segment of this programme, five representatives from each country’s think tanks were hosted in the US. What follows are my reflections on the Quad as a geopolitical formation, based on what I saw in this programme.
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