In Service of the Republic

1. Government's Core Purpose: Address Market Failure

Addressing market failure is the legitimate ground for coercion.

Limited scope. The state is the most powerful actor, possessing a monopoly on legitimate violence, used for coercion (laws, taxes). However, its role should be narrowly defined. Most human progress and prosperity arise from the creativity and drive of free individuals operating in self-organizing systems like the market economy.

Market failures. Government intervention is justified primarily where free markets fail to deliver efficient outcomes. These market failures fall into four categories: externalities (unnegotiated impacts, like pollution), asymmetric information (one party knows more, hindering transactions), market power (monopolies distorting prices/output), and public goods (non-rival, non-excludable goods like clean air, underproduced by markets).

Beyond market failure. Many government activities in India (running airlines, hotels, watch factories) lack this justification. When faced with a proposed intervention, the first question should be: What market failure does this address? If none exists, skepticism is warranted.

2. State Intervention is Inherently Difficult

Across a large number of situations, state intervention works poorly.

History of failure. Despite good intentions, state interventions often fail, leading to unintended consequences. Examples range from China's disastrous sparrow eradication campaign to poor outcomes in India's safety, education, and health systems despite large expenditures.

Why failure occurs. Government failure stems from multiple constraints:

• Information: Policymakers often lack timely, accurate data.
• Knowledge: Designing interventions requires research and understanding of complex social systems, which is often limited.
• Resources: Public expenditure is costly due to tax distortions (high marginal cost of public funds).
• Administration: Building effective, accountable government organizations is difficult due to principal-agent problems, lack of clear performance metrics, and absence of competitive pressure.
• Voter rationality: Voters lack incentives to be well-informed on policy, making direct democracy and populism problematic.

Coercion vs. negotiation. Market failures often arise from weaknesses in negotiation and voluntary choice. The state, being a coercive agent, is fundamentally ill-placed to solve problems rooted in a lack of negotiation. Paternalism is also infeasible, as the state's power is coercive, benefiting some at the expense of others.

3. People Respond to Incentives

Politicians and officials are people. Therefore politicians and officials respond to incentives.

Fundamental principle. A core insight of economics is that people are not static; they intelligently optimize based on changed incentives. This applies universally, from consumers and firms to politicians and government officials.

Behavior is malleable. What appears as entrenched mindset or organizational culture in government is often endogenous to incentives. Changing the formal rules of the game can fundamentally alter behavior, even in seemingly rigid bureaucracies. The task of policy design is to create checks and balances where self-interest aligns with public good.

Caution with incentives. While powerful, incentives must be deployed carefully. High-powered incentives tied to narrow metrics can lead to unintended consequences (e.g., paying for rat tails led to rat farming). When a measure becomes a target, it ceases to be a good measure (Goodhart's law). Behavioral economics also highlights that human responses can be "wonky" due to information costs, short-term bias, and other factors.

4. Go With the Grain of the Price System & Competition

The policymaker should have no opinion on the price, and no tools to directly control it.

Prices signal scarcity. Prices are determined by supply and demand, adjusting to clear markets. Attempts by policymakers to control prices (e.g., minimum support prices, rent control) distort these signals, hindering efficient allocation and causing shortages or gluts. Arbitrage, the act of buying low and selling high, is a natural force that equalizes prices and should be respected.

Competition drives efficiency. Competition is essential for markets to deliver good outcomes. It forces firms to innovate, reduce costs, and serve consumers. Market power, a form of market failure, leads to inefficiency and supernormal profits for incumbents.

Creative destruction. A healthy market economy involves "creative destruction," where inefficient firms fail, freeing up resources for more productive uses. Policies that prop up "zombie firms" (failed firms kept alive by artificial support) harm healthy competitors and the overall economy.

State-induced market power. Ironically, the state often creates market power through licensing, regulations, or monopolies (e.g., APMCs, state-owned enterprises). Dismantling these state-induced barriers is as crucial as addressing private monopolies.

5. Policy Design Principles: Root Cause, Minimal Force, Cold Calculations

When two alternative tools yield the same outcome, we should prefer the one which uses the least coercion.

