India’s Economic Miracle And Its Impact On Nepal – Analysis

By Hari Bansh Jha

For a long time, it was a common practice to identify the rate of economic growth in India as ‘Hindu rate of economic growth’ – a derogatory term used to denote lower annual growth rate of the economy. This was the state of affairs under the License Raj in India until 1980s, which was based on strict enforcement of licenses, regulations and red tape owing to protectionist and interventionist policies of the government. As such, India’s annual rate of economic growth from 1950s to 1980s could not grow more than 3.5 per cent.

Because of the defective economic policy, India ultimately experienced a major crisis in its balance of payments in early 1990s. This, however, proved a blessing in disguise. In order to resolve the crisis, the Indian government introduced significant reforms in trade, industry and investment sector in the process of liberalizing the economy. A new era began in which the long policy of isolation with the global markets, financial regime and technology flow was abandoned.

Emerging as World’s Fast Growing Economy

Economic indicators show that the Indian economy soon attained the take-off stage under the new liberalized economic regime. The FDI which amounted to mere US $ 6.1 billion in 2001-2002 shot up spectacularly to US $ 34.3 billion in 2007-2008.[2] By 2020, India aspires to increase the FDI quite

impressively from its present share of 0.1% of the GDP to 3.5%, particularly in areas like infrastructure, high technology-oriented units and sectors that could generate massive employment opportunities.[3]

In addition, the service sector exports grew from 7.2 per cent of GDP in 1990 to 20 per cent in the recent years. India’s industrial growth is fundamentally software-led. In 1996-97, the software exports accounted for merely $1 billion, which increased to $23.4 billion in 2005-6.[4] Remarkably, the exports of

computer software and business services shot up by 40 per cent per year during 2004-08. Similarly, the exports of merchandise grew by 20 to 30 per cent per annum.

Moreover, the exports trade in India doubled from $ 52.7 billion to $102.7 billion between 2002-3 and 2005-6 within the period of just three years. As a result, the share of India in world export trade became 1 per cent in 2005-6 from 0.5 per cent in 1990-91.[5]

India’s savings rate shot up unprecedentedly from mere 23 per cent in 1990s to 35 per cent during the recent years. Indian economic growth rate registered 7.8 per cent in 2008-2009. In 2010, the economic growth rate in India was 8.8 per cent. The higher rate of economic growth in India has made the country the second fastest growing economy in the world after China. In fact, it is the fastest growing free market economy in the world.

In 2009, the GDP in India in terms of purchasing power parity (PPP) recorded US $ 3.5 trillion. It is expected that it would double every eight years or so at the present rate of economic growth of 8.8 per cent. On this basis, expectations are that India would emerge as the third largest economy in the world by 2040 when its GDP in PPP terms could reach over US $ 28 trillion i.e. nearly 8 times of the current GDP. By then, the per capita income in India could reach US $ 20,000 in PPP terms.

With additional modest capital flows from abroad, India is in a position to make investment with its savings to the extent of 40 per cent of GDP per year. This 40 per cent investment in the economy is likely to help economy achieve 10 per cent economic growth assuming the capital-output ratio of four to one.[6]

Now Indian Prime Minister Man Mohan Singh is confident to achieve 10 per cent rate of economic growth based on the performance of Indian economy over the past years. No country other than China is a position to maintain the steady economic growth rate of 10 per cent over the years, which now India is confident to achieve. Therefore, Goldman Sachs predicted that India’s rate of economic growth would be not less than four times in 2020 as compared to the situation in 2007.

One of the factors that led to higher growth of Indian economy is the growth in the middle class population. As it is well known, India’s middle class account for nearly 300 million, which is 30 per cent of the country’s total population. In 1984-85, the middle class population formed as low as 10 per cent of the total population, but now half of India’s population is likely to enter into middle class group between 2020 and 2040. Much of West and South India will turn into middle class by 2020 itself.

Recently, the Asian Development Bank has estimated that over the next two decades, the middle class population in India would reach 1 billion. In this context, the McKinsey Global Institute (MGI) estimated that India would emerge as the world’s fifth largest consumer economy by 2025, up from 12th position at the moment. Now that there has been massive growth of Indian middle class population, India has emerged as Asia’s largest buying economy. The Indian middle class population is likely to assume the traditional role of the American and European middle classes.

