China and India seem to be the hot topics
in the world economy today. In the international press, there is almost
an obsession with these two economies, and how their current growth presages
the coming "Asian century". It is not just that they are both
countries with large populations covering substantial and diverse geographical
areas, and therefore with huge potential economic size. Most of all, they
are cited as the current "success stories": two economies in
the developing world that have apparently benefited from globalisation,
with relatively high and stable rates of growth for more than two decades
and substantial diversification.
In India too, the obsession with China is now well-developed, mostly in
the form of a longing eastern gaze. The rapid economic growth and structural
transformation in China are not just eyed with envy; they are typically
invoked to justify the economic policy of choice. Thus there are those
who argue that the recent Chinese economic success is because of liberalisation
and openness to foreign trade and investment. By contrast, others point
out that the early Communist history of land reforms and egalitarian policies
formed the essential basis upon which all subsequent change has depended.
In the outside literature, these economies are often treated as broadly
similar in terms of growth potential and other features, and this even
infects some Indian analyses. But in fact there are crucial differences
between the two economies which render such similarities very superficial,
and which mean that individual policies cannot be taken out of context
of one country and simply applied in the other to the same effect. There
are at least ten significant differences.
The first relates to the nature of the economy itself, the institutional
conditions within which policies are formulated and implemented. India
could be described until recently as a traditional "mixed economy"
with a large private sector, so it was and remains a capitalist market
economy with the associated tendency to involuntary unemployment. So the
need for macroeconomic policies to stimulate demand, as common in capitalist
economies, operated in addition to the usual “developmental” role of the
state.
China, by contrast, has been for the most part a command economy, which
until recently had a very small private sector, and only recognised the
legal possibility of home-grown capitalists a few years ago. Throughout
the period of "liberalisation", that is the 1990s and later,
there have remained important forms of state control over macroeconomic
processes that have differed from more conventional capitalist macroeconomic
policy. Even in 2004, public enterprises accounted for more than half
of GDP and more than two-fifths of exports.
The control over the domestic economic in China has been most significant
in terms of the financial sector, which describes the second big difference
between the two economies. In India, the financial sector was typical
of the "mixed economy" and even bank nationalisation did not
lead to comprehensive government control over the financial system; in
any case, financial liberalisation over the 1990s has involved a progressive
deregulation and further loss of control over financial allocations by
the state in India.
But the financial system in China still remains heavily under the control
of the state, despite recent liberalisation. Four major public sector
banks handle the bulk of the transactions in the economy, and the Chinese
authorities have essentially used control over the consequent financial
flows to regulate the volume of credit (and therefore mange the economic
cycle) as well as to direct credit to priority sectors. Off-budget official
finance (called "fund-raising" by firms) has accounted for more
than half of capital formation in China even in recent years, and that
together with direct budgetary appropriations have determined nearly two
thirds of the level of aggregate investment. This means that there has
been less need for more conventional fiscal and monetary policies, although
the Chinese economy is now in the process of transition to the more standard
pattern.
The third difference is quite apparent to all – the dramatically high
rate of GDP growth in China compared to the more moderate expansion in
India. The Chinese economy has grown at an average annual rate of 9.8
per cent for two and a half decades, while India’s economy has grown at
around 5-6 per cent per year over the same period. Chinese growth has
been relatively volatile around this trend, reflecting stop-go cycles
of state response to inflation through aggregate credit management.
This higher growth in China essentially occurs because of the fourth major
difference, the much higher rate of investment in China. The investment
rate in China (investment as a share of GDP) has fluctuated between 35
and 44 per cent over the past 25 years, compared to 20 to 26 per cent
in India. In fact, the aggregate ICORs (incremental capital-output ratios)
have been around the same in both economies. Within this, there is the
critical role of infrastructure investment, which has averaged at 19 of
GDP in China compared to 2 per cent in India over the 1990s.
It is sometimes argued that China can afford to have such a high investment
rate because it has attracted so much foreign direct investment (FDI),
and is the second largest recipient of FDI in the world at present. But
FDI has accounted for only 3-5 per cent of GDP in China since 1990, and
at its peak was still only 8 per cent. In recent times, the inflow of
capital has not added to the domestic investment rate at all, but to the
holding of international reserves, which have increased by $100 billion
per year.
In terms of economic diversification and structural change, China has
followed what could be described as the classic industrialisation pattern,
moving from primary to manufacturing activities in the past 25 years.
The manufacturing sector has doubled its share of workforce and tripled
its share of output, which, given the size of the Chinese economy and
population, has increasingly made China "the workshop of the world".
