State regulation in India – the art of rolling over rather than rolling back

Regulatory bodies were created to de-politicise decision making. But in India, something different has happened.

Representational image | The North Block of the Central Secretariat buildings| Anindito Mukherjee/Bloomberg

Recent controversies ranging from the independence of the Reserve Bank of India to the reach of the Aadhaar programme have raised important questions about regulation in India.

Since economic liberalisation, India’s political and legal landscape has changed significantly, and questions are increasingly being asked about the principles of regulation, the authority of independent and quasi-independent agencies, and the place of expertise in a democracy. Yet, despite its importance and much public commentary, the regulatory state in India remains poorly understood.

A key rationale underlying the creation of independent regulatory bodies is to de-politicise decision making. Certain domains of activity require technical decision-making, and such domains require insulation from the vagaries of politics and pressure from interest groups, especially big businesses. While no modern economy can exist without a robust regulatory apparatus, the structure and functioning of such an apparatus raise questions about both democratic accountability and the rule of law.

The liberalisation of the Indian economy in the early 1990s was expected to reduce the overbearing hand of the state on the Indian economy. The state would, it was anticipated, play a more managerial role. But the rise of the regulatory state in India has far from limited state power. Rather than rolling back, the state has in fact rolled over. The one change that has, however, emerged is a change in the character of the state. The creation of regulatory authorities, with varying degrees of autonomy and power, has contributed to a more diffused state apparatus.

There are five features of the regulatory state in India that are striking and, in some ways, distinctive. The first is a considerable legal incoherence and uncertainty. Unlike the United States, which has the Administrative Procedure Act, 1946, there is no overarching administrative law statute in India. This has meant that traditional constitutional doctrines and structures have been used to judicially develop rules and principles for an entirely new apparatus, encompassing regulators, tribunals etc., often in ways that have come at the cost of coherence and clarity. Indeed, core features of India’s constitutional framework, such as the principle of collective responsibility, are yet to be fully reconciled with the presence of regulatory bodies.

A second notable feature is structural weaknesses that have led to regulatory incapacity. India’s regulators are often required to make technical determinations, but a large number of posts dedicated to expert members lie vacant. As Shibani Ghosh has noted, the Central Pollution Control Board has nearly 20 per cent of its sanctioned posts lying vacant as per its last annual report, and at least one State Pollution Control Board (Karnataka) has more than half of its posts unfilled.

Without sufficient capacity, regulators cannot proceed with effective standard-setting, and measure and penalise behaviour based on transparent parameters that seek to enhance public welfare. Even in the case of institutions like SEBI, which fares much better than other regulators, the enforcement wing lacks the capacity to respond to sophisticated market evolution, a fact that has led it to prefer blunt enforcement remedies rather than other more nuanced and complex alternatives.

An investment in state capacity is likely to provide returns only over the long-term, and this might discourage political spending or interest in building capacity. More insidiously, deliberate understaffing, and the general perpetuation of weak capacity, might be a way for government ministries to disempower regulatory bodies and see that control remains with ministries rather than the regulators. After all, a body with less capacity is a body that will be weaker – and hence easier to control.

The design of regulatory bodies more generally is a third and crucial feature of the Indian regulatory state. To return to the example of SEBI, the institution has had to fight major turf battles with the Ministry of Corporate Affairs even though it falls within the oversight of the Ministry of Finance. Questions over who can set corporate governance norms have had major ramifications for the possibility of effective regulation.

There are also concerns regarding the vertical division of power, as seen in India’s power sector. Akshay Jaitly’s work on the power sector has shown how the implementation of the Electricity Act, 2003, has been severely affected by the interaction and misalignment between the state and central governments.

The presence of different objectives and incentives has undermined the ambition of the statute. The problem of regulatory design has, of course, been most visible in India’s banking sector. Even though public sector banks hold two-thirds of the deposits in the formal banking sector, the RBI’s powers are limited, and its ultimate authority is confined to the regulation of private and cooperative banks. When the government is both owner and regulator, a conflict of interest is inevitable and a level playing field unlikely.

A fourth issue that defines India’s regulatory state is the presence of old and dated laws, a matter that has become all the more significant with new technological changes. The telecom sector is, for example, still governed by the Indian Telegraph Act, 1885, despite radical changes in technology and in the character of the sector. There is a crying need to update such dated laws, but why that does not occur is unclear.

Indeed, the mismatch between the rapid pace of technological change and the lethargic crawl of laws and regulatory frameworks is increasingly evident. The case of the regulation of data is another good example. The Information Technology Act, 2000, was enacted at a time when data storage was the main concern, although over time a key worry has been not only data gathering but also data processing. The Aadhaar project, for all its strengths and weaknesses, highlights the concerns of regulatory design, with the UIDAI being both the data custodian and regulator, leading to a misalignment of incentives.

Finally, India’s regulatory state has grown in the context of international standard-setting. International regulatory standards have become instruments of governance, and most standards come from non-market private bodies, often international nongovernmental organisations that have the backing of governments, but with the strong participation of market actors. Prominent examples are the International Organization for Standardization (ISO) and the International Electrotechnical Commission (IEC), which jointly account for about 80 per cent of all international product standards.

Global standard-setting has emerged in the context of the Agreement on Technical Barriers to Trade, that obliges all WTO member states to use international standards as the technical basis of domestic laws and regulations whenever international standards exist. One implication of international regulation is the de facto outsourcing of regulation. A prominent example is India’s airline industry, which expanded rapidly, but raised major safety concerns after a 2012 audit by the International Civil Aviation Organization (ICAO). This led to the Indian rules being aligned to the ICAO’s norms, and thus external pressure forced changes that the Indian regulator was either unwilling or unable to do on its own accord.

Two issues need urgent addressing in order to improve the performance of regulators in India. One, regulatory capture in India does not always refer to its capture by those it seeks to regulate, but rather by the powerful judge-IAS lobby for whom it has become a highly sought-after retirement post. There are good reasons why they should be included in regulatory bodies, but only in the normal course of their careers where they must choose between continuing with their careers or resigning and becoming a regulator. The Japanese practice of amakudari, or “descent from heaven”, where senior bureaucrats are almost guaranteed high-profile post-retirement positions, has been a bane for that country – and for India as well. Expertise matters for regulatory performance and without it, babudom will again triumph.

A second challenge stems from the peculiar congruence of powers – executive, legislative and judicial – within regulatory bodies. For regulators to function well they must have autonomy.

But then how does one ensure their accountability? Any long-term solution must incorporate greater accountability to Parliament, both to preserve the democratic framework and to strengthen India’s representative institutions.

Devesh Kapur is the Starr Foundation South Asia Studies Professor and Asia Programs Director at the Paul H Nitze School of Advanced International Studies (SAIS) at Johns Hopkins University, Washington, DC. Madhav Khosla is a Junior Fellow at the Harvard Society of Fellows. Their book, Regulation in India: Design, Capacity, Performance, has recently been published by Hart Publishing / Bloomsbury. An Indian edition will be available in April.