Growth Model


India’s unique approach to development is preparing it to overtake China in the economic-growth race

Eye-popping 10.4% GDP growth in the quarter ending in December has excited hopes that India will become the next China, but expectations need to climb even further. India now looks better than China. India’s growth model promises more stable, sustainable expansion
and bigger returns for investors than China or other adherents of the East Asian development strategy have delivered. Eventually, India should overtake China in growth and per-capita output.

Superior corporate performance explains much of India’s recent success. According to JPMorgan, listed Indian firms deliver a higher return on equity (RoE) than comparable companies in Hong Kong, Singapore, Korea, Taiwan, Japan and Malaysia or Hong Kong-listed
Chinese firms. Remarkably, Indian firms combine high RoEs with Asia’s lowest debt-to-equity ratios. Large equity bases enhance stability but depress RoE, making Indian profitability all the more impressive.

India’s economic growth has rewarded investors unusually richly by Asian standards. Because the East Asian model generates growth without commensurate profits, the region’s stockmarkets badly lag GDP. From 1990-2002, nominal GDP growth exceeded the increase
in developing East Asia’s stock indexes (excluding China, which lacked a sizeable stock exchange in 1990) by an average of 236 percentage points. Backed by superior corporate profitability, India’s gap was just 96 percentage points. Only Hong Kong performed
better.

In contrast to China and other high-growth economies, the state has played almost no role in India’s recent growth. Governments in Japan, Korea, Singapore and China support favoured industries with tax breaks, directed lending and hidden subsidies. In India,
the state has displayed almost no preference for any particular sector. The government poses an equally heavy burden on all firms. It has aided industry of late by demanding less, not by showering businesses with favours. Privatization and deregulation, not
an intrusive industrial policy, represent the state’s biggest contribution to growth.

DOMESTIC DEMAND

India requires less onerous thrift of its population. National savings in the high-growth countries regularly topped 40% of GDP in the 1990s, and China’s savings rate reached 44% last year. India’s more modest 20%-25% rate allows workers to enjoy more of the
fruits of their labour and replaces fickle export demand with steady consumption as a growth driver.

More modest savings have fuelled less destabilizing over-investment. In the “Tiger” economies, investment typically exceeded 40% of GDP in the fat years, while China last year invested at a 42% rate. In India, the figure fluctuates between just 20% and 25%,
in line with savings.

Freed from state direction, the Indian economy has developed a happy but unusual structure. In China, Korea and Japan, government policies push manufacturing to the forefront. The service sector remains underdeveloped in most of East Asia. In India computer
programming, back-office outsourcing and call centres flourish, in part because official policy did not divert capital to manufacturers. India’s burgeoning service sector makes the economy unique among emerging markets. No other country at India’s level of
development boasts a globally competitive service industry, apart from tourism and money laundering.

All this should sound familiar. Low investment and savings rates, an even-handed government and highly profitable corporates are also hallmarks of the United States economy. India’s approach follows the successful American model, not the failed Japanese
example.

India’s development model might never reproduce the multi-year, double-digit GDP expansion the Tigers and China registered in their peak years. Hypercharged investment fuelled by underpriced capital propelled those growth spurts. Lower investment and savings
rates could limit India’s expansion.

But India’s model should prove more sustainable than the typical East Asian strategy adopted by China. India is developing more efficient corporates, healthier banks, more robust service industries and a bigger consumption base. China has won the sprint. India
is training for the marathon.



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