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August Outlook

India: The Other Asian Giant

At first glance, India seems to have much in common with China, its neighbor to the east. China grabs most of the headlines, but both countries have populations of more than 1 billion people, enjoy fast-growing economies and control large land masses across Asia.

But there are key differences as well. China’s growth model has depended on a blend of free-market reforms and top-down Communist government control. India, meanwhile, has remained democratic since the former British colony became an independent nation after World War II. And while China has leveraged its low cost of labor to become the world’s dominant exporter of manufactured goods, India has been successful providing call center, IT and other outsourced services that leverage fluency in English and select pockets of the country’s strong educational system.

For an update on India and where it’s headed, OUTLOOK turned to Devesh Kapur, director of the Center for the Advanced Study of India at the University of Pennsylvania, and Nicholas Burns, Harvard University international politics professor and former U.S. undersecretary of state for political affairs.

OUTLOOK: Characterize the importance of India from an economic and international trade standpoint.

NB: India is a country of contrasts. The country has one of the world’s fastest growing economies, along with China and Brazil, and it’s emerging as one of the great powers of the world, politically, economically and militarily. It has a highly capable and highly educated middle class, draws plenty of business investment and is on track to become one of the world’s dominant economies.

On the other hand, India has 600 million people who live in poverty and survive on small subsistence farming. The nation is still in need of major economic reforms in order to feed its poor population and bring them electricity and clean water. It’s this dichotomy of great strength and great weaknesses that defines India today and makes its future both challenging and promising.

DK: India today is the world’s 10th-largest economy and the fourth largest in terms of purchasing power. By the end of the decade, India is expected to be the fifth-largest economy and the third largest in terms of purchasing power.

Much of that growth has come from information technology, which grew from a $10 billion industry in 1990 to $100 billion today. The country also has a rising middle class of more than 200 million people with discretionary spending who are driving consumer demand for cell phones and cars. India’s favorable demographics also make the country very promising: In the next decade, one out of four people joining the global workforce will be Indian. That’s a phenomenally young population joining the workforce that can drive the country’s growth in a significant way.

OUTLOOK: How has India changed over the past 20 to 30 years?

NB: India has seen remarkable change. From its founding in 1947 to the early 1990s, India operated as a semi-closed economy with a heavy dose of state socialism and restrictions on investment and trade. Then, in 1990 and 1991, a series of economic reforms opened up India to the international economy. Those reforms enabled competition, opened up investment and trade and led to the great expansion of India’s economy.

DK: In the past 20 years, the growth rates basically doubled and the population rate growth and per capita growth rates tripled. Indicators like literacy, life expectancy, infant mortality all have seen considerable improvements.

OUTLOOK: What about its population growth?

DK: India is likely to surpass China in population in the next few decades. To give you one way to think about it: In the 20 years between 1991 and 2011, India added 364 million people to its population. That’s more than the total population of the United States. The country has added more people in 20 years than it did in two millennia. That is putting considerable pressures on natural resources and at the same time driving growth.

The big question is will India succeed in utilizing this labor force, or will it become a demographic disaster with lots of young people without jobs? For the rest of the world, India could either become a powerhouse like China or the country will have internal instabilities, which have implications. You cannot afford to be affected by instability when you’re talking about a fifth of humanity.

OUTLOOK: How rapidly has the economy been growing in recent years, and what are the prospects for growth ahead?

DK: India is among the fastest growing of the G20 countries. India’s GDP growth rate has climbed as high as 10 percent over the past decade. Even with its economic slowdown projected to drop to 5.5 percent, it’s still going faster than most other countries. The United States might grow between 1 to 2 percent and the European Union might even have negative growth.

Yet if you look at per capita income, India is the poorest country of the G20. India would have to continue growing at the pace it has for another 20 years in order for much of this huge population to reach middle-income status.

OUTLOOK: How well is India’s government positioned to manage the challenges facing the country?

NB: India has a stable political system, especially compared to some of its neighbors. India is democratic and has a very vibrant political culture, a tradition of free and fair elections and a very active parliament. There is every reason to believe that India is going to maintain that political stability.

DK: That’s true, but the one thing about democracies is that they can be messy, and right now, India’s democracy is very messy. That’s partly because you have a coalition government of multiple parties, so no single party has an absolute majority. That means different parts of the coalition pull in different directions and you get policy paralysis—nothing gets done and reforms do not get passed—and parties extract resources for supporting the government and you can get very high levels of corruption.

India is the only emerging market that has been consistently democratic since independence 65 years ago. Hence, democracy has deep roots in the country. But could there be government instability? Quite likely. And when the main national parties get fewer seats of power, the power starts to flow to regional parties and to states. That is not necessarily good for national security or a cohesive foreign policy or for implementing reforms in areas which are constitutionally the mandate of central government. But it also strengthens federalism and allows different states to experiment and compete with each other, which could accelerate reforms in areas where states have greater leeway.

OUTLOOK: What are the key issues facing the Indian government today?

DK: One thing India desperately needs is infrastructure. Over the next decades it needs transportation systems, such as airports and highways, urbanization projects like sewage and water, electric power -- you name it. That requires a much more transparent policy environment and better regulation. The nation’s laws for land acquisition – both for new business development and government projects -- have not changed since 1894 and do not reflect issues of present-day India. So acquiring land has become a huge headache.

