Friday, October 27, 2006

India’s mystifying rise, October 8, 2006

There were many smiling Indian faces last week. Our economy again beat forecasts and grew 8.9% in the April-June quarter. India’s economic rise bewilders Indians. No one quite understands why this noisy and chaotic democracy of a billion people has become one of the world’s fastest growing economies. This is the fourth year we are looking at around 8% growth, and this follows 22 years of very respectable 6% annual growth. With 25 years of high growth per capita income gains have been huge: from $1,178 in 1980 to $3,051 in 2005 (in ppp).

What puzzles everyone is that India is not following any of the proven paths to success. Compared to the classic Asian strategy—exporting labour-intensive, low-priced manufactured goods to the West—India’s economy is driven more by consumption than investment, domestic markets more than exports, services more than industry, and high-tech more than low-skilled manufacturing.

With consumption accounting for two thirds of GDP, ours is a people friendly model; hence, inequality has grown much less. Our Gini index is 33, compared to 41 for the United States, 45 for China, and 59 for Brazil. (In a perfectly equal society Gini is zero.) Our domestic orientation has meant that our economy is far more insulated from global downturns, and is less volatile. More importantly, thirty to forty percent of our GDP growth is due to rising productivity rather than mere increases in capital and labour. Ironically, while high end, capital intensive manufacturing is succeeding, we have failed to create a broad based industrial revolution based on low end, labour intensive manufacturing. Hence, we are not creating enough jobs. This is a real worry--how will we move our vast army of people from the rural to urban areas?

Even more perplexing is that rather than rising with the help of the state, India appears to be rising despite the state. The entrepreneur is clearly at the centre of our success story. We have highly competitive private companies now, a booming stock market, and a modern, well-disciplined financial sector. Competitiveness runs deep. More than hundred companies have a market cap of over a billion dollars. Foreign institutions have invested in over 1000 Indian companies via the stock market. Of 500 Fortune companies 125 now have R and D bases in India, and 380 have outsourced software development to India.

Our economy may baffle us but we are agreed on one thing. India is succeeding because the state is gradually stepping out of the way. The pace of reform is frustratingly slow, but incredible as it seems, every succeeding government after 1991 has persisted in reforming. And even slow reforms add up. Yet, the state has not lived to its side of the 1991 bargain. It hasn’t built enough roads; nor given us uninterrupted power and water. Government schools and health centres are rotten. The police are corrupt. In short, we don’t get the services that citizens in other countries take for granted. The Indian state is so riddled with perverse incentives that accountability is impossible. The tragedy is that there are so many in this government, supported by Left allies, who want to bring back state control and kill our growth. One of them is RBI which is itching to raise interest rates. I sympathise with Chidambaram’s poignant plea to these growth killers—“give us some political space to reform” so that the UPA might take some minimal credit for this great achievement.

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