Tuesday, December 14, 2010

India and Its Economy

By dint of its size and population, India can be considered one of the largest economies in the world. However, because of its enormous population it can also be cast as one of the poorer countries of the world. The issue for India is to grow its economy quickly and in a manner that distributes sufficient wealth to the current poor that a change in life style occurs.

India, for its sake and the world’s sake, must get control of its population. Draconian government edicts are not an option. Two actions seem to be effective in controlling birth rates: increased wealth and the education of women. Thus far, India is not performing well in either category.

Comparisons with China are inevitable. As the chart below indicates, both countries were at the same point in terms of per capita GDP in the 1980s. China initiated an aggressive economic plan earlier than India and left them in the dust. India’s growth has accelerated in the last ten years, but it still does not match that of China.

Two recent articles address India and the state of its economy and are relevant to this discussion. The first is by Evan A. Feigenbaum. His article, titled India’s Rise, America’s Interest, appeared in the March/April, 2010 issue of Foreign Affairs.” the second appeared in The Economist: A Bumpier but Freer Road (September 30,2010).

Feigenbaum takes a glass-half-empty approach. He sees a lot of economic problems and is encouraged to see India beginning to address them.
“The government's top priority is to restore the nine percent annual growth rate that India enjoyed before the recent global economic crisis. As the crisis was unfolding, many Indians argued that their economy was safely decoupled from global trends because it did not depend heavily on foreign demand for Indian exports and its relatively closed financial sector had little exposure to toxic assets. But during the crisis, exports collapsed, capital left the country, and corporate India lost access to many sources of overseas financing. Although Singh's government adopted a fiscal stimulus plan in December 2008 that included heavy capital and infrastructure spending, Indian growth slowed from nine percent in 2007-8 to 6.7 percent in 2008-9, which is around where it is likely to remain until at least 2011, according to the Organization for Economic Cooperation and Development.”

“Now, party leaders are all the more dedicated to raising the incomes of poor and rural Indians: the government's first postelection budget extended the rural debt waiver, boosted spending on the ongoing rural employment guarantee by 144 percent, and hiked the rural infrastructure program by 45 percent.”
Poor infrastructure is a major issue in India. You can’t get product to market without good roads. It is inefficient if you wish to build a factory and discover that you also have to provide electricity generation, a water system, and a means of transporting your employees to and from work.
“Just two percent of Indian roads are highways, even though most freight and nearly all passenger traffic are carried by road. Rutted highways, old airports, decaying ports, and chronic electricity shortages weaken nearly every aspect of India's economy: the roads between India's four largest cities are poor, New Delhi's showpiece high-tech district of Gurgaon has gone dark and hot, and power for lights and air conditioning often fails even in state capitals. For India to sustain high GDP growth, Singh told Parliament in 2008, it will have to increase its electricity generation by eight to ten percent annually. By 2012, the government aims to increase infrastructure-related spending from four percent of GDP to nine percent, on par with the rate that gave China the world's third-largest road and rail networks. India's plans include completing construction on the Golden Quadrilateral, a multibillion-dollar superhighway linking New Delhi, Kolkata, Chennai, and Mumbai. India's success or failure in developing its physical infrastructure will say much about its broader potential, because the stakes are high and the obstacles are many. State seizures of land are difficult, cost overruns and political horse-trading are endemic, and violence between the dispossessed and the land-takers is increasingly common."
There are those who see India’s growing working age population as a sign of future growth. If the country is going to take advantage of these youth they need to be fed well and educated.
“Indian labor is disproportionately rural and heavily concentrated in unorganized activities and sectors. Manish Sabharwal, chair of the country's leading temporary-employment agency, has described a series of transitions that would strengthen the Indian work force: from farm to nonfarm, rural to urban, unorganized to organized, school to work, subsistence to a decent wage, and job preservation to job creation. But whether these transitions take place will depend in part on India's education system. Demand for education, especially from the growing middle class, vastly outstrips supply, and 160 million Indian children are out of school. And a UNESCO index recently ranked India 102 out of 129 countries on the extent, gender balance, and quality of its primary education and adult literacy. Thus, as Europe, Japan, and others pay a price for their aging work forces, India risks missing the opportunity to benefit from its significantly younger population.”
The article from the Economist takes a glass-half-full approach. The author recognizes all the problems discussed above, but is confident that India will overcome them.
“India’s GDP is expected to grow by 8.5% this year, and could grow even faster. Chetan Ahya and Tanvee Gupta of Morgan Stanley, an investment bank, predict that India’s growth will start to outpace China’s within three to five years. China will rumble along at 8% rather than double digits; India will rack up successive years of 9-10%. For the next 20-25 years, India will grow faster than any other large country, they expect. Other long-range forecasters paint a similar picture.”