There’s also a real concern that the country’s rapid growth has given rise to serious crony capitalism. Politicians know that with a stroke of a pen, agricultural land can be designated for industry or commercial purposes such as urban housing. The analogy is that it’s a lot like the late 19th century United States with powerful robber barons. But unlike the United States that had some 63 million people in 1890, India has 1.2 billion people. Managing their aspirations in a much more resource-constrained environment is far more difficult.

OUTLOOK: Is inflation a problem in India, as it has been in China and other high-growth emerging economies?

DK: India’s inflation is in the 7 to 8 percent range, which is much higher than other G20 countries. In a country with so many poor people, that’s a huge problem because the poor have very few ways to manage price increases when wages do not increase too. The rich obviously are much more protected.

When you have a coalition government, spending increases and fiscal deficits climb.That is partly why inflation in India has been so high. One way to keep inflation in check is for the central banks to raise interest rates, but that then dampens growth.

OUTLOOK: Food prices in India have risen even faster than inflation this year. Why is that?

DK: India is facing a drought, which has had an impact of rising food prices. Back in the 1960s, the country once was a major food importer but it has since been able to boost crop yields and improve its agriculture production. India’s agriculture sector is relatively insulated from the rest of the world, so rising global food prices do not always have an immediate impact within India.

OUTLOOK: Does India hold significant promise as an export market for American agriculture?

DK: Indian agriculture is currently protected by relatively high tariffs, mainly because agriculture employs about 600 million to 700 million people. But as pressures on land in India grow, it will become more open to U.S. agricultural imports.

OUTLOOK: Has India grown into a more market-oriented economy over the past 20 years?

DK: If you believe the corruption stories, then everything is up for sale in India, including parts of government. That’s a bit facetious but it’s indicative of perceptions. India has moved to become a much more market economy, but it still has parts of the economy where the government controls prices and exercises discretionary powers. The government still controls the prices for energy -- petroleum, diesel, kerosene as well as electric power. This has increased fiscal deficits and reduced investment in this sector. Much of India’s recent huge blackout can be blamed on excessive government controls and not allowing markets to work. No one is going to spend billions of dollars on setting up power plants, transmission lines and distribution systems if they know that prices might be regulated in ways that are not transparent.

OUTLOOK: What are the exports of India?

DK: The top exports include software and outsourced IT services, transportation equipment, machinery, pharmaceuticals and refined petroleum products. India has a strong generic drug sector, which has mixed effects on a country like the United States. On one hand, generics are much less expensive so American pharmaceutical companies face considerable cost pressures, but it’s great for the U.S. consumers looking to cut health care costs.

OUTLOOK: How does the bad global economy affect Indian exports?

DK: Last quarter India’s exports registered a slight decline of 1.5 percent. While it may not seem much of a drop, they had been growing very strongly in double digits so it’s large relative to trend forecasts. It’s an effect of low growth in global demand.

OUTLOOK: What about the recent news that India reduced its growth forecast to 5.5 percent?

DK: That is clearly driven by the governance issues. When you have policy paralysis and the perception of widespread corruption in government then businesses begin to lose confidence. That’s important but not the only reason. The world economy has also gone down in general.

OUTLOOK: How does what is going on in India impact the U.S. economy?

DK: Indian IT has reduced the cost for American businesses. If they outsource to India, it lowers the overall costs of their business. Back in 1990, the Indian IT market was too small to be bothered with – but not today. If you look at the Indo-U.S. Chamber of Commerce it has the crème de la crème of American companies.

NB: Trade and investment is at an all-time high between the United States and India. One of the bridges between the two countries has been the high-tech sector. We see more Indian-U.S. joint ventures and more Indian-Americans succeeding in the United States. There has been a wholesale transformation in the way the United States and India work together over the last 20 years.

OUTLOOK: What does a strong India mean to the rest of the world?

DK: Emerging markets doing well economically through democratic means is congruous with U.S. values. When you have a country as large as India and it grows rapidly it has linkages to the rest of the world. You get more innovation, more demand for goods and services as well as the supply of goods and services at cheaper rates.

OUTLOOK: How will India’s long-term growth impact energy markets?

NB: As an industrial power, India is becoming a major importer of oil and gas from sources around the world. Together with China, their energy needs are having a significant impact on global energy markets. India and the U.S. reached a landmark Civil Nuclear agreement during the Bush administration which should, once implemented, help India to increase its share of peaceful civil nuclear power with the help of U.S. firms.

OUTLOOK: What should the posture of the United States be toward India from a foreign policy standpoint?

NB: India and the U.S. have become close friends and partners during the last decade. Presidents Clinton, Bush and Obama have all worked to bring our two countries closer together. On Afghanistan, for example, India has given significant assistance to the Karzai government. Our two militaries also train and exercise together in the Indian Ocean. The U.S. also hopes to see conflict avoided between India and Pakistan, two nuclear weapons powers. India is fast becoming one of our most valuable friends in the Asia-Pacific theater -- now the most important region in the world for U.S. strategic interests.

OUTLOOK: Where do you see India 20 years from today? Are you optimistic or pessimistic?

NB: I am optimistic about India. Think of its advantages. It is the world’s largest democracy, has a very strong high tech sector and enormous mathematics and engineering talent in its population. Like the United States, it is also a multi-ethnic and multi-religious country that prizes its diversity. I see India as one of the future global success stories. Sure, it faces serious challenges and problems in its development but there is enormous room for further progress and growth.

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