Rethinking innovation policy in India: amplifying spillovers through contracting-out

by R. A. Mashelkar, Ajay Shah, Susan Thomas.

Independent India valued science and rationalism at an early stage of social and economic development. The objectives of building the scientific temper and harnessing the power of science and technology were clearly articulated, for example, in the 1958 Science Policy Resolution. These objectives pertain to improvements in the people, in the society. 

The practical aspects of government expenditures on innovation, and the construction of organisations doing frontiers work, emphasised government organisations. The government used taxpayer resources, built science organisations, hired scientists as civil servants, and developed capabilities within these organisations

In a new paper, Rethinking innovation policy in India: amplifying spillovers through contracting-out, we reopen the objectives of innovation policy in India, applying modern knowledge of public economics and public administration to obtain fresh insights.

We start at the foundations of innovation policy, with new clarity on the questions of why (what motivates state intervention in innovation?), what (in what areas should government intervention into innovation take place in India?), how (what mechanisms should be used when spending public money?) and how much (at what point do the incremental gains to society equal the incremental costs).

The market failure that motivates this field is the problem of spillovers, where the full gains from innovative activity by one person are not captured by her, leading to systematic under-investment into innovation by her. There is a case for public expenditure, where taxpayer resources are spent on innovation, but the expenditure needs to be done in a way that induces spillovers into the society.

We undertake four detailed case studies: the US National Aeronautics and Space Administration (NASA), the US National Institutes of Health (NIH), innovation policy in French defence procurement and CSIR's New Millennium Indian Technology Leadership Initiative (NMITLI). In each case, we understand how tradeoffs are made between `make' and `buy'. Make involves building state organisations, scientists as civil servants. Buy involves contracting-out innovative activities into the society, to private firms and particularly to high-spillover sites of universities and research organisations (whether public or private).

While doing more contracting-out is appealing from the first principles of innovation policy -- the purpose is to obtain greater capabilities in the society, not in the state -- there are many difficulties in implementation. We suggest the strategy for implementation which involves (a) Changes to the GFR; (b) Changes to the founding documents of government innovation organisations; (c) Changes to procurement rules and internal process manuals; (d) Resource planning for a gentle reform trajectory; and (e) a sketch of the required project planning.

Many elements of innovation policy in India have been moving in a similar direction. Three recent initiatives should be pointed out. The Union Interim Budget of 2024-25 envisages a Rs.1 trillion fund that would be channeled to research and innovation in the private sector. The `National Research Foundation' has been setup with a law that came to force on 5 February 2024. The K. Vijay Raghavan Committee report, submitted in early January 2024, has important ideas on improving the working of DRDO. There is a harmony between the philosophy of these three moves, and the ideas of this paper. Conversely, the detailed work of this paper can be useful in translating these initiatives from concept to implementation.

R. A. Mashelkar, FRS, was Director General of CSIR. Ajay Shah and Susan Thomas are co-founders of XKDR Forum.

Learning by doing and public procurement in India

by Aneesha Chitgupi, Abhishek Gorsi, and Susan Thomas.

Introduction

State objectives can feature a mix of `make' (i.e. build an organisation, recruit people) vs. `buy' (i.e. contract to a private person for the same task). While private persons are, in general, more efficient than a comparable government organisation, the `buy' pathway is not a panacea when there are bottlenecks in state capacity to contract. Understanding how to achieve capacity in government contracting is one of the critical components of the overall question of enhancing state capacity in India.

How has this tradeoff evolved over time? Generally, when contracting capabilities go up, the fraction of work that is contracted-out goes up. Chitgupi and Thomas (2022) find that the government procurement spending has been at a steady 17 percent of the total expenditure across multiple years, which suggests a lack of movement on contracting capabilities.

What about cross-sectional variation in contracting capability between spending units? Sharma and Thomas (2021) finds that procurement expenditure varies significantly across ministries in 2016-2017, with a few ministries accounting for the larger share of procurement. This would, of course, largely reflect differences in the nature of their work.

In this article, we obtain insights into contracting capabilities by examining procurement under-spend across ministries and across time. We recognise that state capacity in procurement includes multiple dimensions: achieving a targeted level of quality at the minimum cost and on time. Our question is a more basic one about whether the spending happens at all. It requires a certain level of contracting capability in order to actually achieve the budgeted procurement expenditure. We then consider the role of learning by doing in procurement.

An insight in the field of state capacity is that it is extremely sticky; changes to state capacity arise only slowly (Kelkar and Shah, 2022). State capacity emerges from the organisation design (mandate, governance, organogram, processes, the feedback loops of accountability mechanisms). Repetition of the same task, over and over, under the influence of accountability mechanisms, induces the slow process of building capability. By this reasoning, we hypothesise that state entities which procure on a sustained basis will build the organisation design and capacity to doing procurement efficiently, and vice versa. The lack of sustained procurement activity will then predict procurement underspend.

Approach

In previous work, we developed the methodology to estimate the fraction of procurement in the accounts reported in the Detailed Demand for Grants (DDG) document published by a ministry. The DDG for a given year reports two sets of numbers by item head: the amount budgeted for the year, the amount actually spent two years previously. So, the DDG in 2016 for (say) the Ministry of Health and Family Welfare will report the budgeted amounts for 2016, as well as the amount spent in 2014. These are reported by item head, and allows us to calculate the actual amount spent but with a lag of two years.

For our current analysis, we calculate what was budgeted and what was actually spent on procurement, across ministries and across years. We use these to estimate the procurement spending gap for the ministry as:

100 x (actual procurement spend - budgeted procurement) / budgeted procurement

A negative spending gap has the ministry spending less than planned. If procurement capacity is the dominant factor driving the ability to procure, then we would say that a ministry with good procurement capacity will have a procurement spending gap close to zero. Further, if the learning-by-doing hypothesis holds, then those ministries that budget consistently for procurement will have built procurement capacity, and be able to show procurement spending gap close to zero.

Other than procurement, a ministry spends on operational expenses like salaries and pensions, and on grants-in-aid and schemes. These do not depend upon specialised capacity as with the contracting capacity required in the case of procurement spending. As a benchmark, we also calculate the total spending gap as the difference between the actual and budget total spending of the ministry, as a fraction of the total budgeted spending. We use the total spending gap of the ministry to benchmark their overall spending capacity.

We calculate the total spending gap of the ministry as:

100 x (actual total spent - total budgeted) / total budgeted

For our analysis, we do the following steps:

1. Estimate the amount of procurement expenditure for each ministry for each year for which we are able to obtain the DDG. We use this to identify which ministries have consistently higher fraction of their expenditure in procurement.
2. Estimate the procurement under-spend for each ministry across different years.
3. Examine whether there is a link between the ministries with a higher fraction of procurement expenditure and a relatively lower procurement under-spend.

Data

We collect the DDG published by the ministries of the Union Government to estimate the procurement and total spending gaps. The estimation procedure described in Sharma and Thomas (2021) requires the object head wise expenditure to be disclosed in the DDG. This level of information has been consistently disclosed across all ministries (other than for the Railways ministry which has a more complicated accounting structure) from 2014-2015 onward. The latest available DDGs are from 2020-2021.

There remains challenges in accessing the DDGs reliably for all the Union government ministries. In our exercise, we are able to locate the DDGs consistently from 2014-15 to 2020-21 for 10 ministries: Civil aviation, Coal, Environment, Finance, Health and Family Welfare, Home Affairs, Housing and Urban Affairs, Rural Development, Road Transport and Highways and Law and Justice.

For seven of these ministries, the DDGs contain ministry level object head wise expenditures directly. For three ministries, we had to sum up the expenditures across department DDGs. These include: the Ministry of Finance which is the sum of Economic affairs, Financial services, Revenue, Expenditure, and DIPAM. The Ministry of Health & Family Welfare is the sum of Health & Family Welfare, and Health Research. The Ministry of Home Affairs (MHA) covers Home Affairs, Cabinet, Police, and 8 departments for the UTs. The expenditure of Home Affairs, Cabinet and Police make up 74 percent of the MHA expenditure. In our analysis, we report the procurement expenditure for the MHA as the sum of these three departments, and do not include the UT departments in the analysis.

All rupee values used in these calculations are adjusted for inflation using the CPI index. The spending gaps are calculated for each year, from 2014-15 to 2018-19.

Is there a link between consistent procurement and lower procurement under-spend?

We organise our findings into three figures, where each is in the form of a heat map. In these graphs, each row is a ministry, where the values going from left to right are those for 2014-2015 to 2018-2019. The deeper / stronger the colours, the higher the values. In all three figures, the order of the ministries stay the same: in descending order of estimated procurement expenditure in 2014-2015. The ministry with the highest procurement spending is on top.