The rise of the middle class population in India is important from different point of view. For the corporations, the middle class population provides significant business opportunities. They are the ones who buy bulk of consumer goods, including automobiles, mobile phones, televisions, computers and other electronic items. Besides, they are the ones who need financial services and also services in educational, health and different other sectors.

Unlike China, Japan and other Asian Tigers which have followed export-led growth strategy, India’s growth is driven primarily by domestic consumption. Significantly, the domestic economy provides India greater cushion from external shocks than any of these countries. In India, the private domestic consumption accounts for 57 per cent of GDP, whereas it is only 35 per cent in China. The economy of India did not suffer due to the confidence in consumers. Because of India’s less of dependence on other countries, the growth in this country is much more sustainable. This is the reason why the Indian economy, particularly the banking sector largely escaped the adverse impact of global financial crisis when many of the world economies, including the USA, Europe and Japan were hardest hit. The banking sector remained largely unaffected partly due to its limited operations outside India and partly due to the fact that they had little exposure to sub-prime lending by foreign investment banks. The banking sector in India recorded 43 per cent in profitability in 2008 when the big financial institutions around the world lived in nightmare.

Economic Integration with World Economy

In a brief span of time, India has transformed itself from a country of ‘snake charmers’ to the ‘country of charmers.’ It is getting integrated with the world economy. In this process, the number of multinationals in India increased perceptibly. Be it the countries of European Union, including Britain, France, Netherlands, Italy, Germany, Belgium and Finland or Asian countries like Korea and Japan, they all have multinational companies in India. There is perhaps no sector left where foreign multinational companies have not made their presence in India. Finnish Nokia, Fiat, Piaggio, Ford Motors, Samsung, LG Electronics, Hyundai, Vodafone and McDonald are among some of the world’s noted multinational companies in India. Even recently, a number of world’s multinationals including ArcelorMIttal and Posco steelmakers expressed their commitment to make further investment in steel and power sector in this country.

Basically, the multinationals are interested in India because of macro-economic stability, labour competitiveness and attractive environment for FDI. With the increasing prospect for the development of civilian nuclear programme, more and more multinationals are expected to make their inroads into India. The multinationals are interested mostly in India’s huge market. With over 1.21 billion population, India has created most conducive environment for investment. The average annual rate of economic growth of 8 to 9 per cent has enhanced people’s purchasing power dramatically. Therefore, India has emerged as world’s fastest growing telecom market. Each month over 1 million new mobile phone subscribers are added. Over 10,000 motor cycles are sold in the country each day. Of the total order for aircraft, private Indian airline companies alone account for 43% of total order for aircraft – be it Air Bus or the Boeing. Each second a new baby is born in India and together with it there is corresponding increase in the demand for the bulk of the population.

It is not that only the foreign multinationals are making their inroads in India. Indian multinationals are equally becoming competitive to expand their network and base in other countries of the world. Thanks to the strong technical base in India that the Indian multinationals find themselves competitive to work abroad. In India, only 2 per cent of the applicants compete in information technology (IT) sector; whereas 10 per cent of the applicants succeed in world renowned institution like Harvard University. This clearly shows the quality of the manpower that India produces each year.

More than half of world computer graduates are in India alone. It is, therefore, expected that India will be world’s major centre for the production of ideas. This is one of the reasons why the Indians have penetrated every field be it in the field of journalism, Silicon Valley, Wall Street or fashion world. Indian companies including automakers, such as Tata motors and Mahindra & Mahindra as well as Tata Tea have entered into international markets. It is expected that the Indian firms will produce more of multinationals in future as the Chinese, Russians, Koreans and other South-east Asian countries are doing.

In regard to the strength of the Indian multinational companies, it needs to be mentioned that the Indian companies like Infosys and Wipro recently expressed their plan to invest billions of dollars in Karnataka alone. Infosys, for example, announced its plan to set up a new facility in Bangalore, which could provide employment opportunities to nearly 20,000 engineers.

Estimates are that India will have more multinationals than China because China is not opening up so much to foreign companies. More than 2,200 Indian companies are expected to open operations overseas over the next 15 years overtaking China.

