Econ455: Economic Development in China Lecture 20: March 28 India and China

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Econ455 Economic Development in ChinaLecture
20 March 28India and China
Sandra Poncet Lorch Hall, room 207 Email
sponcet_at_umich.edu Office Hours Mondays
1630-1830 Wednesdays 1030-12
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Introduction
China and India grabbing the worlds attention
The dragon versus the Tiger
Global growth engines Nominal dollar GDP for
China and India has grown at an average of 8.3
and 7.0, respectively, over the past five years,
compared with 4 for the World Ex China and
India..
China has been far ahead
But India is picking up speed
Predicting who will win is impossible
especially as transition makes the use of past
pattern unreliable
The lecture intends to cover the similarities
and differences the opportunities and
challenges prospects for rivalry or
cooperation?
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China-India geography
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Lecture Outline
Introduction I A tale of two models A-Similaritie
s B-Differences II Indias recent acceleration
strength and weakness A-Weaknesses B-Strengths II
I Rivalry or cooperation A-Recent
recognition B-Rivalry as political
power C-Potential for economic and political
cooperation? Conclusion
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I-A tale of two models A-Similarities
Population size over 1 billion
Traditionally poor agrarian economies
Socialism/communism heritage Planning. India is
governed by a coalition of parties with diverse
economic perspectives the gvt depends on the
support of allies (prominently the Communist
parties)
Autarky and mistrust of foreign influence India
gradually opens since 1991
Both countries have adopted major internal and
external structural reforms to accelerate growth.
Reaping the reward of reforms 6 average growth
in India (8 in China)
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I-A tale of two models A-Similarities
Embracing external sector-led growth
But limited capital account convertibility
(capital controls)
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I-A tale of two models A-Similarities
Simple projections China first and India fourth
by 2050
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A-Similarities
Attractiveness for investors
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A-Similarities
Accumulation of foreign reserves
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B-Differences
But China has left India far behind
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B-Differences
China is much more opened to trade (membership in
the WTO in 2001 against 1995 for India)
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B-Differences
India is running a trade deficit that has to be
covered by capital account surplus
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B-Differences
China attracts much more capital flows and mainly
under the form of FDI (long term and productive
use) (55 against 5). India is more opened to
portfolio investment (more developed stock
exchange and capital markets) less volatile?
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B-Differences
FDI is low in India and is mainly in capital
intensive service-sector exports.
So less favorable to employment creation and job
opportunities for unskilled workers
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B-Differences
China Has Fired All Cylinders for Accelerating
Growth
Services is main driver in India after
liberalization of the financial services and
opening up of telecoms.
Development of services rather than physical
production also reflects administrative and
infrastructures constraints.
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B-Differences
Different specialization so far no direct
competitors
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B-Differences
Services is the Primary Driver for India
Limit Less intensive in labor (labor intensive
segments such as distribution/catering are
sheltered from outside competition) if HT
services capital and skill intensive so not
likely to absorb illiterate rural population
Can India skip industrialization to achieve
development?
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B-Differences
Difference in governmental organization devt
strategy
-Autocratic regime without election political
and administrative monopoly of the communist
party 80 millions of CP member -egalitarian
principles but widening gaps - user-friendly
business climate and FDI welcoming -good
infrastructures -all industrial
-the biggest world democracy -fatality of
inequality -heavy regulation of the state
Licence Raj elaborate licenses, regulations and
the accompanying red tape that were required to
set up business in India. Dismantling only in
1991. Still burden deters domestic and foreign
entrepreneurs. -obsolete infrastructures -buoya
nt services sector
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B-Differences
India more favorable demography?
Indias population of working age will continue
to rise for several decades, whereas in China it
is expected to fall.  
This should foster investment and demand
demographic dividend Moreover shift from
agriculture to more productive jobs in industry
and services, automatically boosts GDP growth
only if newcomers find jobs. If not demographic
disaster. Some 60 of the demographic bulge will
come in five poor and badly governed states.
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Dragons may fly, but tigers can move fast when
they want to. And India wants to move fast.
II-Indias recent acceleration
1951-81 30 years growth averaged 3.6 Hindu
rate of growth 1981-91 Decade averaged 5.8
1991-2006 15 years, reform period averaged
6.0 2003/04-2005/06 3 years average 8.1
2006/07 likely to be about 8
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II-Indias recent acceleration
Is the economy overheating? (India on Fire, The
Economist, Feb 3rd 2007)
Typical evidence of overheating is -rapid
increase in the flow of credit (especially
personal credit) -inflation rise in assets
price -widening of the current account deficit
(as more imports)
Note the typical boom and bust cycle in China is
characterized by -increase in investment (in
productive facility, stock market and real
estate) financed on credit, increase in
supply -when people realize that profits are not
as high as expected and NPL build in rush to
sell so drop in price deflation follows BOOM
and BUST
In India the main constraint comes from supply
demand rises too fast!!
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II-Indias recent acceleration
A-Weaknesses
Indias Supply is constrained by many bottlenecks
-inadequate infrastructure -dreadful public
services -skill shortages -rigid labor laws
But improving infrastructure and education not
only takes time, it also requires money, and
India's fiscal finances are far from healthy.
This in part explains the dreadful quality of
public services (health, education)
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II-Indias recent acceleration
A-Weaknesses
Poverty is much more striking in India
-landlessness -outcasts
Poor in India are left behind, less integrated to
the rest of the society as public services do not
manage to revert inequity in terms of
opportunities
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Poverty declines faster in China
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II-Indias recent acceleration
A-Weaknesses
However inequality is greater in China
And increasing faster in China
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However inequality is greater in China
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II-Indias recent acceleration
A-Weaknesses
The biggest obstacle to sustained growth is
Indias infrastructure
China spends 8 times more
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II-Indias recent acceleration
A-Weaknesses
Higher costs and more shortages in India World
Bank estimates that 8 of the manufacturing sales
are sold from power cuts
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II-Indias recent acceleration
A-Weaknesses
Private investors, especially foreign ones, are
discouraged by regulations and bureaucratic
overkill
India's labor laws, which are among the most
restrictive in the world firms employing more
than 100 people cannot fire workers without
government permission.
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II-Indias recent acceleration
A-Weaknesses
Indirect Taxes are high and reducing Indias
price competitiveness state governments oppose
simplification and uniformization
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II-Indias recent acceleration
B-Strengths
Indias financial system is stronger than the
Chinese one.
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B-Strengths
India has a greater pool of high skilled labor
Moreover the English language is a great asset
India is ahead in terms of IT and pharmaceuticals
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III Rivalry or cooperation
A-Recent reconciliation move
Long lasting Rational for dispute
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Ties between India and China, the two most
populous nations, were dogged by mutual suspicion
for almost three decades after a border war in
1962, until surging trade and economic ties
pushed political disputes into the
backseat.2006 Nathu La is the third border
trading point opened by India and China but is
the most important because it controlled almost
80 percent of their trade before it closed in
1962.India-China trade has soared, to 18.7
billion in 2005 (Marginal compared to China trade
of 1200 billion, India trade of 200 billion)
A-Recent reconciliation move
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Indias great goal is to win status in the
worlds eyes as a Great Power. In practical
terms, that means being granted permanent
membership in the United Nations Security
Council.
B-Rivalry as political power
However, Chinauninterested in having another
global power in its backyard- recently blocked
(with the US) an attempt to grant indias wish in
2005.
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C-Potential for economic and political
cooperation?
Emerging potential from economic complementary
features

