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Exploding myths of national accounting

Arun Ghosh.

Data-keepers, of the nation and the RBI, do not have reliable data of even the industry/corporate sector, leave alone the unorganised activities. There is then the question of treatment and use of the data. All this makes national accounts preparation an esoteric business.

THE PREPARATION of national accounts is a somewhat esoteric business. Some myths in national accounting practices need to be shown up to the public. This is because the growth rate of GDP is the only measure that is seen as a reflection of the country's progress. Let us discuss some of the major issues.

What drives the rate of growth of GDP? As per the simplistic formula devised by Roy Harrod (1948), growth is a function of the rate of capital formation and the capital-output ratio. Yet, today, the only capitalist economy booming over the past decade, t he US, has (as per National Accounting definition) an extremely low rate of savings and capital formation. For years now, the US economy has been growing partly because some part of growth is knowledge-driven, but essentially because of the stimulus of r ising domestic consumer demand. This, in turn, is based almost entirely on rising `asset' prices and the resultant sense of increasing `wealth' and the feeling of `well being' among the people. This is driven by a continuing stock market boom which defie s all rationale.

In terms of the UN System of National Accounts, or SNA (1993), `capital gains' are not part of income. Two problems arise herein: First, the `capital gains', or the wealth and `feeling and well being', arising from rising stock prices, are essentially pa per gains; they do not get translated into income unless realised. Yet, the `wealth effect' is driving consumer spending in the US. It has been doing so for a decade, and is helping to create new employment and output. This is a typical Keynesian scenari o of expenditure driven growth; and, interestingly, the real capital formation element is coming from the defence spending (on research and development) which has spurred the growth of information technology, biotechnology, and aerospace research. The US supremacy in communications, computer technology, pharmaceuticals and aerospace industries is all based on its defence spending on R&D. For instance, the Star Wars programme led to the US' supremacy in information technology and aerospace research led t o the supremacy in civilian aircraft manufacture.

Since all defence spending is by definition government consumption expenditure, we have an incorrect picture of saving and capital formation as far as defence-oriented R&D expenditure in the US is concerned. In other words, the National Accounts data do not give us a true picture of the founts of development.

Let us come to the problem of `imputed' incomes, where we confront three separate issues. Take the banking industry. Its income is derived primarily from the differential between its lending and borrowing rates. The banking industry does perform a functi on by collecting household savings and making them available to entrepreneurs. Yet, interest income is part of the income generated by the capital-using enterprise, and has already been counted as part of the output of the enterprise. Where, then, does t he banking industry, and its output, come in? Banks do perform the important function of intermediation; and the wages and salaries paid by the banking industry plus its profits are then imputed as the net output of the banking industry (this amount bein g deducted from the output of the borrowing sectors roughly in proportion to their borrowings).

So far so good. But the UNSNA has defined the central bank to be part of the banking sector. That would imply, for India, equating the Reserve Bank of India with any scheduled commercial bank.

The absurdity of the proposition is clear. The Reserve Bank Governor (and his role) can be equated to the functions and role of the Finance Minister. The RBI is in charge of monetary policy. Indeed, the only commercial part of RBI activities is the (very small amount of) bills rediscounting, and keeping the accounts of the State governments.

Whether the income or expenditure approach is taken, the commercial activities of the RBI would be a small traction of its total activities.

India has not succumbed to the UNSNA dictates on this issue. In the First Report of the National Income Committee (1950), a distinction was made between the operations of the RBI's Issue Department and the activities of the Banking Division, the former b eing deemed to be a part of government and the latter of the banking sector. The distinction made some sense in 1950 (for absence of a better yardstick). Today, the distinction is meaningless for most of the borrowing operations of the Government are und ertaken through the Banking Department.

In India, we still draw this distinction between the Issue and Banking Departments of the RBI, and classify RBI income/expenditure as per the accounts of these two Departments. This heavily favours the `banking' aspect of the RBI's activities at the expe nse of the policy aspects which, in fact, predominate. (A correct classification would be by `income from bills re-discounted' and `income from keeping accounts for the State governments as the income from commercial activities, with the rest of income c oming as a result of `policy action' on the part of the RBI.) The former would then get classified as part of the `commercial' activities of the RBI, and the latter with Government.