India has emerged as world’s number one country in terms of export of manpower. Also, it has become world’s largest food producing country. The real problem in the country is not the lack of food grains. It is rather the distribution of food grains that is the problem. Therefore, when India’s population crossed 1 billion marks in 2000, the warehouses were bulging with grain. Because of some of these activities, the magnitude of poverty has reduced in India.

During his recent visit to India, the American President Barak Obama mentioned that the sheer size and pace of India’s progress in just two decades was one of the most stunning achievements in human history. The way Indian economy has fared well at the global level is a matter of pride for many of the developing countries in the world that aspire to take off.

India’s Support to Nepal

As it is well known, Nepal and India are closely linked together by history, geography, culture, religious, commercial and economic ties. Mutual trust and friendship and also the desire for peace and stability are the cornerstone in the relations between the two countries. Ever since the formation of the two states, there is open border with free movement of people from one country to the other. Such special relations at the people to people level have encouraged marriage relations, and also relations in health, cultural, education, religious and economic affairs.

Ever since India achieved independence, it started extending extensive economic assistance to Nepal. Special privileges in trade and commerce have been granted to Nepal. The transit facilities as enjoyed by Nepal are something unprecedented as no other land locked country enjoys so much transit facility.

Indian assistance programme is launched in almost all the seventy-five districts of Nepal. More than 400 projects are under implementation with total outlay of NRs. 60 billion. Indian support to Nepal in capacity building is significant. Under this programme, 9,000 Nepalese have been pursuing higher education. The concessional line of credit as made available by India to Nepal worth US$ 350 million could be used for the development of infrastructural facilities in Nepal.

Significantly, India’s share in total direct investment in Nepal accounts for 45%. Some of the major joint ventures with India in Nepal include Surya Nepal – a joint venture with ITC India, Dabur Nepal, Nepal Lever and United Telecom Nepal, Everest Bank, SBI Bank, LIC Nepal, Asian Paints, GMR India, IL&FS and Manipal.

Considering the growing demand for power both in Nepal and in India, Satluj Hydro Electric Project of India has made investment for the construction of 402 MW in Arun III. On the other hand, GMR, an Indian infrastructure developer has made investment for the construction of 300 MW Upper Karnali at Tunibagar in Dailekh district. Also, Himtal Hydropower Company Pvt Ltd (in which GMR has 80 per cent share and the Nepalese have 20% share) has made investment for the construction of 600 MW Upper Marshyangdi-II hydropower. IL&FS has 15 per cent share in 750 MW West Seti project. Besides, the Indian government has also offered to construct 240 MW Naumure project under its grant assistance.

Indian investment has given Nepal access to new technologies and management skills. It also generated substantial revenues to the national exchequer. Besides, it promoted import substitution and exports of Nepalese goods to the Indian market. More significantly, about 30,000 Nepalese have been provided direct employment and twice this number have got indirect employment in various industries run through Indian investment.

Bilateral trade between Nepal and India doubled to US $ 4 billion during last five years. Credit for the surge in trade between the two countries largely goes to the treaty of trade signed between Nepal and India in 1996.[7] There is provision of preferential treatment for the Nepalese products in India at par with the Indian producers.

Impact on the Nepalese Economy

Despite India’s support to Nepal in its drive for economic growth and modernization, Nepal ranks in the bottom 10 per cent of the countries in the world. The per capita income in the country is as low as $ 470. About 55 per cent of the people fall below the international poverty measures of $ 1.25 per day. There is a huge capital flight from the country. Liquidity crunch among the banking and financial institutions have shattered the investment climate both in the short and long-term perspective. The annual rate of economic growth of the country is as low as 3.5 per cent when India is having the growth rate of nearly 9 per cent. Virtually, Nepal is island of poverty in South Asia.

In such moments of economic breakdown, there has been a growing Indian concern not only about the health of the Indian investment in Nepal but also about the investment climate in the country. Today, the Indian investors in general feel quite insecure to make an investment in Nepal as the business environment in the country has been badly shattered mostly due to the frequent bandhs, prevailing culture of strikes, labour disputes, forced donations, poor law and order situation and above all the continuing political instability in the country.