In Figure 1, we present the estimated procurement spending of the 10 ministries. The Ministry of Road Transport & Highways had the highest estimated procurement spending (in Rs. billion) in 2014-2015, and the ministry of coal had the least. There is large variation in the procurement spend across the 10 ministries, as described in Sharma and Thomas (2021). Ministries such as Coal and Rural Development spend less than Rs. 1 billion on procurement and have consistently done so over last 5 years. Ministry of Road Transport & Highways is the top procuring ministry followed by Home Affairs, of which Department of Police is largest procurer. There is more variation across the years for the remaining ministries. For example, the ministry of Health & Family Welfare shows an increased estimated procurement expenditure in 2017-2018 compared to other years in this period. The Ministry of Law & Justice has a steadily increasing procurement expenditure during this period.

 

Figure 1: Estimated procurement expenditure by ministry, 2014-15 to 2018-19

 

Figure 2 presents the estimated procurement spending gap from 2014-15 to 2019-20. Green stands for positive values (which is over-spending or under-budgeting). Red stands for negative values (which indicates under-spending or over-budgeting). Except for a few years, most ministries tend to under-spend. The exception is the Ministry of Road Transport & Highways, which is also the top procuring ministry.

 

Figure 2: Estimated procurement spending gap (%) by ministry, 2014-15 to 2018-19

Figure 2 also shows a sharper amount of under-spending towards the latter part for some of the ministries. These include Finance, Civil Aviation, Rural Development and Coal. This contradicts the proposition that procurement capacity is systematically increasing over time.

These ministries also have a lower fraction of procurement in their spending. These ministries are less likely to develop procurement capacity. Among ministries with similar procurement spending patterns, the Ministry of Environment appears to be building procurement capacity, with a procurement spending gap closer to zero.

Lastly, Figure 3 presents the spending gap for total expenditure for these ministries across time. There is much more capacity among the ministries in managing to spend their overall budgets. Most of the heat-map shows colours mapping to values closer to 0. In fact, there is more evidence of over-spending than under-spending compared to Figure 2. The ministries of Finance and Rural Development have more instances of over-spending in their overall spending, while these are ministries which have estimated procurement under-spend.

 

Figure 3: Total spending gap (%) by ministry, 2014-15 to 2018-19

Alternative explanations

Underspend can be driven by other compulsions also. In a public choice theory worldview, state organisations would give the highest priority to wage and pension expenditures, and sacrifice procurement expenditures when faced with formal or informal budget constraints. This makes procurement budgets the most vulnerable to sudden cuts.

However, this argument should apply equally across all ministries. In fact, the ministries which do higher amounts of procurement should be the prime target for mid-year budget cuts. This argument predicts that under-spend should take place roughly everywhere, and maybe to a greater extent in the high-procurement ministries. The evidence, however, shows that under-spend is more prevalent in low-procurement ministries.

Discussion

The main finding of this article is that ministries that tend to procure consistently, tend to have smaller procurement spending gaps. This is consistent with the idea that there is learning by doing, where doing procurement on a sustained basis gradually creates organisational capability for procurement.

If the key claim of this article is true -- that there is learning by doing in procurement -- this has a few interesting implications. In a department where there is low experience with procurement, the early years where procurement work begins will work poorly. In such a department, procurement under-spend is likely, with consequential failures in public expenditure programs and budgeting. In a department with low experience with procurement, a sudden jump in the procurement budget is likely to be associated with failure to spend. If the political leadership decides to push up the procurement spend of a department by three times, it would make sense to (a) increase the budget by only 20% and (b) initiate a capacity building program for procurement capability within that department.

Procurement is an expertise. No government organisation can sporadically do this well. It is an expertise which can be built, albeit over many years. In any government organisation, people and processes can be organised to focus on this expertise, and to devote time and effort on the entire pipeline of government contracting. The process of developing this capability can be accelerated by bringing in people with this specialised expertise. Strengthening the entire life cycle is required to successfully spend budget amounts. But this is only the beginning of success in procurement where government can contract to deliver quality projects efficiently, on time and at low cost.

References

Aneesha Chitgupi and Susan Thomas. The make vs. buy decision of the union government, The Leap Blog. September 10, 2022.

Vijay Kelkar and Ajay Shah. In service of the republic: The art and science of public policy. Second edition, 2022.

Shubho Roy and Anjali Sharma. What ails public procurement: an analysis of tender modifications in the pre-award process, The Leap Blog, November 26, 2020.

Anjali Sharma and Susan Thomas. The footprint of union government procurement in India, XKDR Working Paper 10, November 2021.

Aneesha Chitgupi is a Research Fellow at XKDR Forum, Abhishek Gorsi is a doctoral candidate at the IGIDR and Susan Thomas is a Senior Research Fellowe at XKDR Forum and a Research Professor of Business at Jindal Global University. We thank Josh Felman, Sudha Krishnan, Ajay Shah and Anjali Sharma for feedback and comments.

Preparing for financially self-reliant and accountable regulators

by Rishika Rangarajan.

Introduction

Indian regulators are tasked with important functions in key sectors such as standard setting, supervising, and monitoring entities, enforcing standards, etc. Crucially, some regulators, namely the Real Estate Regulatory Authority, need to work towards developing and promoting their respective sectors. Achieving these goals involves employing technical and scientific capacity, engaging with relevant stakeholders, collating, and analysing sectoral data, etc. A regulator's ability to conduct these activities, independently and efficiently, requires adequate financial resources and flexibility.

In June 2022, the Insolvency and Bankruptcy Board of India (IBBI) published a Discussion Paper proposing a methodology for the regulator to become financially self-reliant. Currently, IBBI largely meets its budgetary requirements from government grants, with only 20% of its financial resources coming from regulatory fees. The paper observed that IBBI’s mandate being a resource-intensive one, requires “financial independence which allows the Board to have the required flexibility and human resources”. In the past, regulators such as the Securities and Exchange Board of India (SEBI) and the Competition Commission of India (CCI) have also asserted their financial independence, claiming that fees are a means to achieve self-reliance. While it may seem intuitive to allow regulators to charge fees to secure independence, there may be important consequences of such a fee-based model on the accountability of regulators as well (Rangarajan, 2021).

In this article, I discuss the implications of a fee-based model and the potential concerns that may arise lacking such a framework - for example, an unchecked ability to raise fees by regulators may allow the misuse of funds. This article: first, discusses the key sources of funding and the importance of financial capacity; second, provides a summary of the incomes of SEBI, Pension Fund Regulatory and Development Authority (PFRDA) and Food Safety and Standards Authority of India (FSSAI) between 2015 and 2020; third, discusses important case laws on fee-based models; and finally, concludes the need for a formal and codified process for raising fees by Indian regulators, in line with accepted international practices.

Designing financially self-reliant, independent, and efficient regulators requires careful deliberation, which has not yet been done. It is critical that a fee-based model be designed to factor in principles of independence, accountability, and transparency.

Key Sources of Funding

Each parent Act creates separate accounts for regulators which will hold the grants of the government, fees and subscription charges and any other income such as interest, penalties, or disgorged amounts. Currently, the key sources of income for regulators are (i) grants-in-aid, (ii) fees and charges, and (iii) other funds. The process of raising money for each source is briefly summarised below:

1. Grants-in-Aid: To receive funds from the Appropriate government, parent statutes of regulators require regulators to prepare a budget with estimated receipts and expenditures each Financial Year. This budget is forwarded to the respective central ministry each Financial Year which will grant money from their annual budget, after due appropriation. This money is then taken from the CFI and is approved during the annual Union Budget presentation.

   For example, each Financial Year, IBBI submits their estimated revenue, capital and expenditure to the Ministry of Corporate Affairs. The Ministry, after considering the Actual Revenue and Expenditure for the previous year, determines the budget for grants-in-aid during the annual Union Budget discussions. The funds, after approval, are credited to the IBBI Fund established under Section 222 of the IBBI Act 2016. All regulators follow a similar procedure to receive grants from the Appropriate government.

2. Fees and charges: Regulators raise money through fees from regulated entities to conduct services such as registration, licensing, granting approvals, and other such activities. Commonly, regulators impose three types of fees: flat fees, fees based on the value of the transaction, and fees based on the nature of the transaction.

   The Act does not prescribe any process to calculate the quantum of fees and regulators have the flexibility to determine the required fees. Regulators issue regulations that prescribe the quantum procedure for collecting fees from regulated entities. These are laid before the Parliament. Currently, there is also no requirement for regulators to publicly disclose the rationale for imposing prescribed fees on regulated entities.