Let us go into this issue further. As per the RBI Annual Report for 1999-2000, the interest, discount and exchange commission received from abroad (in 1999-2000) amounted to Rs 6,515 crore. All these are administrative functions of the RBI. It gets a ver y low return on foreign assets and its exchange commissions are less than the losses suffered by it for attempting to maintain as stable an exchange rate as possible (under present circumstances). Interest received on government paper held by it amounted to Rs 14,928 crore. Discount and commission income amounted to Rs 509 crore, and rent received to Rs 9 crore.

Of the total income of more than Rs 20,000 crore, Rs 509 crore -- or some 2.5 per cent -- may be deemed to arise from `commercial activities'. The so-called profits of the RBI are nothing other than the `forced savings' of the community appropriated by t he government (as would clearly be the case if the government were to indulge in deficit financing directly, through increased notes printed and circulated by government). They are certainly not commercial profits of the banking sector. The distinction i s important. The RBI is not a profit-making institution, but essentially a policy arm of the government.

If, as a result of any change made -- pursuant to the above -- the national income of the country, and the commercial profits of Government enterprises go down, well, they should go down. The RBI is not a commercial enterprise.

Let us continue with the problem of `imputation'. In respect of government administration, the wages and salaries paid by the government are, by definition, taken as the `net output' of government administration. There is, of course, no choice herein. Th ere is no way one can work out the `value added' by purely administrative departments; their services are not `sold'. (For instance, for Law and Justice, court fees are a `token' charge, and not a charge for the enormous costs of maintaining a judiciary. There is not even a token fee for police or defence services. Their costs are all met out of taxation.)

But problems arise when one sets about making estimates of `real income'. For administration, `real income' is derived by deflating actual incomes by the extent of `dearness allowance' paid. But what happens when -- for instance, as per the Fifth Pay Com mission recommendations -- the wages and salaries of government servants are nearly doubled? Do we take it that the efficiency of government services doubled overnight? Even the Economic Survey commented that fully one percentage point increase in the na tional income for 1998-99 is on account of the Fifth Pay Commission recommendations.

The problem of imputation arises in another strange way. According to the UNSNA, all products/services are to be valued at their market price, no matter how distorted. (Thus, salt, sold at Rs 20 per kg in a flood-affected area, and, therefore, cut off fr om supplies, would need to be valued at that price.)

We can leave out a few exceptions. But, where the market is very narrow, imputations would still need to be based on the narrow market price. Take the example of rural housing. By and large, they are all owner-occupied. There would, of course, exist a ve ry narrow market, an odd house or a part thereof in a village taken on rent (by an outsider). As per the manual, that is the index of `rent' of a village hut; and all imputations are to be based on that price. Not on the basis of the capital cost of the hut and its expected life, etc. The market, in short, is the final arbiter in all such matters. That is the UN manual at any rate.

Finally, the UNSNA places great store by `accounting' for transactions with the rest of the world; and, in line with the increasing predominance of finance capital, the IMF now requires each country (and India has acceded to this demand) to give quarterl y estimates of all foreign assets and liabilities, revalued -- in terms of changes in asset prices, and exchange rates -- every quarter.

Getting annual estimates is bad enough. The RBI is still to publish the results of its Census of Foreign Assets and Liabilities 1996-97 (that is, assets and liabilities as of March 31, 1997); and it is gathered that only some one-third of the parties add ressed by the RBI have responded to its questionnaire.

The reason? The RBI has no legal power to enforce erring parties to respond. The government policy is to go easy with the corporate sector, whether it is company law or even the vital matter of foreign exchange assets (held illegally). FERA has been repl aced by FEMA. And, the Government has thus far not responded to the RBI request to legally empower it to even collect information.

Well, as hinted, the same applies to corporate data. The Department of Company Affairs and its 27 Registrars of Companies (taken together) have got a maximum number of 70,000 balance-sheets and profit-and-loss accounts for one year. There are today more than 5 lakh companies, and the law requires every company to submit audited balance-sheets within six months of the close of the financial year.

One can only feel sorry for the national accounts statistician, the data keepers in the RBI, and all researchers. How do we get corporate data with any degree of reliability?

With the CII, Assocham, Ficci and other organisations of paper tycoons breathing down his neck, the Finance Minister dare not ask corporates any questions.

So we do not have reliable data even in regard to the corporate industry, let alone small and unorganised economic activities; and it is essentially on such shallow data that the claims of a 7 per cent GDP growth rate rest.