Indian economy still lags China

The impression that India could do anything China could do, may not be entirely true. (Aijaz Rahi / AP)

John Chambers, the head of Cisco, was a salesman before he was a technologist. So when he found himself in front of a thousand of India’s top software executives giving the keynote speech at the Nasscom annual summit earlier this month, he knew exactly what to tell them to guarantee a good reception.

“I believe that there’s a high probability that you will have the best GDP growth of any major economy next year,” he said boldly.

He could not have better judged the mood of Indian executives. Only days before, Satish Jha, the former chief economist of the Asian Development Bank and a prominent member of prime minister Manmohan Singh’s Economic Advisory Council, began pushing the line that India could take the lead.

“If our public policy continues in the way it is, we are going to head off China,” he said. “I believe it and my prime minister believes it.”

Dr Jha’s optimism is based on the domestic drivers behind India’s economy. China’s 20-year economic miracle has, on the other hand, been built on becoming the workshop of the world. Thirty-five per cent of its GDP relies on the troubled bank balances of consumers in places such as the US and Europe.

But for Robert Prior-Wandesford, the India economist at HSBC, this is just the latest version of the economic triumphalism that reigned during India’s 2007 stock market bubble.

“You got the impression a year ago that anything China can do, India can do,” he says. “That was very much the mentality in India. I was practically thrown out of meetings for daring to mention that there could be some structural constraints.”
Mr Prior-Wandesford was something of an India bear back in 2007. He now ranks as one of the most optimistic forecasters for India. He expects the country to register about 5.9 per cent growth this calendar year.

But even he expects China to grow almost 2 percentage points faster, with 7.8 per cent growth. Perhaps this is why Mr Chambers made sure to qualify his bold prediction. “I may be in the minority on that,” he added, with a smile.

The consensus of economists surveyed by London’s Consensus Economics is for China to grow 7 per cent, and for India to grow just 5.4 per cent. More bearish forecasts see India’s growth slowing to as low as 4.3 per cent.

“They’re still quite a long way behind,” says Mr Prior-Wandesford. “That’s largely a function of the higher rate of structural growth in China and the amount of money the Chinese government can throw at the problem.”

China’s 4 trillion yuan (Dh2.14tn) stimulus package, announced in November, beats that of any other Asian country in its breathtaking scale and boldness. It is equivalent to spending about 15 per cent of its GDP over two years.

That makes India’s packages look quite small in comparison. India’s total stimulus, according to Merrill Lynch, is only equivalent to about 1 per cent of GDP.

The finance minister, Pranab Mukherjee, said at the interim budget announcement last month that the fiscal deficit for the year to March 2009 would be about 6 per cent, one of the world’s largest and the worst since India’s 1991 balance of payments crisis. India risks a downgrade in its sovereign debt ratings.

China’s stimulus package, on the other hand, has only moved the nation US$16.21 billion (Dh59.53bn) into deficit last year, less than 0.5 per cent of GDP.

But it is India that really needs to do the kind of infrastructure spending that China has planned. Already, China dazzles with the speed of its transformation, while India shocks with what its groaning cities have to make do with. HSBC argues that even in perfect economic conditions, India’s crumbling infrastructure limits the growth rate to about 7.5 per cent.

“In India, that infrastructure isn’t coming through at anything near the pace it needs to do,” says Mr Prior-Wandesford. “That’s something they have to do, but it’s not easy to do given the fiscal situation.”

India has no leeway to outspend China, but the problem for India is that its consumers cannot begin to match China’s either.

“Chinese consumers have a lot more discretionary spending capability than their counterparts in India,” says Anil Gupta, a professor of business strategy at the University of Maryland and the co-author of Getting India and China Right. “This is because China’s per-capita income is about 2.5 times that of India while, for most everyday items, the cost structure is about the same.”

That difference is already visible. China’s retail spending still sees double-digit growth. During the week-long Lunar New Year holiday, China’s traditional time for high consumer spending, retail sales rose 13.8 per cent year on year, after a 19 per cent year-on-year growth in December.

“In China, the emphasis is shifting right now towards consumption,” says Mr Prior-Wandesford. “Retail spending has been remarkably resilient in China. It hasn’t slipped at all. In fact, it’s picked up. They’re very keen to get the consumption motor going.”
India’s urban consumers, on the other hand, are rapidly curbing their spending, to drastic ends for the country’s retail sector. Subiksha, one of India’s largest supermarket groups, defaulted on its debt this month.

Reliance Retail is seeking a foreign investor and RPG group says it will exit the supermarket industry if its Spencer’s chain is not profitable by the end of this year.
The rosier picture in China has not come without a concerted government effort. It has been handing out “consumer coupons” to lower income groups to encourage greater spending, and begun a primitive sort of social security for the very poorest. It has also unveiled a host of tax incentives for consumers.

The tax breaks on new car purchases have helped push sales up by 4 per cent between December and January, which is partly why China overtook the US to become the world’s largest car market. This is the other side of China’s export reliance. It has left the country with huge savings. China’s savings absorbed 49.9 per cent of what its companies and citizens earned in 2007.

India’s savings rate was 30.7 per cent. But only 11 per cent of that was saved in banks and other financial institutions – the rest is locked up in physical assets, like gold, meaning India’s 11.4 per cent deficit mops up all funds needed for investment.

Indian economic optimists such as Mr Jha also like to cite India’s massive untapped rural spending power. More than 60 per cent of India’s income comes from the countryside and small towns, according to the Rural Marketing Association of India (RMAI).

And 66 per cent of this rural income comes from agriculture, which has been insulated from the economic downturn and has benefited in the past year from a generally good harvest, high food prices and a huge write-off of farmers’ loans.

While sales fall in the cities, RMAI says, rural sales of mobile telephones are still growing 8 per cent to 10 per cent a month. Sales of fast-moving consumer goods grew 22 per cent in India’s cities last year compared to 57 per cent in rural areas.
But here, too, China is moving faster and more decisively, piling subsidies and soft loans on to its 737 million rural citizens – offering them, for example, 13 per cent back on any purchases of electrical goods – boosting their incomes by increasing the floor price for wheat and rice, launching new machinery loan schemes and stockpiling agricultural goods to prop up demand.

Even India’s vaunted lower dependence on exports may not be as simple as it seems. More than half of China’s exports consist of products assembled in China for international companies, using components shipped in from elsewhere, Prof Gupta says. So only about a third of the value of the product is made in China.

“In terms of value-added, exports contribute only about 12 per cent to China’s GDP,” he says. “In contrast, India’s exports consist of almost entirely 100 per cent domestic value added. Thus, even though India’s exports are only 14 per cent of GDP, India and China are about equally dependent on exports.”

Not all economists agree that value-added is the best measure. China’s exports are more weighted towards consumer products, and so more vulnerable in a downturn anyway. And India’s successful IT services sector, while it will not be unaffected by the spending cuts of American and European companies, benefited enormously in the recovery from the dotcom crash earlier this decade, and may do so again this time around.

Mr Chambers told India’s software executives to wait until next year’s Nasscom summit for proof of his hunch, or otherwise. There is a good chance that India’s IT industry will be a much less sombre place by then.
But India outgrowing China? That might be harder to accomplish.