There have been reports of diversion of third country goods from Nepal to India during the transit. Perhaps, affixation of an additional one time lock by Indian customs could resolve this problem, but it is not getting materialized. Besides, there is growing practice of copying the popular Indian brands and trademarks by certain unscrupulous Nepalese manufacturers. Such activity has eroded the reputation of the Indian brand. Besides, this created doubts in the minds of the Indian investors about the nature of fragile legal framework of Nepal in regard to the protection of intellectual property. This prevented the Nepalese consumers from getting quality goods from India. Some of the Indian business community also grudge that there is erosion in the margin of preference by the Nepalese government on import of goods from India.

There are reports that many of the Indian investors have already started deserting the country as they feel that they have had to face certain tariff and non-tariff barriers and that they were being discriminated in the country in different ways. Some Indian companies who have made investment in Nepal feel that they were trapped as the concerned Nepalese wings hardly fulfilled their obligations made during the time of agreement. Meanwhile, certain forces have mixed up politics with economics and obstructed the implementation of different development projects, including the hydro-power projects undertaken by India in Nepal.

Because of the negative perception of Indian companies, no new Indian investment has made their entry into Nepal since 2003 when Indian companies at the global level have made a commitment to make investment to the tune of US$ 70 billion. All this led to the decline in investment, production and exports of goods resulting into deficit in balance of trade with India and affecting the economic growth of the country as a whole.

A Way Forward

It is amply demonstrated that India is largely integrated with the rest of the world. The country has maintained sustainable economic growth and it is gradually being transformed into modern, vibrant and merit based society. It continues to eliminate poverty and give its people a better level of living. Because of some of these factors, India, in fact, has become a model of economic growth for many countries of the world. By all likelihood, the 21st century is going to be India’s century for which the government, planners, policy makers, farmers, industrialists, businesspersons, academics, civil society leaders and the elite groups have been trying their best to achieve. By all accounts, India has proved that diversity, democracy and development can go together

Unfortunately, however, Nepal could not benefit that much from India’s fast economic growth with market of 1.21 billion population, despite the significant level of privileges made available by India to Nepal. Therefore, more and more engagement is required at business to business (B&B) level to dig out potential opportunities, promote information dissemination, and organize trade fairs, exhibitions and different other business activities. Nepal could, of course, concentrate on investment in areas in which it has comparative advantage over India.

However, for all this an enabling environment will have to be created in the country to restore the confidence of Indian investors. In this regard, it will be worthwhile for Nepal to enter into investment promotion agreement with India. It is essential to make resolution of outstanding investment issues by sticking to obligations made during the time of agreement of the projects. The Government of Nepal also needs to discourage those Nepalese manufacturing firms who indulge in copying of popular Indian brands and trademarks at the cost of Nepalese consumers. And most importantly, it is essential to develop linkages with India in infrastructure sector such as in roads, air, irrigation, education, health, and flood and drought control.

The Nepalese government should come forward with incentive schemes for promoting exports to India through Export Processing Zones (EPZs) with a view to targeting the large market of bordering states of India with 361 million customers.[8] Tariff and non-tariff barriers, if any, in trade between the two countries need to be removed to facilitate the process of economic integration possibly through the mechanism of Free Trade Arrangement (FTA) with provision of common external tariff with India.

[1] Professor Jha is Executive Director of Centre for Economic and Technical Studies in Nepal.

[2] Rajiv Kumar and Pankaj Vashisth, “The Global Economic Crisis: Impact on India and Policy Responses” ADBI Working Paper Series, No. 164, November 2009, p. 5.

[3] Jonathan Holslag. 2010. China and India: Prospects for Peace. New York, Columbia University Press: pp. 66.

[4] Jagdish N. Bhagwati and Charles W. Calomiris (Ed.). 2008. “Introduction” in Sustaining India’s Growth Miracle. New Delhi: Stanza, p. 4.

[5] Arvind Panagariya. 2008. “Transforming India” in Jagdish N. Bhagwati and Charles W. Calomiris (Ed.). in Sustaining India’s Growth Miracle. New Delhi: Stanza, p.14.

[6] Swaminathan S. Anklesaria Aiyar, “India’s Growth Fantasy” in http://www.cato.org/pub_display.php?pub_id=11954.

[7] Hari Bansh Jha, “Trade treaty: A Paradigm shift,” My Republica, November 25, 2009.

[8] Hari Bansh Jha, “Better opportunities lie with India than China,” My Republica, December 13, 2009.