Wednesday, November 26, 2014

An Economic Roadmap for India

NEW DELHI – India’s incoming prime minister, Narendra Modi, has promised to turn his country’s sluggish economy around. When asked recently about his reform plans, Modi responded that his roadmap was simply that “Our GDP should grow.” This seems like an obvious goal, but in recent years India appears to have been losing sight of it.

What will it take to return the Indian economy to sustainable growth? We believe that the following five simple facts about the Indian economy hold the key.

First, India is a “young” emerging market. This means that sustaining a high rate of economic growth for the next five years can come about without making dramatic changes to India’s institutions. A country’s output depends on its inputs, namely its labor force and capital stock, and on the efficiency with which it uses them. When the capital stock – including infrastructure – is deficient, investing in it is one of the quickest ways to generate growth (as long as finance is available). This is the “low-hanging fruit” that Modi should go after right away. It is a much more difficult and gradual process to increase the efficiency of resource use and the skill level of the labor force.

Second, the service sector has been the primary driver of economic growth in the last few decades. Industry’s share of value added is stuck at 25%, and the share of micro and small enterprises in manufacturing employment in India is 84%, compared to 25% in China. This is anachronistic for a country at India’s level of development. The fact that India has moved from an agricultural economy to a service-driven economy with almost no growth in industry is not a virtue; it is an outcome of policies that have hampered manufacturing and mining.

With production costs rising in China, international buyers are looking for alternative sourcing destinations for manufactured products. If India, with its large labor force, is to seize this opportunity, it must nurture its industrial sector.

Third, India’s rank in the World Bank’s “Ease of doing business index” fell from 116th out of 189 countries in 2006 to 134th in 2013 – clear evidence of stalled reforms. The new government needs to reverse this trend and improve the environment for doing business. There is a large constituency of domestic and international investors who will respond positively and rapidly to any steady improvement in India’s institutional environment, which should be an ongoing process.

Here, again, it is not as if large, comprehensive reforms are required. Significant improvement could be achieved by rule changes to accelerate approval of business permits and environmental clearances, simplify labor regulations, and fill judicial vacancies. All of this is well known; what is needed now is the will to undertake such reforms and a mechanism for oversight and accountability to ensure that the bureaucracy implements them quickly and effectively.

Fourth, in recent years the lack of fiscal discipline has been costly for the Indian economy, as excessive demand arising from large deficits translated into stubbornly high inflation and was partly responsible for large current-account deficits. Fiscal discipline should be a priority, not an afterthought. An emerging market requires a strong commitment to keeping fiscal deficits in check. New budget legislation, along the lines of the Fiscal Responsibility Act of 2003, but with more teeth, needs to be instituted.

Lastly, improving the quantity and quality of education and healthcare through partnerships with the private and non-profit sector and researchers is essential to sustain growth beyond the next five years. The new government should promote researcher-policymaker partnerships to design and evaluate innovative programs to solve knotty policy challenges like improving learning outcomes and boosting preventive health care.

India is fortunate to have thought leaders in almost every sector who could help unleash such innovation in partnership with the civil service. Just as there is a chief economic adviser in the finance ministry, why not have a technocratic chief education adviser or a chief health adviser to work with the education and health secretaries?

Will a Modi government be able to deliver on these fronts? Modi has certainly championed economic growth, and he constantly points to his success in building roads and ensuring power supply as Chief Minister in his home state of Gujarat. The BJP manifesto proposes to pursue “minimal government and maximum governance.”

It is refreshing to encounter this acknowledgment that government might sometimes be the problem. But replicating Modi’s success in Gujarat at the national level and confronting other development challenges will require cooperation from state governments, which is uncertain at best. After all, any attempt to change rules and laws (such as labor legislation) that benefit established interest groups invites opposition. What India’s economy needs has been evident for years; the challenge for the new government is to find a way to get it done.

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    1. Commentedcaptainjohann Samuhanand

      The author suggests education, health and other advisors just like the economic advisor. The very fact these economic advisors cater to the interest of USA multinationals as they are citizen of that country shows the way condition of Indian economy is today. India requires just plain commonsense to have better infrastructure just like Chinese have done.It is better to have a Chinese expert on Infrastructure to help India.

