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Old Tuesday, July 21, 2009
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India’s challenges


By Shahid Javed Burki
Tuesday, 21 Jul, 2009


THERE are moments in the lives of nations when those who rule can bring about profound changes in the lives of the ruled. In India, 1991 was such a moment when then finance minister Manmohan Singh, facing an economic crisis of immense proportions, chose to break with the past.

With a few bold strokes he demolished the ‘licence raj’ that had been put in place with tender loving care by Jawaharlal Nehru and his political associates. The raj had kept India stuck in an economic groove that produced what its own economists called the ‘Hindu rate of growth’ — 3.5 per cent a year when the population was increasing by almost two per cent a year.

That didn’t leave much room for the poor, and the latter, in whose name the raj had been established, suffered immeasurably. India became tremendously impoverished, with 40 per cent of the population living in absolute poverty. That proportion introduced a new term in economics — the bottom 40 per cent.

With reforms in 1991, India went on a different track. The rate of economic growth more than doubled, the incidence of poverty declined, the middle classes increased in size, and some parts of the economy got well integrated into the global economic system. By lowering the barriers on trade and encouraging the entry of foreign capital, India opened its economy to foreign influences.

The Indian brand name became valued in IT, pharmaceuticals and automobiles — even in literature, music and movies. The country seemed set to become a global economic power. The slogans ‘Shining India’ and ‘Incredible India’ coined by inventive Indian minds did not seem misplaced. And then the global economy went into a spin and affected India.

For a decade or so many serious economists — those from India included — had concluded that the global economy had become decoupled. By this was meant that a number of emerging economies were no longer as dependent on the markets of rich countries and on capital flows from them to make progress. These were the factors that produced the miracles in East Asia and turned China into an economic power house. Now a quarter of a century later, these economies had built strong economic links among themselves. Trade among them had increased and they had accumulated large foreign-exchange reserves to protect themselves from the vagaries of the international financial market.

If the West was sinking under the weight of its financial folly, emerging markets would not go down with it. But they did.

The decoupling hypothesis held sway during the good times. When these turned bad, it was clear that the decoupling hypothesis stood on shaky ground. Emerging markets soon found themselves in the grip of a credit crunch. The decision by US authorities to let Lehman Brothers sink produced a number of unintended consequences. Among these was the hoarding of cash by the large institutions to prepare for another institutional collapse.

Credit froze, including that needed by traders to finance their operations. Turning over fast — typically ranging in terms from 60 to 270 days — the total yearly flows amounted to $10tr. No matter what the destination of these exports, the countries that relied heavily on exports needed the finance. Its absence badly hurt them. One of the largest plunges in GDP growth rates occurred in Singapore and Taiwan, two countries for whom trade was an important part of the economy.

The crisis came to India through an entirely different channel. Its banking sector, mostly under the control of the state, was insulated from western finance. Its trade to GDP ratio was relatively low. But the more vibrant parts of its economy — the IT sector and the health services, for instance — were connected with the West through the links forged over time between its own enterprises and the large corporations abroad. When the latter collapsed or shrank in size, the more dynamic sectors of the Indian economy suffered. India lost close to 2.5 percentage points in its rate of growth, with the GDP increase declining from about nine per cent a year in the five-year period before the crisis hit the world economy to 6.7 per cent in 2008-09.

The Indian economy is showing another weakness: the widening in income disparities, both interpersonal as well as inter-regional. This was vividly portrayed in a study sponsored by the Asian Development Bank.

According to it a clutch of domestic billionaires control as much as 20 per cent of the country’s GDP and 80 per cent of the assets of the firms listed on the Bombay stock exchange. A significant part of this wealth was accumulated in the last couple of decades when the Indian economy began to open its gates to the world outside. An important part of this model was to push the state to the back seat of the economy. And, a very large proportion of the very rich come from the western part of the country. In other words the new riches are associated with the western economic model and with parts of the private sectors that operate at some distance from the government.

A vivid portrayal of the problem comes from the novelist Arundhati Roy in her latest book, Listening to Grasshoppers. While one arm of Indian society is “busy selling off the nation’s assets in chunks, the other to divert attention, is arranging a buying, howling and deranged chorus of cultural nationalism,” she proclaims. She discusses the recent economic boom as having merely created “a vast middle class punch drunk on sudden wealth and the sudden respect that comes with it — and a much, much vaster underclass”. She is extremely concerned that unless the state steps in to remedy the situation, the country may have to face a serious socio-political situation.
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