3. Other funds: Regulators can also invest their funds and receive interest on such investments. Other sources of money include penalties, donations, income from publications, interest from deposits, income from the sale/disposal of assets, etc. In addition, some regulators have a separate fund that holds other incomes.

   PFRDA can establish a separate Subscriber Education and Protection Fund which holds grants and donations received, interest on investments made and penalties imposed by the authority. Similarly, SEBI credits all amounts disgorged to an Investor Protection and Education Fund. Regulators can also own capital assets and hold separate capital/corpus funds and earmarked/ endowment funds which are reflected in their Balance Sheet.

The importance of financial capacity

The mandate of regulators is resource intensive. Some of the key expenses regulators incur include: (i) establishment expenses for salaries, wages, allowances, and other such expenses for employees; (ii) administrative expenses consisting of expenses on rent, electricity and water, vehicles, stationary, etc; (iii) grants and subsidies given to institutions or individuals (for ex., FSSAI offers grants to strengthen Food Testing Labs in states); and (iv) expenses for developmental activities including monitoring and supervising their sector

OECD’s Best Practice Principles for Regulatory Policy highlights that funding is one of the important pillars of regulatory authorities. Financial capacity is not only linked to efficiency, but also independence. It ensures that regulators have sufficient funds to conduct their activities and remain independent from any external factors, including the government or private sector.

Despite the early optimism around regulators, they often face similar capacity issues as the State. In 2018, the FSSAI cited that financial constraints have led to failure in upgrading their food safety mechanism. FSSAI sought a ‘quantum jump in budgetary allocation’ pointing out that counterpart organisations in other countries have a much higher proportionate budget.

On the other hand, SEBI is an entirely self-reliant regulator raising over Rs 800 crores through investments and fees in the Financial Year 2021 with a surplus of close to Rs 200 crores. Although there have been calls for transferring SEBI’s surplus funds to the CFI, there is nothing in the mechanism preventing regulators from raising fees that go above their budgetary requirements. This goes against notions of accountability and transparency - principles that form the bedrock of any public institution. Although a fee-based model allows regulators greater flexibility by avoiding delays and complications arising from the CFI disbursement process, it lacks processes that ensure accountability that come with a grant or tax-based regime.

Comparing incomes of regulatory authorities

To understand the role of fees and grants in the financial capacity of regulators, I have considered the income sources of three regulatory authorities SEBI, PFRDA and FSSAI, between 2015 and 2020. Income accounts of regulatory authorities provide us with a summary of the two key sources of funds: grants and fees/charges.

Evidently, the three regulators largely rely on either of the two sources (i.e., grants and fees) while the proportion differs for each regulator. For example, while SEBI does not rely on any grants from the central government, PFRDA and FSSAI, through the five-year period, largely rely on grants. Both FSSAI and PFRDA’s reliance on fees and subscriptions fluctuates through the period.

SEBI was also able to raise a sizable amount of money through income and interest earned which includes deposits in banks and other institutions; interest through loans provided to employees and interest from brokers.

SEBI makes available their board meeting minutes on their website, which includes the meetings where they decide the quantum of fees. These meetings reveal some of the contexts for why and how SEBI charges fees and the methodology they follow to decide the quantum. For example, in 2017, SEBI reduced the fees payable by brokers by 25% taking into account the projected income and expenditure for the subsequent three financial years and reducing the overall cost of transactions in the market. Similarly, in April 2020 they reduced the broker turnover fees and filing fees on offer documents to counter the challenges faced due to COVID-19.

PFRDA also makes available some of their board meetings - but, of the available minutes, none of them discussed any determination of fee matters. FSSAI does not make any board meetings publicly available and therefore there is no information on their fee determination.

Moving towards fee-based models

Fees have emerged as an important source of income for regulatory authorities, being seen as their way to function independently of the government.

The Report on Financial Sector Legislative Reforms Committee (FSLRC Report) submitted to the Ministry of Finance in 2013 reviewed the legal and institutional framework of the Indian financial sector. While discussing recommendations to reform the regulatory ecosystem, the report raised the importance of maintaining regulators’ independence. Amongst the reasons put forth, the FSLRC Report stated that regulators funding itself through fees would create “operational efficiencies” and ensures that the stakeholders who are the beneficiaries of the relevant market will bear the cost of regulation rather than the public as a whole. Regulators can also achieve freedom from the government on pay, potentially facilitating the hiring of experts. Fees can empower regulators to maintain independence from regulators and enable them to take timely decisions.

Fees are also easier to raise as compared to taxes, the latter being an important source of revenue for the central and state governments. The process of raising taxes is codified in the Constitution of India under Article 265 - “No tax shall be levied or collected except by authority of law”.

The process to raise taxes follows a multi-step process which begins almost six months prior to the date of presentation. Each ministry is required to submit estimated receipts and expenditures to the Government of India for their financial year which is examined by the Ministry of Finance in consultation with the Union Cabinet or the Prime Minister. After a series of consultations and discussions, the budget is presented in the Lok Sabha, usually on February 1st every year (commonly known as the Union Budget most recently presented by the Finance Minister, Nirmala Sitharaman).

Fees, on the other hand, are used by government departments, local authorities, and regulators to raise money to cover the costs of any services rendered. Over the years, courts have differentiated fees from taxes, empowering regulators to use fees to fund their activities and services. Courts have recognised fees as a legal means to fund regulators' activities but highlighted the need for a fair correlation between the fee charged and the cost of services rendered.

Differing standards of fees

In 2001, the Supreme Court of India considered the petition filed by stockbrokers challenging SEBI’s high registration fee charges. SEBI required stockbrokers to pay an annual registration fee based on their annual turnover over a period of five years. This is one of the earliest cases that dealt with regulators’ right to impose fees on regulated entities to fund their activities. The petitioners argued that the high fees were “excessive”, “unreasonable and arbitrary”. Second, they claimed that the fee is without the authority of law and is a tax guised as a regulatory charge. Finally, the levy has no nexus to the purpose for which the fee is collected and the demand for collection based on annual turnover extended over five years is arbitrary.

The Court rejected their arguments and found that SEBI does have the right to impose fees under the parent statute and therefore is authorised by law. The court did not consider the arguments on the quantum of the fees but held that regulators are not required to show a co-relatable quid pro quo. The court, however, refers to the Justice Mody Committee report which recommended preferable methods to calculate reasonable fees with SEBI in principle agreeing to implement them.

More recently, in 2020, insolvency professionals filed a writ petition, seeking the striking down of IBBI’s regulation charging ad valorem professional fees on them. They contended that there was excessive delegation, and the Act does not empower them to charge fees based on annual turnover or remuneration. They also raised that IBBI has not provided a quid pro quo to justify the charges. The Madras High Court ruled that regulators do not have to present a direct correlation between the fee earned and service rendered. In recent years, other regulators including PFRDA, CCI and PNGRB have also started to charge fees on an ad valorem basis.

As evidenced by the instances above, fees are specifically differentiated from taxes. Currently, taxes are the largest source of revenue for central and state governments with the process to determine and raise taxes set forth in the Constitution. Fees are becoming similarly significant to regulators. However, the same institutional safeguards are not put in place for regulators.

Designing financially self-reliant regulators

To raise taxes, governments must go through a rigorous and intricate process which accounts for principles of independence, transparency, and accountability. This has been coded into the Constitution of India. A similar framework is lacking for regulators funded through fees and charges, raising some concerns. While flexibility is necessary for regulators, equally, checks and balances need to be formalised to prevent misuse of their powers.

An unfettered right to raise fees can have far-reaching consequences on the relevant sector. High fees can impact the market since they are often translated into costs to the public directly or indirectly. To avoid this, it is important to ensure that there is a reasonable nexus between the cost of the services rendered and the fees charged. The FSLRC report highlighted that regulators should “clearly explain the fees it is charging and demonstrate that the fee is not disproportionate to the cost for the regulator”. The OECD report on The Governance of Regulators stated that the funding processes of regulators should be transparent and efficient while protecting their independence and objectivity.

An international example of good practice in raising fees is the Financial Conduct Authority (FCA) in the United Kingdom which is funded entirely by the fees and levies from the firms they regulate. On their website, they explain how they calculate their annual fees and in addition publish an annual consultation paper which sets out its proposal on fees for the upcoming year and the model for calculating the various levies. The paper is open to comments from all FCA fee payers and businesses considering applying for FCA authorisation or registration. Similarly, the parliament of New Zealand also published a document on guiding principles for the levy of fees and charges.

Similar processes are lacking in the Indian context. Currently, regulators are not required to conduct consultations to determine fees nor required to disclose their justification of the fees to the public or the regulated entities. This makes it challenging for the government, regulated entities and the public at large, who indirectly bear the indirect burden of high regulatory fees to question and examine regulatory budgets.