“Several factors weigh in India’s favour. The first is demography. Indians are young. “An ageing world needs workers; a young country has workers,” says Mr Nilekani. Previous Asian booms have been powered by a surge in the working-age population. Now it is India’s turn. The proportion of Indians aged under 15 or over 64 has declined from 69% in 1995 to 56% this year, says the UN. India’s working-age population will increase by 136m by 2020; China’s will grow by a mere 23m, says Morgan Stanley.”
The author believes that in chaos there is strength. By unleashing the creative instincts of the Indian population, the country will eventually outperform the more “state-directed” economy of China.
“India’s second advantage is that the economic reforms of the early 1990s have unleashed an explosion of pent-up commercial energy. Tariff ramparts have been torn down. The ‘licence raj’—a system under which it seemed that a businessman could not pick his teeth without a permit—has been swept aside. Private firms have been forced to compete with the world’s best. Many have discovered that they can. Exports have shot up.”

“Indian firms are increasingly global and sometimes world-class. Arcelor Mittal, based in Luxembourg, is the world’s largest steel firm. Tata Motors, best known for making cars that cost only $2,000, also owns Jaguar and Land Rover, two luxury brands. Bharti Airtel, a mobile-phone firm with 140m subscribers in India, is rapidly expanding into Africa, too.”

“China’s growth has been largely state-directed. India’s, by contrast, is driven by 45m entrepreneurs, says Amit Mitra, the secretary-general of the Federation of Indian Chambers of Commerce and Industry, a business lobby. He gushes about the energy of India’s vast informal sector, and its ability to solve problems.”
The author perhaps misunderstands the Chinese system. Describing the economy as “state assisted,” rather than “state directed,” might be more accurate.

Economists have fallen in love with what might be called the Japan model for economic development. You take low income rural workers and give them low wage jobs in factories to produce low cost items for export. The earnings from these exports are reinvested gradually in education and in more sophisticated industries with higher profit margins. As long as the country can still compete on wages the model works. Korea and others have used this approach to build their economies. China is currently following a similar path.

This economic model is, however, self-limiting. You cannot produce a highly educated populace and tell them to work for low wages in a factory. Eventually the economy has to be based on high skill level and high technology. At this point the nature of business and competition changes. It comes with a higher profit margin for those who succeed, but with a greater risk of failure.

That transition has proved difficult for some countries, partly because of a troublesome aspect of wealth. Wealth seems to want to accumulate itself into large piles. People who win the risk game make a lot of money and often continue to risk it in search of ever larger profits. This aspect of the business world has traditionally contributed to speculative bubbles and income inequality. Small countries with well-integrated societies seem to survive this process.

China is the first large and diverse country to try to follow this path. They have clearly succeeded in developing a rapidly growing economy. The question is: can they produce an economy in which everyone gets to share the wealth, or will the country’s wealth become focused on high-risk, low-workforce enterprises in quest of ever higher profit margins. There is some evidence that the latter situation is occurring. We shall see.

India has chosen not to try the Japanese model. They have managed to attain a high growth rate by focusing more on service industries. But the same question applies to India: can it produce an economy in which everyone has a share of the wealth, or will the country’s wealth become focused on high-risk, low-workforce enterprises in quest of ever higher profit margins.

The author from The Economist believes that India’s creative energy will solve all problems. Having lived through two years of financial crisis—so far—I would tell the believer in creativity to “watch what you wish for.” The author also sees every poor, malnourished, and uneducated Indian child as a future tax payer. I guess I am a pessimist because I see them potentially as future long-term unemployed who in frustration might become revolutionaries or terrorists.

India will have a long and difficult road ahead. China is sucking all the oxygen out of the room. They are consuming and taking control of so many resources, that there may not be enough left for India as it comes following along.

This will be interesting.

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