Treat the disease. Effective policy addresses the root cause of a market failure, not just its symptoms. For example, improving road safety is better than building more trauma centers. Subsidies often target symptoms (e.g., paying for respiratory ailments) rather than root causes (e.g., improving air quality).

Occam's razor. The "Occam's razor of public policy" suggests using the least intrusive measure to achieve a goal. Coercion, especially criminal sanctions, should be used sparingly and only when less intrusive measures (like monetary penalties) are insufficient. Excessive coercion, particularly under low state capacity, leads to abuse of power.

Cost-benefit analysis. Rigorous cost-benefit analysis is crucial to ensure interventions yield net benefits for society, not just favored groups. This involves quantifying costs (direct, intrusion, distortions) and benefits, considering long-term effects, and accounting for interests beyond those lobbying.

Ex post review. Policies should state clear objectives and be periodically reviewed to assess if they met those objectives. This combats sunk cost fallacy, encourages learning from mistakes, and improves accountability.

6. Redistribution is Secondary to Growth

Growth is the most powerful, and only effective, anti-poverty weapon.

Growth lifts all boats. While altruism and self-interest motivate helping the poor, no country has escaped mass poverty through redistribution alone. Sustained GDP growth, driven by a vibrant market economy, is the only effective long-term solution.

Distortions harm growth. Policies aimed at redistribution that distort market mechanisms (e.g., price controls, subsidies tied to specific goods) hinder efficient resource allocation and damage growth. The cleanest form of redistribution is cash transfers, allowing recipients choice and minimizing market distortions.

Fiscal risk. Under conditions of low state capacity and competitive politics, there's a constant risk of expanding subsidy programs beyond the poorest, leading to fiscal unsustainability. The high marginal cost of public funds in India (estimated around Rs 3 per Rs 1 spent) means public spending, including on subsidies, imposes significant costs on the economy.

Assignment principle. Poverty alleviation should be the clear objective of specific, well-designed programs. Other government functions should focus on addressing market failures without conflating them with distributional goals.

7. Low State Capacity Reshapes Policy Design

Low state capacity changes policy design.

Not just a smaller Sweden. Low state capacity isn't merely doing what high-capacity states do, but with fewer resources. It fundamentally alters the feasibility and desirability of different interventions. State capacity is a scarce resource, making the cost of any state activity higher and the overall budget constraint smaller.

Fewer problems addressed. Under low state capacity, the costs of intervention (due to inefficiency, errors, abuse of power) are higher, and the effectiveness in addressing market failure is lower. Often, it's better to live with a market failure than attempt to fix it imperfectly. This necessitates focusing on a smaller set of critical problems.

Simplicity is key. Complex interventions are prone to failure in low-capacity environments. Simple designs, like a single-rate GST, are easier to implement and manage. This also applies to tax administration, where low rates and limited powers are more manageable initially.

Intrusiveness is dangerous. When the state is prone to error and abuse (higher probability under low capacity), more intrusive interventions (raids, criminal sanctions, large disruptions) cause greater harm. Mild coercion is preferable.

8. Building State Capacity is the Central Challenge

The defining challenge in India is the construction of state capacity.

Beyond heroes. State capacity isn't built by hiring famous individuals or relying on personal charisma. It requires focusing on institutional design, processes, and accountability mechanisms. Public choice theory highlights the need to design systems assuming self-interested actors, not saints.

Dispersion of power. Effective state capacity relies on dispersing power across branches (legislative, executive, judicial), levels (Union, state, local), and within agencies (e.g., boards with independent majorities). Concentration of power invites abuse and hinders performance.

Law as a contract. Laws establishing agencies must not only authorize coercion but also encode checks and balances to ensure the state behaves well. This includes clear objectives, formal processes for all functions (legislative, executive, judicial), reporting, accountability, and proper board governance.

Agencification. Delegating specific, technical functions to focused agencies (public or private) with clear mandates and accountability structures frees up government departments for political problems and improves performance on technical tasks. This requires capable contract management by the delegating body.

Time and money. Building state capacity is a long-term project requiring sustained investment in time, money, training, and process development, similar to building physical infrastructure like expressways. Rushing the process leads to organizational rout.