Conclusion: formalising transparency and accountability

It is argued that budgetary independence is related to the larger autonomy of regulators - regulators can determine their staffing, they can incur sudden or additional expenditures without immediate justification to the State, and it may also improve the quality of their operations by allowing investment in new technologies or requirements to upgrade internal processes.

Regulators that raise money need to be accountable to regulated entities and the public. When governments raise taxes, they must comply with certain constitutional and legal principles before deciding on the quantum. Principles that are enshrined in the Constitution. The same processes are not sufficiently imposed on regulators - their parent Acts do not provide any limitation to their right to raise funds through levies nor does it prescribe any requirements for transparency.

With an increasing number of regulators and increasing responsibilities imposed on them, their role in Indian governance is critical. In this context, the need for financial capacity cannot be denied but does the current process to raise funds by regulators ensure the necessary accountability? We need to consider creating a codified framework that sets out the above principles for self-reliant regulators.

References

Rangarajan, R. (2021) Financial Autonomy of Independent Regulatory Authorities: Analysis of Legal Framework.

Kapur, D and Khosla, M (eds.). (2019). Regulation in India: Design, Capacity, Performance.

Burman, A., & Krishnan, K. (2019).Statutory regulatory authorities: Evolution and impact.

Burman, A., & Zaveri, B. (2018). Regulatory responsiveness in India: A normative and empirical framework for assessment. William & Mary Policy Review, 9 (2).

Sundaresan, S. (2018). Capacity building is imperative. Column titled Without Contempt in the editions of Business Standard dated August 2, 2018.

Report of the Comptroller and Auditor General of India. Union Government Accounts of the Union Government, No 44 of 2017.

Ministry of Finance, Department of Expenditure. General Financial Rules 2017.

Rishika Rangarajan is a Researcher at the National Law School of India University, Bengaluru

The footprint of union government procurement in India

by Anjali Sharma and Susan Thomas.

Difficulties of government contracting are one important source of low state capacity. When capabilities in government contracting are low, problems that involve purchase from the private sector prove to be daunting (e.g. Covid-19 vaccines), and the decisions of make vs. buy are distorted (e.g. arms manufacture by the Indian state). This has motivated research in the field of government contracting. Along with a few other fields, government contracting constitutes a `horizontal' field which influences state capacity in all specialised domains such as defence, health, etc.

A foundational fact of this field is the magnitudes involved. A few researchers have worked on the problem of measuring the size of government procurement. In a recent paper, The footprint of union government procurement in India, we develop an estimation strategy based on public finance data that is available in the public domain, for the union government and for central public sector enterprises ("CPSEs").

We analyse the fiscal documents produced by the ministries and public sector enterprises of the union government: the `Detailed Demand for Grants' (DDG) submitted by various departments and ministries to the Ministry of Finance of the Union Government and the annual statement of accounts published by the Controller General of Accounts (CGA). Object head level data is collected from the DDGs, the heads that constitute public procurement are identified. and each expenditure is classified as procurement or non-procurement. Procurement expenses are further classified into procurement expenses of goods, services and works, and operating or revenue expenditure and capital expenditures. This results in an estimate for the total operating and capital procurement expenditure for a given ministry or department in a year.

This methodology generates estimates for :

1. Total procurement in a year
2. The magnitudes which are operating expenditures vs. capital expenditure.
3. The procurement magnitudes in goods, services and works.

In this work, some records are not amenable to the approach used and are excluded from the analysis. This could contain procurement activity, which is missed out. Therefore, the resulting estimates are biased on the downward side.

The paper uses 2016-17 as an example where these methods are applied. The main findings for 2016-17 are:

1. The total purchases of the union government are about Rs.3.9 trillion, and the CPSEs additionally purchase Rs.13.8 trillion. These add up to around 12% of GDP.
2. Of the total purchases by the union government, Rs.2.2 trillion are capital goods and the remainder are operating expenses. The CPSEs added Rs.2.2 trillion of fixed assets. The remaining Rs.13.67 trillion were operating expenses. This indicates that a little over 13% of public procurement by union government and CPSEs are capital expenses.

This research fits into the emerging literature on government contracting. Obtaining a sense of the empirical magnitudes involved is a critical building block of this field. We build on, and enhance, the measurement of public procurement which includes the preface to the draft `Public Procurement Bill, 2012', work by the research group at Consumer Unity & Trust Society (CUTS, 2012), and research work based on the World Bank Global Public Procurement Database (Djankov et al 2016).

Alongside this (conservative) estimate of union government procurement activities at about 11% of GDP, there are purchases by state and city governments. Khan (2012) places this total at around 30% of GDP. The magnitudes involved underline the importance of this field, of measuring, diagnosing, and improving the capabilities of government in contracting.

References

CUTS (2012), International, Government Procurement in India Domestic Regulations and Trade Prospects, CUTS, October 2012.

Simeon Djankov, Asif Islam and Federica Saliola, How large is public procurement in developing countries?, Peterson Institute for International Economics blog, November 2016.

M. H. Khan, Public procurement issues with Government of India, Presentation at LBSNAA, March 2017. 

Anjali Sharma and Susan Thomas, The footprint of union government procurement in India, xKDR Working Paper 10, November 2021

 

Anjali Sharma is Head of Strategy and Regulatory Affairs at National E-Governance Services Ltd. Susan Thomas is Research Professor of Business at Jindal Global University and Researcher at xKDR Forum, Bombay.

Lessons from the COVID-19 vaccine procurement of 2021

by Charmi Mehta and Susan Thomas

Introduction

The recent announcement on procurement and project management shows a heightened policy interest in improving how government contracts with private parties for projects. However, several problems in public procurement in recent times have been in the procurement of goods. The most visible were the failures in vaccine procurement in the first half of 2021.

In the middle of 2020, at the time of the first pandemic lock-down, Serum Institute ("SII"), an Indian firm, had been gearing up to manufacture the Astrazeneca vaccine (a.k.a. Covishield). The union government placed advance orders with SII and Bharat Biotech in January 2021 for doses that would cover 0.6% of the population with two doses. Deployment of Covishield began in the UK on 4 January 2021 and the first vaccination took place in India on 16 January 2021. The union government's vaccination program was the only one available in the country, and it was delivering about 2 million doses a day in April and May 2021. The surge of the disease raised questions about the efficacy of this program. The union government changed course with a press release on 19 April 2021 through which state governments could also work on vaccination if they desired and the procurement could be done directly from global suppliers and manufacturers (Agarwal and Shah, 2021).

It was a difficult time to buy vaccines. The Union government had a unique power to indemnify an overseas vaccine producer against legal liability, without which no overseas firm was willing to sell into India. Sub-national governments did not have this power, and were thus not able to purchase from firms like Moderna or Pfizer. Some global firms refused to transact with sub-national governments.

A certain set of state/city governments started on the process of procuring vaccines directly, in an attempt to do better on managing the disease within their states. Tenders to procure COVID-19 vaccines were published by 14 para-statal agencies. Of these, five were successful in attracting bids. Vaccine purchase by states largely ended by June, when the union government declared on 6 June 2021 that it would buy 75% of the total vaccines manufactured in India, and supply vaccines to states.

From a research perspective, this was a natural experiment where multiple state governments tried to solve the identical problem at dates that were just a few days apart. While the union government had negotiated contracts for vaccine purchase, the state governments chose to engage in open, competitive, global tendering. We hand-collected a data-set by breaking down published tender documents, and extracting fields that gave us insights into the procurer details, details of the bidding process including tender timelines, eligibility criteria for bidders, quantities to be procured and quality/storage requirements, procurement price constraints, payment features, delivery schedules and locations.

We do not observe whether a state government actually purchased vaccine or not. Information in the public domain stops at observation of responses to tenders.

This dataset gives us an opportunity to see differences in purchasing strategy and to look back at these experiences, in order to obtain insights on many questions: What kinds of states tried to buy vaccines? What were the features of their attempts? What states appeared to fare better? What lessons can we draw, from this episode, for better government contracting, in an emergency and in normal times?

We find that existing contracting processes have significant flexibility, particularly when procuring in emergency situations. The tenders published had flexibility of awarding contracts at prices away from the default L1, as well as in choosing efficient delivery schedules and locations. These were evident across all the tenders we studied. But this flexibility was not sufficient to attract bids for the tenders. Instead, what appeared to matter was the speed to tender and speed to award. Further, this was the first episode of direct procurement by state governments. The lack of prior experience and standing in the global vaccine market place was the essence of low state capacity.

What is the legal framework governing vaccine procurement in India?

