By all accounts, the Indian economy is hotter than chicken vindaloo. The growth rate is steaming along at around 8% and the Bombay Stock Exchange Index has topped 9,000 for the first time in its 130-year history.
We are seeing headlines like "Slumbering giant awakes" and "Indian shoppers drive boom." Even sober-sided politicians are getting a little carried away: when Manmohan Singh became prime minister, he prevailed on old colleague Montek Singh Ahluwalia to return from the IMF in Washington to be deputy-chairman of the Planning Commission. This is the agency advising on the allocation of up to US$32 billion in public funds earmarked for further economic reform. Ahluwalia told a London conference earlier this year that by 2040 India would be the world’s third-largest economy after the US and China – it emerged that he was citing US investment bankers Goldman Sachs for the bold call.
Crystal globe gazing aside, it is now fashionable for commentators to postulate that if the heady growth in China slows down, India will be there to pick up the slack. The argument has some merit. Fixed-asset investment comprises about 45% of China’s GDP growth, as firms persist with infrastructure investments to meet US demands for exports. Meanwhile, the private consumption slice of this figure lingers in the mid-30s, despite government efforts to herd more of its citizens out of savings banks and into shops.
Put simply, China relies much more on the billfolds of American consumers than of those at home. Factories have gone into overdrive, with industrial production hitting a record US$78 billion in October, up 16% on a year ago. Company inventories are beginning to swell as goods pile up in warehouses and on railway sidings.
Up to now manufacturers have been able to avoid severe overcapacity thanks to the insatiable demand feeding exports, but the safety margin is becoming very slim. It will become increasingly tough for China to maintain its current expansion rate – a sharp reversal of the recent cheery outlook on America’s economy or a more determined Congressional assault on the twin vexations of a cheap yuan and a jumbo trade deficit could spell trouble.
By contrast, the bulk of India’s recent growth has been powered by the emergence of consumerism among one of the world’s youngest populations. Three-quarters of India’s 1.1 billion citizens are under 40. By 2015 more than half will be under 20.
PricewaterhouseCoopers calculates retail sales were worth US$270 billion last year with the urban middle class spending big on food, cars, services and tourism in Mumbai, New Delhi and the software capitals of Bangalore and Hyderabad. But it is important to note that seven out of 10 people live in the rural areas and agriculture is missing out on the prosperity.
The Indian consumer is not about to take the world by storm. Even city dwellers have less than half the equivalent spending power of their Chinese counterparts. Nevertheless, in a few years time they should be able to mop up at the margin some of the consumer imports from China deluging the US. Singh, first as finance minister and now from his precarious perch as head of a minority government, has achieved much. Import tariffs have been cut, taxes lowered, foreign investment rules liberalized and the rupee devalued. Thickets of strangulating red tape left over from the days of the Raj are being pruned but the legacy of the English language has prevailed, and India is home to the globe’s second-largest population of English-speakers. Indian universities produce 70,000 computer science graduates a year, and within five years the country will overtake America to have the largest number of English-speaking scientists, engineers and technicians in the world.
The doyen of Asian broker-economists, Dr. Jim Walker of Credit Lyonnais Securities has turned cautious on China. He says India is already a mature private sector economy and that factor, together with increased exposure to international competition, is ensuring a domestic demand dynamic that is more advanced than in China.
However, we have heard the Indian story several times before. Singh faces a delicate task in getting much-needed infrastructure and privatization through the bizarre political system. Sonia Gandhi won the May elections for her Congress party but the coalition government only got there with considerable help from the Communist Party. Ms Gandhi, perhaps wisely, declined to become Prime Minister. The very word "reform" is an affront to the Communist-Marxists and both labor unions and a majority of bureaucrats oppose privatization.
The Indian electricity situation is a shambles. Power brownouts are common in the biggest cities and one company in six keeps its own generators. Almost one-third of India’s villages have no roads to link them with the outside world, while there is also an urgent need to build four-lane superhighways and expand the ports. The steel industry is hamstrung by high costs because local manufacturing is relatively small, most technology is imported, borrowing rates are stiff and the industry is highly regulated. The government opposes exports of iron ore and is not a player in the booming bulk metals market.
China, untroubled by an intransigent parliament, can look forward to many years of good times ahead. Unbelievers might consider the Japanese experience from 1950-1970 when the numbers living in the cities climbed from 38% to 72%. That laid the platform for another 20 years, when Tokyo came close to becoming the capital of the financial world. The numbers are almost a template for the demographics looming in China. The trick will be to learn from history and avoid the subsequent bust.
Malcolm Surry is former Business Editor of the South China Morning Post in Hong Kong.
Where will growth come from?
Excerpted from UBS’ 2006 China Macro Almanac: Asian Economic Perspectives:
The only area where the Mainland looks truly different [from Japan and the other "Asian Tigers"] is in its demographics; the adoption of the "one-child" policy makes China the only major economy to suffer a peaking population and a rapid aging process at such a low level of income. For the next decade, we put structural trend growth at around 8.5% per annum in real terms; however, the declining workforce should slow growth to 7% after 2020.
Three big growth drivers
We expect three main drivers of growth over the next five to ten years: First, urban household expenditure on durable goods; the privatization of the housing market and the opening of mortgage finance have led to 25% annual growth in residential housing demand over the past few years. Similarly, government infrastructure spending on roads and new financing instruments have opened up the urban auto market. Second, rising food prices and agricultural incomes should cause a similar upturn in rural non-durable spending (mostly on basics such as clothing and appliances). And third, as long as global growth remains relatively buoyant, exports should continue to be a major source of growth and employment.
Two key themes
First, a coming agricultural import boom. Over the past half-decade, we have seen three clear trends in the agricultural sector: (i) shrinking farmland acreage, as the housing and manufacturing booms have eroded the already scarce mainland land supply; (ii) a shift out of grain production, towards higher value-added areas such as fruits, vegetables, meat and dairy; and (iii) steadily rising caloric intake in the middle class urban areas. The implications are a continual rise in food prices over the medium term – and a potentially sharp increase in agricultural imports, particularly of feedgrains and other soft upstream inputs. China already imports nearly a quarter of its domestic needs in fuel, mineral and metals categories, but the agricultural import share is less than 2% (Chart 3); over the next 10 years, we could easily see trend volume import growth of 25% to 35% in key agricultural commodities.
Second, the new inflationary China. As noted above, we believe the days of structural deflation are over in China. Higher food prices and rural incomes, together with the demographic shrinking of new workforce entrants, mean rising wage pressures in the medium term; this should push up manufacturing costs and thus trend inflation rates. The end of excess capacity creation in upstream heavy industrial sectors over the next year or two should also raise pricing power and speed this process along. As a result, we expect average CPI inflation of 2% or 3% over the next five years, compared to zero from 1997-2003 as a whole.
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