    2. CommentedRajnish W

      A focus on Energy and Energy efficiency is what I would add to this brilliantl article. Energy the universal enabler must flow smoothly and cost effectively. A very large portion of energy produced is lost in AT and C losses and what is produced barely fills the need. Coal productiom has not gone up, Power plants sanctiined on this,hope are importing expensive coal, Gas from KG6 isnt coming up cheap, these were sanctioned on the bidding parameter of the kowest price at which the promoter would sell to the Govts grid. Promoters bid and won the projects at unrealistic prices which are sealed for the next 25 years!.
      It hasnt helped that Environment regulators ahve taken too long to grant clearances, if at all.
      Roads anc Highways are another enabler which have not been built as fast as they should have. Again, promoters bid cheap enthusiastically but backed out along the way unable to meet costs or raise adequate credit . Nuts and Bolts of Policy translating to Regulation and Results are all that are required to be set right and the entreprenuers will be raring to go forward.
      There hasnt been a deficit of capital, or enterprise, only a deficit of leadership to resolve tangles and this the new government appears poised to very ably fill.

    3. CommentedUday balakrishnan

      India is much better off than we all think regardless of how visible its poverty is. For several reasons our poverty is overstated to make a case for freebies benefitting India's corrupt elite most. In fact the country just needs to figure a way of unlocking around USD 2 trillion stashed away in cash and gold. It really does not need FDI of the kind it has been getting - lot of roundtripping there.

    4. CommentedMargaret Bowker

      India's economic challenges are thought-provoking and this is enjoyable and informative analysis, which seems to be saying that the country should advance in carefully considered, but effective stages into a more modern business environment. Is there a state-wide Business Council for example? Movement into the authors' concept of 'partnership innovation' would include creating clarity in regulation and more efficiency in compliance procedures to attract big business to the substantial labour market available. I gathered from Gita Gopinath's remarks that India's SMEs are small or micro, with medium sized businesses being much less prevalent; and big business not adequately represented, considering the country's size. Industry seems not to have been developed in accordance with India's aspirations. Similarly, the progress of the major infrastructure projects needed to present a modern face to global corporations appears to be sluggish. This is an issue in a number of countries. India is said to be looking at Japan for a possible template. There fiscal and monetary policy work together and the RBI has a multi-year inflation reduction plan ready. Is India going to attempt a version of the three arrows, crafted to the country's needs?

    5. CommentedK Chandra

      A very good article by the author. None of us have any doubt that an immediate removal of red tape and stifling bureaucratic hurdles to private sector investments will unleash an additional 2 to 3 percentage points of GDP growth. This is a nation built historically on the rent seeking premise that 'supply should follow demand' artificially creating shortages. Every ministry should be asked to identify the 10 major hurdles to growth and remove them within 6 months. Most of them do not require legislative changes. They tend to be procedural and can be handled through notifications. Start with withdrawing the hundreds of unreasonable predatory tax cases against companies based on arbitrary interpretation of tax rules in the grey area. India needs capital to support its investment and growth ambitions. They must accept that foreign capital is required both as FII and as FDI. They must stop listening to the local business lobbies with vested interests against FDI. They must take a balanced and multi dimensional view of the contributions from foreign companies. Tax is not the only contribution they make. What about the jobs they create, the technology and global networks they bring and the foreign exchange they generate? The author's idea that they should bring non bureaucrats as advisers in every ministry is an excellent one. In China most Mayors of big cities have had very beneficial advisory councils over the years. The new Government will not be able to achieve much if they wait for the State to play ball. Instead they should focus first on getting things done in the Central and concurrent lists. Equally importantly they should bring the more progressive thinking and high integrity bureaucrats who can execute what the elected representatives want in terms of development.

    6. Commentedhari naidu

      The development problems of India can be summarized in one simple observation: WCs in Delhi are not only unhealthy spots but a disgrace to third largest economy in the world. When will central (inefficient) administrators learn that the image of India is what counts in the medium-long term. Same applies to Taj Mahal ....a great wander of the world!

      Experience from elsewhere suggest that education at rural level must be a priority for sustainable development. No work force is worth the money if it's not adequately trained and educated. Capacity building is a perennial problem for Union Government - therefore decentralization of Centre-State relation must become a priority, if illiteracy is to be abolished.

      The bottom-line is that macro policy coordination and implementation has been let down - to say the least - thus raising the q' who the hell is calling the game in Delhi?

    7. CommentedProcyon Mukherjee

      This is an excellent analysis of the challenges ahead for the new leader, but execution holds the key; the fundamental driver is land acquisition and the encumbrances around that keep moving through a maze of unknowns, laws and structures (mostly a State subject) are never made transparent and easy to understand and implementable for one and all. Land acquisition and Forest clearances would drive Mining activity that in turn would allow Power sector to meet the rising demand. This is the first building block.

      But it is finally the institutions that make approvals faster which can make a sea-change to the current condition (a Bauxite Mine needs 63 approvals, a coal Mine 48, for example), no wonder the lock-jam of the previous government left 50% of the Mining operations in the country come to a grinding halt. All the technical committees that function to clear the different files should have accountability to deliver results, not sit on the files for years, basking in the glory of a self-chosen ideal that neither works for the good of the people, nor for the environment it seeks to defend.