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India: Changing the mindset

Dec 14, 2004

There is no option! To provide jobs to a population of 10 m educated youths every year 'necessarily' requires our GDP to grow by 8% per annum. There is no 'other' option! And the government seems to be outlining its policies in order to achieve its objective of growing the economy at a faster clip to be able to provide gainful employment to a large number of people. India has been a 'different' story over the past years - different in the sense that unlike a general evolution of an economy from being agriculture-dependent, to becoming a manufacturing economy and then to becoming a services-led economy, India has moved straight from being an agriculture-led economy to being services-led. And this is clearly indicated in the adjoining graph that shows the relative contributions of agriculture, industries services to the GDP. From the levels of 46% and 38% of GDP, share of agriculture and services have moved to 22% and 56% respectively in 2003-04. The industrial sector's contribution has increased marginally from 16% in 1970-71 to 22% in 2003-04. And this, probably, has been the reason why India's per capita GDP has been lying low as compared to its developing peers in Asia and Latin America. As a matter of fact, while India's GDP has grown at a CAGR of 4.7% during the period 1970-71 to 2003-04, the CAGR of per capita GDP has been almost half at 2.7%.

Apart from an above average growth in population (around 2% CAGR), lacklustre performance of the manufacturing sector has been the other major culprit behind this slow growth in per capita GDP. This is because a large part of the 'not involved in agriculture' population is employed in the manufacturing sector where productivity growth has been lagging the services sector. If one were to take a look at the adjoining graph, one would notice that the volatility in per capita GDP trend reduced way back in the early 1980s.

This is exactly the time when the Indian government laid way for a 'pro-business' policy that focused on raising the profitability of the established industrial and commercial establishments. This policy involved easing restrictions on capacity expansion for established companies, partially removing price controls and reducing corporate taxes (Source: NBER). However, this policy did not encourage investments into 'innovative' techniques of production. Not much importance was given to the opening up of the economy and allowing foreign technology and capital. And that was one of the biggest reasons why Indian industries did not develop into global corporations. Moreover, the 'license raj' made sure that there was not enough competition to government PSUs that were low on the productivity radar.

The 1990s changed it all...

The thrust in the form of opening up the economy and dissolving the 'license raj' came in the early 1990s when India was on the verge of defaulting on its foreign liabilities. This was the time the then government initiated the 'pro-market' policies of removing impediments to market access and liberalizing the economy. , The license raj was dismantled, barriers to trade were slashed, foreign capital was welcomed and privatisation began. What's more, the services sector, benefiting from the low cost of operations and quality manpower, benefited from the easy flow of capital and labour. The result - rapidly rising proportion of services to GDP and faster than average improvement in per capita GDP. As a matter of fact, while CAGR of per capita GDP was 0.5% during the period 1970-71 to 1979-80, it rose to 3.4% during 1979-80 to 1991-92 and to 4.0% during 1991-92 to 2003-04.

So, what next?

While India has managed to grow strongly in the services sector, the same (services) cannot be relied on to provide jobs to around 10 m people every year. We need a clear policy on the agriculture and manufacturing fronts. While Indian manufacturing companies like Tisco, Telco, M&M, Ranbaxy and Dr. Reddy's have made their mark in the global arena through their deployment of cutting-edge technologies, and competitive and high quality products, we need to have more of such corporations if we are to come even close to China in terms of economic development. On the agriculture front as well, while the government has announced certain key measures like credit flow and improvement of irrigation facilities, a lot remains to be seen in terms of the actual implementation.

In a recent interview with us, Mr. Mahesh Vyas of the CMIE said that 'the corporate sector is gearing itself up after 10 to 12 odious years with a reality of liberalisation. The reality of liberalisation means more intense competition, which mean lower margins, which can only be offset by higher volumes.' This statement clearly indicates that the Indian growth story seems to be moving on the right track, albeit still waiting to attain significant momentum. Investors in the same, i.e., the Indian growth story, have to stay invested for the long-term to garner adequate returns. While markets may have priced in the near term growth of India Inc., a staggered and selective approach to investing may still be of great help for you, the long-term investor. The mindset, actually, needs refinement!

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