I. Procurement of vaccines In India, there is a legal framework for the procurement of drugs, but not one to directly procure vaccines (Kaur et al, 2021). In the National Vaccine Policy (2011), Section 6.4 states the following on vaccine procurement:

1. All UIP (Universal Immunisation Programme) vaccines are purchased at the central level for distribution to the states.
2. While the UIP vaccines are purchased by the central government from indigenous sources, Oral Polio Vaccines (OPV) for mass immunization campaigns as well as Japanese Encephalitis (JE) vaccine is procured through other mechanisms. OPV immunization was conducted as part of a World Bank, WHO and UNICEF joint campaign that sought to eradicate polio in India (World Bank 2014). Likewise, the JE immunization programme was coordinated by WHO, UNICEF and PATH, who negotiated vaccine supplies from China (PATH 2019).
3. There are three takeaways about the Indian vaccine procurement from this: (1) Vaccines are usually procured only by the Union Government; State Governments do not routinely procure vaccines. (2) The Union Government usually procured vaccines solely from domestic suppliers. (3) The Union had additional support from international agencies for both vaccines that are globally tendered.

II. Procurement in emergency situations Several provisions in the Manual of Procurement of Goods (2017) ease competition requirements in an emergency cases.

1. There is a relaxation of the requirement to procure solely from domestic sources. Conditions for Global Tender Enquiries are listed in Section 4.3 and 4.4 of the Manual as `Where Goods of required specifications/quality are not available within the country and alternatives available in the country are not suitable for the purpose; in case of non-existence of a local branch of the global principal of the manufacturer/vendors/contractors;or Requirement for compliance to specific international standards in technical specifications; or the absence of a sufficient number of competent domestic bidders likely to comply with the required technical specifications, and in case of suspected cartel formation among indigenous bidders.'

2. There is also a relaxation in using L1 tendering as the sole mode of tendering. The Manual states that `Limited Tender Enquiry procedures should be default mode of procurement when the estimated value of procurement is between Rs. 2.5 lakh to Rs. 25 lakh.'

3. Section 4.7 of the manual permits single tender enquiries in case a situation of emergency warrants goods/services to be procured from a particular supplier. 'In case of emergency procurement, facility of withdrawing requisite advance cash amount and its subsequent accountal may also be considered', whilst procuring through a direct contract. In case of emergency, the purchaser may purchase the same item through ad hoc contract with a new supplier.

4. In all these cases, there is a greater onus on the procuring entity to ensure that value-for-money is ensured.

Observations about the vaccine procurement by states

Who procured?

Of the 33 states and union territories in the country, 14 published tenders between May to June. The others were either unresponsive to the situation or concluded that purchase was infeasible. As an example, the Punjab Government approached manufacturers but Moderna refused to contract with them. Punjab was not one of the states that put out a tender for vaccines.

What was the buying organisation?

Eleven out of 14 tenders were issued by independent medical services agencies, and three were issued by government ministries/departments. The literature suggests that organisational efficiency is often better in independent agencies as compared to ministries or departments, owing to their internal capacity, audit mechanisms and higher accountability mandates. Three out of the five tenders that received responses were issued by independent agencies/societies/corporations in charge of medical services procurement for the state. However, most of the states that did not receive bids procured through independent agencies.

Who received bids?

Of the 14 that published tenders, Karnataka, Odisha, MCGM, Maharashtra and Rajasthan received bids. Andhra Pradesh, Delhi, Haryana, Kerala, Madhya Pradesh, Tamil Nadu, Telengana, Uttar Pradesh and Uttarakhand did not receive any bids.

Did tender timelines matter?

The figures show the tender timelines as the number of days from the starting date of 19 April to the 23 June 2021 (which is the day after the Uttar Pradesh closed its tender on 22 June). The coloured portion of the time line shows the period from when the tender was published to when it was closed. Figure 1 shows the states that received bids, and Figure 2 shows the states that received no bids.

Figure 1: States that received bids

Figure 2: States that did not receive bids

 

From the starting date of 19 April, most states took 25-30 days to issue tenders. Uttar Pradesh and MCGM published tenders within 12 days, while Madhya Pradesh, Haryana and Delhi took more than 30 days. Uttar Pradesh kept the process going for the longest period, i.e. 34 days. In contrast, MCGM and Maharashtra closed within 6-8 days. The Maharashtra state tender was issued the day the MCGM tender first closed.

There is considerable variation in tender timelines. For example, Odisha had a 21-day tender open period and received responses, while Delhi had a 10-day tender period but did not receive responses. But from Table 1, we see that the average values of the timelines are different for the two samples. For example, on average, the states that did not receive bids took 4 days more to publish the tender compared to those that did receive bids. The difference is larger for the days that the tender remained open. States that did not receive bids kept the bids open for almost two weeks longer on average than those who did receive bids. In a period of great supply shortage, speed in closing the tenders appear to be more attractive to bidders.

Table 1: Comparison of timelines

	Received bids	Did not receive bids
Median days to start	25	29
Average days to start	25.4	29.9
Median days of tender being open	8	21
Average days of tender being open	10.2	19.22
Median number of corrigenda	1	1
Average number of corrigenda	1.1	1.2
Average quantity (million single doses)	25.6	17.6

Our research in government contracting has revealed the common procedure of weak preparatory work followed by numerous corrections to the tender documents, termed corrigenda (Roy and Sharma, 2021). There were corrigenda to some of the vaccine tenders. However, the number of corrigenda to a tender does not serve to differentiate between states that received bids or not. The median number of corrigenda issued across both sets is 1.

Finally, we compared the average quantity tendered for, and the states that received bids had a larger quantity requirement on average than those that did not receive bids.

Did payment terms matter?

The problem of payment delays in public procurement is significant (Mannivanan and Zaveri 2021). This has adverse effects on the perception of participating bidders and the cost of doing business with the government. We know from public reports that the Union Government was paying an advance to manufacturers are part of its negotiated contracting approach. However, most of the 14 tenders did not have advance payment, other than Odisha (which did receive bids) and Tamil Nadu (which did not).

Was there flexibility in the tendering process?

Rigidity in tendering processes such as adherence to L1 (lowest price bid) awards is often cited as leading to constrained optimisation for procuring entities. In contrast, the tenders for COVID-19 vaccines showed flexibility in the procurement process, from awarding contracts to bids beyond L1 to allowing for significant differences in tender parameters such as quantity, delivery, and who can bid. We find the procurers were empowered to empanel a larger number of suppliers to distribute their total requirement amongst bidders.

Was there expertise to design complex, non-standard tenders?

A reading of the tenders suggest a mechanical replication of standard drug procurement tender. In certain cases, tenders contained text referring to drugs rather than vaccines. So while there were specific areas where there was considerable expertise deployed (such as the variation in delivery schedules where manufacturers were required to submit a schedule of delivery and there was a clearly stated preference for the soonest supply), such lapses suggest that greater state capacity needs to be developed to handle complex goods procurement. In a simplistic view, standard tender templates that minimise ground-level discretion are favoured, e.g. as a pre-requisite for international funding agencies (World Bank 2021). However, there is no escape from deep rooted capabilities in contracting for every contracting organisation; mechanical use of templates is unlikely to work well.

In summary, our analysis finds some covariates that differentiate the states that were able to attract bids for the supply of the vaccine. What stands out is the speed to tender and to have a short tender period. In our data-set, we see a minimum time taken of 20 days for the most speedy tender issuance. While procuring entities must take adequate time to ensure value for money on contracts, lengthy tender cycles also tend to discourage bidders who must lock-in capital and resources in the anticipation of an award (National Audit Office 2007). Even in India, the Manual of Procurement of Goods 2017 prescribes a period of 30-45 days for tender processing, as delays in finalising procurement deprive the public of the intended benefits and results in lost revenues and cost over-run. If speed to issue tenders is important for procurement efficiency, then it is important that procurers must have the capacity to do so.

Conclusion

In this article, we have looked at a moment of sharp change in the rhythm of government contracting in India. At the height of the second wave of the pandemic, there was a rush of vaccine purchase by at least 14 Indian sub-national government organisations, within days of each other. Only five of these got bids. Within weeks after, sub-national governments stopped trying to buy vaccines.

We have documented the numerous constraints these organisations faced. Contrary to popular perception about the rigidity enforced by procurement laws and rules in India, our examination of different tender documents reveal that there was significant variation across tenders. There were important constraints in the form of private firms who were skeptical about dealing with Indian government organisations. Private firms are not confident about timely payments. Some overseas vaccine sellers required an indemnity which could only be issued by the union government. Some overseas firms refused to deal with sub-national governments.