9. Adapt, Don't Blindly Copy International Experience

We should not be the sorcerer’s apprentice, we should not engage in what the economist Lant Pritchett calls ‘isomorphic mimicry’, we should not mechanically copy the international experience.

Context matters. Simply copying policies from advanced economies often fails because they rely on an "invisible infrastructure" of well-functioning legal systems, administrative processes, and societal norms that are absent elsewhere. A policy that works in the UK may not work in India due to different contexts.

Beyond description. Understanding why a policy works in another country requires going beyond a "thin description" to a "thick description" – an incentive-based analysis of how all the moving parts (laws, norms, enforcement, incentives) interact. This requires deep local knowledge ("metis").

Ground-up design. Policy solutions for India must be envisioned and designed from first principles, grounded in the specific Indian reality. While international experience offers valuable higher design principles (rule of law, dispersion of power), tangible policy designs often need to be unique.

Free-riding opportunities. In some cases, India can "free-ride" on state capacity elsewhere. For example, relying on US FDA approval for certain drugs or food items sold in India leverages existing regulatory capacity abroad, reducing the need to build it domestically.

10. Embrace Openness, Criticism, and Conflict

Your critic should live right next door.

Secrecy harms. Secrecy in policymaking hinders planning, execution, and trust. It prevents valuable feedback, makes reforms appear arbitrary to those negatively affected, and damages the trust required for democratic negotiation.

Value of criticism. Critics, even if disagreeable, provide valuable feedback, identify flaws, and help policymakers avoid hubris (the "power paradox"). Criticism is an under-supplied public good because it imposes costs on the critic while benefiting society. Fostering an environment where criticism is respected is essential for learning and improvement.

Conflict is healthy. Liberal democracy is inherently messy, characterized by debate, dissension, and conflict among diverse interests. This public contest of ideas, mediated by neutral voices and formal procedures, is how better decisions are found. Suppressing conflict leads to power play and poor outcomes, as seen in authoritarian regimes.

Formal processes help. Formal voting systems (like the MPC or judicial benches) and structured processes for debate and decision-making channel conflict constructively, ensuring diverse viewpoints are heard and aggregated effectively.

11. A Country is Not a Company

A country is not a company.

Different dynamics. Management skills from private firms don't directly transfer to government due to fundamental differences:

• Feedback loops: Companies have clear metrics (profit, stock price); governments lack comparable, reliable measures.
• Monopolies: Governments are often monopolists with "hostages," not customers, reducing pressure for performance.
• Coercive power: Governments wield unique coercive power, requiring checks and balances absent in firms.
• Complexity: Governments are vastly larger and more complex, involving interactions with the entire populace.
• Rules vs. deals: Governments must prioritize consistent rules (due to equal treatment principles) over tactical deals common in firms.
• Power dispersion: Successful governments disperse power; firms can be autocratic.
• Time horizons: Governments operate on much longer time horizons than most firms.

Unique challenges. The puzzle of public policy involves managing organizations with coercive power, lacking clear feedback, operating as monopolies, at immense scale, prioritizing rules, dispersing power, and working on multi-decade horizons. This requires a distinct skill set from private sector management.

12. Prioritize Institution Building Over Short-Term Growth

Prioritize institution building over just GDP growth.

Sustainable growth. While GDP growth is crucial for poverty reduction, focusing solely on short-term growth can lead to unsustainable strategies (debt booms, environmental damage, central planning). Sustainable, long-term growth is a consequence of strong institutions.

Beyond high modernism. Simply adopting modern technology or creating state-owned monopolies for capital deepening doesn't guarantee long-term success. It often stifles innovation, reduces flexibility, and relies on potentially non-benevolent state actors.

Meta technology. The most important "technology" for a state is the meta-technology of how to run the state itself – the capability in public policy and administration. This was historically learned through core functions like raising taxes and waging wars.

Focus on core functions. Given limited state capacity, India should focus on building capability in a few core, essential functions like the criminal justice system, judiciary, tax collection, and financial regulation. Mastering these builds the meta-technology of statecraft, which can later be applied to a broader range of problems.

Long-term vision. Building the republic is a multi-decade project. It requires patience, investing in the foundations of state capacity, and resisting the temptation for quick wins or dramatic, but ultimately superficial, changes.

Last updated: June 11, 2025