#85 Legitimacy Of Unelected Powers🎧

This newsletter is really a public policy thought-letter. While excellent newsletters on specific themes within public policy already exist, this thought-letter is about frameworks, mental models, and key ideas that will hopefully help you think about any public policy problem in imaginative ways. It seeks to answer just one question: how do I think about a particular public policy problem/solution?

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- RSJ

A topic we often like discussing in this newsletter is the role of unelected institutions like regulators in framing public policy. The usual defence of having a regulator is that not all laws can be legislated by elected members. There is not enough expertise available among them in the many areas of lawmaking nor do they have time to do so. The delegation of this role to regulators solves for this.

Perils Of Arbitrary Power

This delegation comes with its own risks. Both legislative and executive responsibilities are vested in these unelected regulators. In India, often, they have judicial powers too with limited freedom to appeal against their decisions. The benign view of a regulator is that of an enlightened referee who sets the rules of game and ensures an even playing field for all. But with almost unlimited powers at their disposal and with weak or absent feedback loops on their performance, it is no surprise the actions of regulators border on arbitrary in India.

Is there a better way to create regulators? Or, like many other features of democracy (indeed, democracy itself), is this the best among the worst options?

Two Examples

First, National Payments Corporation of India (NPCI), promoted by the Banking regulator, decided last week it will cap transaction volumes by a single third-party app (TPA) player to 30 per cent on its UPI platform. The reasons cited were to address the systemic risk of a single player dominating the payment ecosystem and to reduce likelihood of frauds. At the same time, NPCI approved WhatsApp to launch its payment service increasing the intensity of competition in this space. In parallel, the government at the start of the year had banned Merchant Discount Rate (MDR) for transactions on UPI which was the primary source of revenue for payment service providers.

Put together, we have a scenario where there’s a business with no revenue model because it is priced at zero for both the merchants and the customers. And there’s a market share cap beyond which players can’t grow. The unintended consequences of these aren’t difficult to anticipate. First, it will be a nightmare to implement because how do you cap someone at 30 per cent in a business where volumes and speed of transactions are key features. Will a payment service provider reject new service requests after they have reached the cap or will they temporarily deactivate their service to stay within the threshold? That will be a nightmare for customers. Second, with this, why will any player innovate on the UPI platform beyond a point? They will instead go back to the entrenched global payment networks and launch innovative products on them to gain market share or create revenues streams. Lastly, the players will be forced to use ‘sharp’ practices to monetise customer data that could be detrimental to the customers’ interests. Predictably, the two largest players have been up in arms against this ruling. But the die is already cast.

The second example is the that of CCI initiating a probe against Google for abusing its dominant position in the mobile operating system with Android and app store markets to force app makers to use its billing system and to include its payments app in every Android phone sold in the country. As the Mint reports:

The two issues, which the CCI is investigating, relate to “exclusivity regarding the mode of payment for the purchase of apps and in-app purchases" and “pre-installation and prominence of Google Pay on Android smartphones".

While the complaints centre around Google Pay, its outcome could have a broader impact on how the company enforces its Play Store rules in India.

If CCI concludes Google has indeed violated rules, it would be a shot in the arm for Indian startups, which have been protesting against Play Store’s decision to charge a 30% commission for in-app sales.

We have written about this in our editions #75 and #76.

In summary, it is very difficult to prove platforms like Google are monopolies in the traditional definition of the term. Banning them from bundling their services or building an India or government app store are worse ideas. There’s more thought needed on how to regulate these entities. It is to be seen how the regulator will view these in India. Our view has been that the problem of unelected regulators with limited checks has greater repercussions in India. Invariably, things tend to go from bad to worse.

The Right Way To Designing A Regulator

So, what’s the right way to delegate powers to an unelected entity like that of a regulator? This is an important question to ask in India where regulators have proliferated over the last 20 years across sectors. The search for this brought me to Paul Tucker’s book Unelected Power: The Quest for Legitimacy in Central Banking and the Regulatory State.