The main finding of this article is that even when presented with supreme urgency and the highest prioritisation of the political leadership, it was often not possible to successfully buy vaccines. Given that vaccine procurement has always been undertaken by the union government, state governments were permitted to procure a commodity that they had scarce experience in doing, and in a market where they had no previous experience or credibility. Fire-fighting and "mission mode" works poorly. There is need to develop state capacity in calm times before they being asked to perform in an emergency (Kelkar and Shah 2019). State capacity can only arise slowly. A stable team of policy practitioners needs to engage in a given fixed activity (e.g. vaccine purchase from the global market) repeatedly. An ongoing relationship needs to be established with dozens of private firms. There needs to be continuing and repeated interactions through which learning takes place, and further, gets encoded into purchase manuals and document templates. Once such a framework is in place for many years, it would become possible to readily purchase vaccines in a given government organisation. If such a framework is not in place, episodic government contracting in a crisis management mode is unlikely to succeed.

References

Amrita Agarwal and Ajay Shah, An important change of course by policy in Indian Covid-19 vaccination, The Leap Blog, 20 April 2021.

Matt Apuzzo and Selam Gebrekidan, Governments Sign Secret Vaccine Deals. Here’s What They Hide, New York Times, January 2021.

Centre for Vaccine Innovation and Access, Indias leadership in the fight against Japanese encephalitis, PATH India, 2019.

Chartered Institute of Public Finance and Accountancy, Good Governance in the Public Sector, 2013.

Ruchika Chitravanshi and Sohini Das, Covid-19 vaccination: Govt books 440 million doses with 30% advance, Business Standard, June 2021.

Department of Expenditure, Ministry of Finance, Manual of Procurement of Goods 2017, Government of India, 2017.

Atul Dev, COVID-19: ‘Panic’ among India health workers over PPE shortages, Al Jazeera, March 2020.

Harleen Kaur, Ajay Shah and Siddhartha Srivastava, How elements of the Indian state purchase drugs, xKDR Working Paper 5, August 2021.

Vijay Kelkar and Ajay Shah, In Service of the Republic, Penguin Random House India Private Limited, 2019.

Pavithra Manivannan and Bhargavi Zaveri, How large is the payment delays problem in Indian public procurement?, The LEAP Blog, March 2021.

Ministry of Health, Family and Welfare, National Vaccine Policy Government of India, 2011.

Ministry of Health and Family Welfare, Revised Guidelines, Government of India, May 2021.

Ministry of Statistics and Programme Implementation, Government of India, 2021.

Atri Mukherjee, Regional Inequality in Foreign Direct Investment Flows to India: The Problem and the Prospects, Reserve Bank of India, 2011.

National Audit Office, Improving the PFI process, Office of the Comptroller and Auditor-General, National Audit Office, United Kingdom, 2007.

Press Information Bureau, Government of India announces a Liberalised and Accelerated Phase 3 Strategy of Covid-19 Vaccination from 1st May, Ministry of Health and Family Welfare, Government of India, April 2021.

Vikram Rajan, A Polio-Free India Is One of the Biggest Achievements in Global Health, World Bank, 2014.

Shubho Roy and Anjali Sharma, What ails public procurement: an analysis of tender modifications in the pre-award process, The Leap Blog, November, 2020.

Arup Roychoudhary, Centre should share some financial burden of states' vaccine procurement, Moneycontrol, May 2021.

Pankaj Shah, Uttar Pradesh amends global vaccine tender, Pfizer, Moderna can now bid, Times of India, May 2021.

The Hindu, Moderna refuses to sell vaccines directly to Punjab, 23 May 2021.

World Bank, World Bank PPP - Legal Resource Centre, 2021.

xKDR Forum, Government vaccine procurement, August 2021.

Acknowledgements:

Charmi Mehta is a researcher at xKDR Forum and Chennai Mathematical Institute and Susan Thomas is a researcher at xKDR Forum and a Research Professor of Business at Jindal Global University. We thank Diya Uday and Bhargavi Zaveri-Shah for their enthusiastic support and intellectual inputs into the design of the tender dataset, and Harsith Ravichandran for research and data assistance.

How elements of the Indian state purchase drugs

by Harleen Kaur, Ajay Shah, Siddhartha Srivastava.

There is one well known problem in India: the problem of drug quality. A significant fraction of the drugs purchased and consumed are sub-standard.

There is another well known problem in India: the difficulties of government contracting. When state organisations choose to buy instead of make, they face difficulties in the entire pipeline from bid preparation to tendering to contract disputes to contract renegotiation to payments. Weaknesses in government contracting are a cross-cutting problem that hamper the emergence of state capacity in all fields.

Research on government drug purchase thus lies at the intersection of two literatures: the drug quality literature in the field of health and the government contracting literature in the field of public administration.

Government purchase of drugs is particularly important for three reasons:

1. The government is a large buyer of drugs, and the people would become more healthy if the quality of government-purchased drugs could go up.
2. If procedures for drug purchase by the government are improved, this could potentially have an impact on the optimisation of an important subset of firms who may then improve their quality standards, and this would impose positive externalities upon private buyers of drugs.
3. There are some policy pathways based on information about government testing of drugs, where the release of test data into the public domain, as a side effect of a well structured government purchase procedure, can also reshape the incentives of private firms in favour of higher quality.

A research literature on government drug purchase is required. For all researchers looking at this field, obtaining basic institutional knowledge is a bottleneck. A first building block of this is a description of how various elements of the Indian state buys drugs. This is the kind of paper that everyone wants to read but nobody wants to write. We have made a first attempt at this descriptive paper.

India's supply chain vulnerability with Chinese APIs: Industrial policy vs. sophisticated policy design

by Gautam Bambawale, Vijay Kelkar, Raghunath Mashelkar, Ganesh Natarajan, Ajit Ranade, Ajay Shah.

India has a remarkable drugs industry. This involves a high dependence upon Chinese manufacturers of `active pharmaceutical ingredients' (APIs). Given the willingness of the Chinese state to behave in unusual ways in economic engagement (e.g. rare earths), there is a certain supply chain risk that is faced by Indian firms.

Should state power be used in addressing this problem? And if so, how should this be done? How do we avoid the long decades of failure in industrial policy, i.e. the experiments with policy pathways where a government picks winners, with a government that claims to know the correct ways in which production should be organised? Today we saw a fascinating article: Drugmakers cry ‘monopoly’ as Modi govt picks 1 firm each to make over 20 key raw materials by Himani Chandna in The Print. This narrates the story of a 1960s style Indian industrial policy intervention played out poorly.

Our book Checkmate China: Winning through strategic patience and accelerated economic growth is forthcoming from Rupa Publications later this year. A paper based on this book has been released in the public domain and summarises our strategic thinking for India about the China question. In the book, we have a treatment of the API question. This text is excerpted ahead. It represents our attempt at learning from 75 years of failure with industrial policy. This approach would have likely avoided the difficulties described in Himani Chandna's article.

Book excerpt: Designing a government intervention to address the supply chain risk faced by Indian firms that import APIs from China

The Indian drugs industry is a heavy user of Active Pharmaceutical Ingredients (APIs) sourced from China. In an environment where we see China as a bad actor in the global economy, where Chinese nationalism can harm counterparties abroad, this presents a risk to the supply chain. It is easy to design Indian economic nationalism which can combat this. However, as with all aspects of industrial policy, such use of state power raises many concerns. It is difficult for a government agency to know whether a certain industry merits subsidies and whether certain firms merit subsidies. There is a long history, in India, of “infant industry” arguments being used for decades, in which some well-connected Indian firms stay infants and continuously collect fiscal subsidies. Similarly, trade barriers in the form of quantity restrictions are prohibited under the WTO and tariffs are harmful and should best be avoided.

Thus, we face a puzzle: How can state intervention be designed, which can make a difference to India’s China problem with the supply of APIs? Given the failures of industrial policy as it was practiced in previous decades, how can this one sharp problem (supply chain risk faced by Indian pharma companies who rely on Chinese producers of APIs) be addressed by state action? How can this state action be done at the minimum fiscal cost, and while imposing the minimum distortions upon the economy? How can the risk of central planning – of officials determining the outcomes of the market-based competitive process – be avoided?

When faced with supply chain risk with a certain API from China, we should not jump to the conclusion that the answer lies in making the API in India. Perhaps the efficient solution is to import the API from a country other than China. Perhaps the efficient solution is to make it in India. Policy makers cannot assume that India has competitive advantage in making the API, when private persons have thus far chosen to not build such factories in India.