• For India Chinas huge and growing markets as
  commercial opportunities Indian enterprises seek
  to enter

• For China Lower cost of IT professionals and
  engineers in India attracts investment from
  Chinese manufacturers (Huawei telecom equipment
  maker to develop software)

Emerging potential from economic complementary
features
China and India should cooperate in resisting
western accusations on their exchange rate
manipulation, on dumping
China and India should cooperate in the major
international institutions to protect the
interests of the labor abundant developing
countries and developing countries in general
(WTO social clause)
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C-Potential for economic and political
cooperation?
However likely that competition will increase
between them

• India is at the beginning of its opening and
  catching up process. Growth is led by the service
  sector but India cannot skip the
  industrialization phase. Will India be able to
  repeat Chinas manufacturing success (largely
  based on FDI)?
• China recent growth, driven by export-oriented
  industry, has involved high costs energy
  intensity, pollution, dependence on world
  markets. China has to rebalance economic growth
  and develop the service sector.
• India and China may become competitors.

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Conclusion
Increase in direct competition is very likely
Greater Focus on Manufacturing Is Inevitable for
India -employment elasticity within the
industrial sector is not much lower than that for
services - more productive employment
opportunities for unskilled -global trade
opportunity is significantly higher in
manufacturing
However industrialization for India is challenging
Need to improve -infrastructures transport,
electricity -liberalize regulations (labor)
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However sustainable industrialization and upgrade
in services for China is challenging
Potential barriers for China include -qualificat
ion and intellectual stimulation to
innovate -new type of entrepreneurs -English
skills -supportive financial sector -incentives
and IP protections institutional framework
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Lessons for India and China (Morgan Stanley)
Conclusion

• Chine A Need to Strengthen the Institutional
  Framework
• Need to
• 1 Strengthen Institutional Framework
• 2 Ensure Environment to Encourage Private
  Entrepreneurs
• 3 Increase Focus on Tertiary Education
• 4 Implement Financial Sector Reforms

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Lessons for India and China (Morgan Stanley)
Conclusion

• India Niche in Services Sector Is Not Enough
• Need to
• 1 Develop Human Capital
• 2 Augment Savings Rate Through Fiscal Reforms
• 3 Increase in Capital Accumulation Through FDI
  and
• Privatization
• 4 Kick-start Investments in Infrastructure
• 5 Reform Tax Structure
• 6 Improve Labor Flexibility
• 7 Decentralize