Tucker who had a long career in Bank of England knows a thing or two in being in position of unelected power. He blends principles of political philosophy with public choice theory in answering key questions that form the four parts of the book:

A. When is the delegation of powers to the unelected the right thing to do?

In this part Tucker lays out the seven Delegation Criteria (DCs) which should guide the legislature on when to delegate its powers. The key point here is Tucker’s assertion that an independent agency should not make 'choices on distributional trade-offs or society’s values or that materially shift the distribution of political power’. That is, they must not be tipping the scales either way. Separately, he outlines the Design Precepts (DPs) on how to design an independent agency or a regulator. These include mandate with clear objectives and instruments (DP1), political procedures for deciding how to pursue the objectives (DP2), operating procedures for the use of instruments (DP3), procedures for communication to the wider society (DP4) and procedures for dealing with emergencies not covered by the mandate (DP5).

B. How should this delegation withstand democratic objections?

This is the crux of the book. The key question here is how to check for the legitimacy of a regulator or how to ensure that the democratic decision to delegate doesn’t itself turn undemocratic. Tucker uses this question to take the reader through the major political traditions of the world and establishes that so long as the principles of delegation as he laid out in the earlier part of the book hold, the regulator will be in the realm of democratic process.

C. How to ensure the right governance structure that manages the regulators so that the unelected officials running them have the right incentive to behave in democratic fashion?

This is the how-to part of the book where Tucker looks to shoehorn the regulators into the constitutional frameworks of liberal western democracies. These frameworks then provide the way to have checks and balances on the officials.

D. What should the role of a central banker be while pursuing multiple policy objectives and how should the delegation criteria apply to them?

This is a more specific segment relevant for the discussion on the role of the central banker as an unelected body with unlimited mandate to manage monetary policy. In the light of GFC, this is a useful section to think about the mandate and the management of a central bank within a democratic setup.

This is a great book to reconcile the role of unelected, powerful regulators with the need to have democratic accountability within them while ensuring they don’t turn slaves of an ever-changing legislative body.

In many ways, I found similar points raised by Kelkar & Shah in their book In Service of the Republic (the most quoted book over many editions of this newsletter). They write:

The first element of this is governance of the organization by a board which has a majority of independent directors. The officials who run the organization must be accountable to this board, where a majority of persons are external experts and stakeholders.

.. Once a regulation-making project is initiated, the staff must be required to build a documentation packet, articulating the problem that is sought to be solved, demonstrating that it is a market failure, and demonstrating that the proposed intervention is the least intrusive alternative available. This documentation packet must be put into public consultation, in order to solicit the views of affected persons and intellectuals. This packet, and the responses from the public, should lead up to a discussion, refinement and decision at the board of the agency. Only the board should be able to release a new regulation.

Public choice theory predicts that the staff of a regulator will favour arbitrary power in the legislative and executive functions. Hence, the parliamentary law which defines the regulator must write down the processes of regulation-making, licensing, investigation and prosecution in considerable detail. At an early stage of state capacity, the regulator must be given low powers of investigation and punishment, so as to protect the feedback loops of the push-back against regulatory actions from the economy.

Unfortunately, as we add to the burgeoning list of regulators in India, we aren’t giving enough thought and attention to this critical piece of public policy. How must we create an independent regulator without the danger of (what Kelkar & Shah call) the ‘democratic deficit’  that is inherent.

Unelected power of regulators is the reality of today’s governance around the world. A structured framework that channels this power and stays true to the principles of delegation will lend legitimacy to them.

HomeWork

Reading and listening recommendations on public policy matters

* [Article] Paul Tucker speaking on Unelected Power at the Watson Institute for International and Public Affairs.

* [Article] Building State capacity for regulation in India by Shubho Roy, Ajay Shah (NIPFP), B.N. Srikrishna (Retd. Judge, Supreme Court of India, Somasekhar Sundaresan (Independent legal counsel)

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