The first step in every policy analysis must be a thorough understanding of the behaviour of the private sector assuming there is zero state intervention. When faced with this new supply chain risk, what are Indian drug companies likely to do out of self interest:

1. Customers of these bulk drugs would be conscious about the business risk that they carry. They would watch the rise of nationalism in China with concern.
2. They would increasingly seek to diversify their sourcing. As an example, we are seeing Fortune 500 companies increasingly reduce the share of China in their global production.
3. One important response by the firms will be to buy APIs from countries other than China, e.g. Taiwan or Japan or Brazil. This is perfectly adequate solution, from the viewpoint of an Indian firm, to the threat of Chinese nationalism. Our problems with Chinese nationalism only imply that we should diversify away from China; this does not justify self-reliance.
4. One element of the process of looking for non-China sourcing is higher demand for firms in India that make APIs, which would kick off a supply response. Ordinarily, this market process will work itself out. But it is a difficult and slow journey. A government program can be designed that addresses this problem, which has a few key features: (a) We do not assume that in the long run India will be a successful producer of APIs, but we consider this possible; (b) The intervention is pre-announced and in a few years, liquidates itself; (c) The intervention imposes zero trade barriers upon imports or exports of APIs or drugs with respect to any country.

This proposed intervention would involve the following steps:

• A government agency would identify the top 50 APIs and the quantities $q = (q1, q2, .. q50)$ which are being imported from China.
• We establish the objective of domestic production that comes up to half of the imports from China over a five year period. This suggests escalation of quantities as: $0.1q, 0.2q, 0.3q, 0.4q, 0.5q$ over a period of five years.
• We put out a binding commitment on the part of the state that the government will run procurement restricted to domestic producers only, where there will be purchases over the next five years of these quantities. The government will commit to placing orders with 3 lowest-cost firms that produce in India, in each year’s bidding. The requirement from a bidder should be that production is done in India. Foreign or Indian firms should be permissible, subject to a restriction against firms controlled by the Chinese state e.g. bar a firm where any one member of the board of directors is an employee of the Chinese state or the CCP.
• These commitments about a rising scale of GOI procurement will create incentives for Indian/foreign firms, located in India, to build knowledge and physical capacity to produce APIs at a large scale.
• The government agency has only one objective: to trigger off economies of scale and competition by producers in India. Once the goods are purchased by the Indian government agency, what is it to do with them? Indian firms might not like to buy these APIs at the purchase price, as the purchase price may well be higher than the world price of these APIs. Once the goods are purchased, this agency would run a global auction to sell the same goods off, at the highest possible price. Indian drug companies could potentially choose to buy these goods, but these purchases would be at an import-parity-pricing price. As a consequence, through this program, the Indian government would be drop shipping the goods, purchased in the make-in-India auction to buyers who came into the sell-from-India auction.

This scheme constitutes a promise to buy from Indian firms, at rising quantities over five years, at the lowest prices that Indian firms are able to muster (3 firms for each product in each year). At first, the price in India will be high. Under this proposal, GOI will instantly turn around and sell off the goods at the highest possible price through a global tender. The gap between the two prices will be the fiscal subsidy that is being put down, to spark off API production in India.

At the end of five years, the domestic firms would be on their own. If the theory of change is correct – that there is a fixed cost of building knowledge and facilities to make APIs – then this is the minimum intervention that gets the job done. If the theory of change is incorrect – that India is not actually a good platform for making APIs – then in five years, this fiscal outgo would end, and India would not be a producer of APIs.

There are many strengths of this design:

1. Private persons face no new coercion, other than the coercion implicit in mobilising tax resources which are the source of government spending on this program.
2. There is no tariff; there is no interference in international trade. This program is layered on top of a free trade system.
3. It is a simple and transparent intervention. What it requires is the bureaucratic capability in the Indian state to do procurement: to run these auctions, to buy APIs in India, and to sell the same goods globally, doing high volumes of non-complex commodities. Indian officials are not asked to form a judgement about what APIs are important, about whether an API can efficiently be made in India, about the technology through which an API can be made, about whether public money should be used to build factories to make APIs.
4. There is a lack of fudge factors where there can be lobbying and negotiations.
5. No central planner should ever assume s/he knows the way forward. This design respects the possibility that India might actually have no place in API production. In this case, at the end of this program, there will be no API manufacturing in India. The program would have wasted taxpayer resources, but it would not distort the economy.

However, there are four main difficulties of this design:

1. For the desired impact upon incentives of private firms who should commit themselves to investing in building large scale API production, the private sector would have to believe that the deeds of the government will match the words of the government over the coming five years. If private persons feel that the Indian state cannot be trusted to stay the course for five years, then the incentive impact of the government program would not materialise.
2. The private sector has to feel safe engaging with government procurement; it has to believe that the procurement will be done correctly, that payments will be made on time, that there will be no investigations by agencies.
3. If this works, at the end of five years, Indian API vendors will lobby to not shut this down. Every policy designed to support an infant industry ends up with entrenched infants who like to wield state power in their favour.
4. While the objective of the program should be to foster Indian or foreign firms who choose to produce in India, there is the possibility that this could be skewed to favour Indian firms.

How large is the payment delays problem in Indian public procurement?

by Pavithra Manivannan and Bhargavi Zaveri.

Payment delays are endemic in government contracts in India. Businesses generally factor payment delays into the price of public sector contracts. Measuring the size and extent of overall payment delays from the government to vendors and contractors has, however, been a challenge. In this article, we use a novel data-set put together from public sources to ascertain the size of the payment delays problem in Indian public procurement.

When a private entity delays contractual payments, the delay is factored into the price of the next vendor contract or the debt contracted by the private entity. This feedback loop naturally instills payment discipline by aligning the payer's incentives with maintaining payment discipline. This is harder to achieve for government contracts, as information about payment delays in public procurement is often sparse, difficult to discern from budgetary statements or missing altogether. The problem is compounded as the state procures goods, services and works at various levels and through various entities owned by it. Payment delays affect the working capital cycle of vendors of all sizes. However, payment delays have a particularly deleterious impact on Micro Small and Medium Enterprises (MSMEs), which often have limited access to formal financial systems to bridge their working capital requirements. Timely payments, therefore, are of crucial importance to MSMEs as they rely on their cash-flow cycle to fund their working capital requirements.

Payment delays in contracts with CPSEs

A significant proportion of overall central government procurement is undertaken by centrally owned public sector enterprises (CPSEs). Most CPSEs are incorporated as companies and many of them are listed. We use the information in the annual results of CPSEs as a proxy to ascertain the scale of payment delays in the public procurement undertaken by the central government. We study the balance sheet and annual reports of listed CPSEs for the last three financial years, 2017-18, 2018-19 and 2019-20 ("study period").

We find that CPSEs had annual average outstanding trade payables of Rs.1.3 trillion as against an annual average procurement value of Rs.1.1 trillion, during our study period. This suggests that the annual average outstanding trade payables of CPSEs were about 18% higher than the annual average procurement undertaken by the CPSEs. We also find that when taken as a percentage of the value procured, CPSEs under some ministries, such as the Railway and Defence Ministries and Ministry of Housing and Urban Affairs, fare significantly worse than others. Further, we find that on an average, payments worth 8% of the total value procured from MSMEs are delayed for more than 45 days from their due date. Finally, we find that CPSEs demonstrate weak payment discipline towards all their vendors, and that the MSME vendors are not worse-off than the other vendors. This suggests that in the case of government contracts, the imbalance of the relative negotiating power of MSME vendors and non-MSME vendors has limited impact on the behaviour of the payer.

Our work demonstrates the potential to develop an ongoing system to measure payment discipline in public procurement, which could then act as a feedback loop for pricing vendor contracts when dealing with CPSEs and the government departments to which they are aligned.

Data and methodology

Our analysis is based on a hand collected data-set put together from the following two public sources of data:

1. the MSME Sambandh portal set up by the the Ministry of Micro, Small and Medium Enterprise in 2017, to monitor the implementation of the Public Procurement Policy, 2012;
2. Annual reports and annual balance sheets published by CPSEs.

Our data-set consists of firm level information about CPSEs, such as the year of their incorporation, listing date, industry classification, variables indicative of their financial health and the procurement undertaken by them. We augment the data-set with information on payments delayed by CPSEs to MSME suppliers beyond 45 days from the date on which such payments became due (hereafter, "delayed payments"). The Micro, Small and Medium Enterprises Act, 2006 (MSME Act)requires all companies that procure goods, services and works from micro, small and medium enterprises to disclose such payments in their annual report in the prescribed format.

Our data-set covers this information for 57 listed CPSEs. We collect the data for these CPSEs for three financial years beginning with the year in which the MSME Sambandh Portal was set up. This gives us data for the financial years, 2017-18, 2018-19 and 2019-20, which is our study period.