In India, by contrast, the move has been mainly from agriculture to services
in the share of output, with no substantial increase in manufacturing,
and the structure of employment has been stubbornly resistant to change.
The recent expansion of some services employment in India has been at
both high and low value added ends of the services sub-sectors, reflecting
both some dynamism and some increase in "refuge" low productivity
employment.
The sixth major difference relate to trade policy and trade patterns.
Chinese export growth has been much more rapid, involving aggressive increases
on world market shares. This export growth has been based on relocative
capital which has been attracted not only by cheap labour but also by
excellent and heavily subsidised infrastructure resulting from the high
rate of infrastructure investment. In addition, since the Chinese state
has also been keen on provision of basic goods in terms of housing, food
and cheap transport facilities, this has played an important role in reducing
labour costs for employers. In India, the cheap labour has been because
of low absolute wages rather than public provision and underwriting of
labour costs, and infrastructure development has been minimal. So it is
not surprising that it has not really been an attractive location for
export-oriented investment, its rate of export growth has been much lower,
and exports have not become an engine of growth.
There is another issue relating to trade policy. In China, the rapid export
growth generated employment which was a net addition to domestic employment,
since until 2002 China had undertaken much less trade liberalisation than
most other developing countries. This is why manufacturing employment
grew so rapidly in China, because it was not counterbalanced by any loss
of employment through the effects of displacement of domestic industry
because of import competition. This is unlike the case in India, where
increases in export employment were outweighed by employment losses especially
in small enterprises because of import competition.
The seventh difference is in terms of poverty reduction. China has been
much more successful in this regard – official data suggest that 4 per
cent of the population now lives under the poverty line, unofficial estimates
suggest around 12 per cent. The poverty ratio in India is much higher,
between 26 per cent and 34 per cent according to the 1999-2000 NSS data.
The Chinese success in this regard can be related to several features:
to begin with, the basic issues in terms of asset redistribution and basic
needs provision were the focus of the Communist state until the late 1970s.
This also assisted in economic growth: because of the more egalitarian
system, there was a larger mass market for consumption goods, which has
allowed producers to take advantage of economies of scale.
Subsequently, poverty reduction in China has been concentrated into two
main phases: 1979-82 and 1994-96, which were both phases of higher crop
prices and rising agricultural incomes. In the first phase, institutional
change in the form of allowing peasant production in diversified crops
played a great role in increasing productivity and allowing peasants to
benefit from rising prices. Also, since Chinese economic growth has been
more employment generating, this has also operated to reduce poverty.
Until recently, there was much more focus on "human development"
in China, and public provision of health and education. This included
universal education until Class X, as well as better public services to
ensure nutrition, health and sanitation. However, in recent years, this
emphasis has been much reduced and there is greater privatisation of such
services in China, which has also led to worsening conditions especially
in particular areas. In India, the public provision of all of these has
been extremely inadequate throughout this period and has deteriorated
in per capita terms since the early 1990s.
In terms of inequality, in both economies, the recent pattern of growth
has been inequalising. In China, the spatial inequalities – across regions
– have been the sharpest. In India, vertical inequalities and the rural-urban
divide have become much more marked. In China recently, as a response
to this, there have been some top-down measures to reduce inequality,
for example through changes in tax rates, greater public investment in
western and interior regions, and improved social security benefits. In
India, it is political change that has forced greater attention to redressing
inequalities, though the process is still very incipient.
This brings into focus the tenth big difference: that of political systems.
It can be argued that the political democracy in India, which now appears
deeply entrenched even though it has not translated into universal economic
enfranchisement, has played some role in creating more confused but less
extreme patterns of economic growth. Certainly, historic and potentially
transformatory economic legislation such as the Employment Guarantee Act
could only come about because of impact of political changes. Perhaps
the ability of the political system to force at least some change of direction
in economic policies in India can serve as an important example to the
rest of the world, and one of which Indians can justly be proud.
However, in terms of the future prospects, surprisingly both economies
end up with very similar issues despite these major differences. There
are clear questions of sustainability of the current pattern of economic
expansion in China, based on a high export-high accumulation model which
requires constantly increasing shares of world markets and very high investment
rates. Similarly, the hope in some policy quarters in India that IT-enabled
services can become the engine of growth is one which raises questions
of sustainability.
The most important problems in the two economies are also rather similar
– the agrarian crisis and the need to generate more employment. In both
economies, the social sectors have been neglected recently by public intervention.
In both countries, the policy message appears to be the same, that the
most basic issues are those that require to be addressed first, and if
so the other areas of expansion will probably look after themselves.