These 57 CPSEs are spread across 17 departments or ministries of the Central Government, with the largest number concentrated under the Ministry of Petroleum and Natural Gas (19.3%), followed by the Ministry of Power (10.53%) and the Ministry of Steel (8.77%). The CPSEs in our data-set are spread across 34 industries, as per the National Industrial Classification (NIC) scheme prescribed by the Ministry of Statistics and Programme Implementation (MoSPI). CPSEs in the business of 'electricity, gas, stem and hot water supply' account for the largest group (12.28%) followed by CPSEs engaged in the business of manufacturing coke, refined petroleum products and nuclear fuel (8.77%).

Each CPSE reports a target procurement value at the beginning of the financial year and the actual procurement value at the end of the financial year, on the MSME Sambandh portal. Table 1 shows the aggregate value of goods, services and works targeted and actually procured by the CPSEs in our data-set across different government departments.

Table 1: Procurement by CPSEs

	No. of CPSEs	Target (Rs. crore)	Actual (Rs. crore)
Department of Chemicals and Petrochemicals	2	371.66	308.38
Department of Commerce	2	17.28	18.3
Department of Defense Production	3	1963.33	2880.47
Department of Fertilisers	4	2547.34	2641.74
Department of Heavy Industry	4	16392.1	15209.25
Department of Telecommunications	2	0	0
Ministry of Coal	2	5977.39	1774.82
Ministry of Defense	3	5838.79	7066.05
Ministry of Housing and Urban Affairs	2	12.61	12.67
Ministry of Mines	2	2573	7132.09
Ministry of Petroleum and Natural Gas	11	52175.63	63849.08
Ministry of Power	6	6142.97	6608.55
Ministry of Railways	4	395.07	429.31
Ministry of Science and Technology	1	38	17.49
Ministry of Shipping	3	1725.67	1321.45
Ministry of Steel	5	4556.4	5356.22
Ministry of Tourism	1	125.07	34.85

The Ministry of Petroleum and Natural Gas is the largest procurer in our data-set, both in terms of the number of CPSEs and the value of goods, services and works procured by them. Table 1 also shows that a majority of the CPSEs have procured more than their annual targeted value. We observe this to be true across all the three financial years comprised in our study period.

Findings: CPSEs' outstanding dues

Trade payable are a rough proxy of the amounts due from a firm to vendors and service providers. We use the data on outstanding trade payable from the balance sheets of CPSEs as an estimate of payment delays in public procurement. Table 2 shows the three-year annual average outstanding trade payable due from the CPSEs in our data-set. The second column indicates the corresponding annual average value of procurement undertaken by these CPSEs, and the last column indicates the average outstanding trade payable as a percentage of the average annual procurement undertaken by the CPSEs.

Table 2: Average outstanding trade payable and procurement value

	Procurement value (Rs. crore)	Outstanding payable (Rs. crore)	Payable/ procurement (percent)
Department of Chemicals and Petrochemicals	308.38	106.11	34.41
Department of Commerce	18.3	1119.66	6118.36
Department of Defense Production	2880.47	3449.92	119.77
Department of Fertilizers	2641.74	1971.93	74.65
Department of Heavy Industry	15209.25	10297.54	67.71
Department of Telecommunications	0.00	2313.67	0.00
Ministry of Coal	1774.82	1898.59	106.97
Ministry of Defense	7066.05	3031.90	42.91
Ministry of Housing and Urban Affairs	12.67	2709.40	21384.37
Ministry of Mines	7132.09	1227.54	17.21
Ministry of Petroleum and Natural Gas	63849.08	82830.09	129.73
Ministry of Power	6608.55	7907.65	119.66
Ministry of Railways	429.31	1243.77	289.71
Ministry of Science and Technology	17.49	29.38	167.98
Ministry of Shipping	1321.45	1562.02	118.21
Ministry of Steel	5356.22	8739.99	163.17
Ministry of Tourism	34.85	58.94	169.12
Total	114660.72	130498.11	113.81

While the procurement value of a given financial year does not necessarily mean that the entire value of the contract becomes payable in the same financial year as the procurement contract may span across multiple years, the three year average numbers in Table 3, however, show a systemic break-down in the payment discipline of CPSEs. We speculate that these trade payable would have aggregated over time, and do not necessarily pertain entirely to the study period.

We then look at three departments/ ministries that account for the largest procurement by value in our data-set, to investigate the differences in the payment behaviour of CPSEs towards MSMEs and non-MSME vendors (Table 3). The CPSEs in these three departments also account for nearly 75% of the total outstanding trade payable of all the CPSEs in our data-set.

Table 3: Outstanding trade payable of CPSEs (as percent of value procured)

	2017-18		2018-19		2019-20		Total
	Non-MSME	MSME	Non-MSME	MSME	Non-MSME	MSME	Non-MSME	MSME
Department of Heavy Industry	84.02	7.87	80.87	15.82	110.63	11.81	88.89	12.22
Ministry of Petroleum and Natural Gas	182.65	7.60	187.97	3.56	143.05	4.13	171.49	4.32
Ministry of Power	116.44	14.90	161.54	15.35	292.02	21.73	175.63	17.46

In each of the three cases, the proportion of total outstanding trade payable to the value procured by the CPSEs during the study period is much higher for non-MSMEs than MSMEs. In the case of the Ministry of Petroleum and Natural Gas and the Ministry of Steel, the proportion of outstanding trade payable to non-MSME vendors exceeds 100% of the value procured, on an aggregate basis across the three years. Compared to non-MSME vendors, this proportion is significantly lower for MSME vendors (the highest being 21%).

Findings: Delayed payments by CPSEs to MSME suppliers

The final leg of our measurement involves estimating the 'delayed payments' by CPSEs to MSMEs, that is, payments delayed beyond 45 days from their due date. We aggregate the delayed payments outstanding as at year-end, by CPSEs to MSMEs, government department wise. Table 4 shows the delayed payments as a percentage of their annual procurement value from MSMEs.

Table 4: Delayed payments as percentage of procurement

	2017-18	2018-19	2019-20	Average
Department of Chemicals and Petrochemicals	6.22	11.73	11.84	10.46
Department of Commerce	0.86	47.38	1.08	17.47
Department of Defense Production	5.82	3.35	5.44	4.78
Department of Fertilizers	7.58	5.25	4.82	5.38
Department of Heavy Industry	7.91	15.92	12.11	12.37
Department of Telecommunications	0	0	0	0
Ministry of Coal	9.11	5.42	8.47	7.19
Ministry of Defense	3.55	3.20	3.98	3.56
Ministry of Housing and Urban Affairs	6.72	4.86	5.49	5.70
Ministry of Mines	2.79	1.51	2.85	2.37
Ministry of Petroleum and Natural Gas	4.12	4.80	6.18	5.25
Ministry of Power	24.95	25.33	31.87	27.51
Ministry of Railways	11.03	20.58	11.02	13.62
Ministry of Science and Technology	0	0	0	0
Ministry of Shipping	14.36	3.47	2.94	5.62
Ministry of Steel	4.84	10.18	4.81	6.18
Ministry of Tourism	0	0	21.13	21.13
Total	7.36	8.06	8.70	8.16

We find that the delayed payments by CPSEs to MSMEs average at about 8% of the actual value of goods, services and works procured by them from MSMEs during the study period. This percentage has marginally increased from 2017-2018, and is higher than the average in 2019-20.

Conclusion

In this article, we take a sector-agnostic approach to measure the scale of the payment delays problem in public procurement in India. An analysis of the annual returns and balance sheets of CPSEs gives us new insights on the scale of the problem at three levels, namely, at the level of the CPSE, the industry and the government department to which the CPSE is aligned.

Our analysis provides evidence of the popular perception of CPSEs' weak payment discipline to vendors. Taken as a percentage of the average procurement undertaken by CPSEs, the payment delays by CPSEs to their vendors far exceeds their procurement values. Second, while CPSEs demonstrate weak payment discipline to both MSME and non-MSME vendors, the delay seems to be much larger towards large vendors than the small ones. Third, the delayed payments reporting requirements mandated under the MSME Act provides us an illustrative picture on the payment discipline of the CPSEs. For two out of three years of our study period, we notice that the total delayed payments to MSMEs is higher than the three-years average (Rs. 2323.42 crores).

Our approach of understanding payment delays in public procurement in India, through balance sheets of CPSEs demonstrates the possibility of setting up ongoing systems for the measurement of payment discipline of government departments through CPSEs aligned to them. Further, these delays may be indicative of either of liquidity mismatches or solvency issues, at the CPSE, or a mix of both. By approaching this problem from a balance sheet perspective, our study lays the foundation for conducting future work on the possible relationship between the financial health of the procurers and their payment discipline.

The authors are researchers at the CMI-Finance Research Group and thank Susan Thomas for valuable discussions.