April 5, 2013

Why Growth Matters: How Economic Growth in India Reduced Poverty and the Lessons for Other Developing Countries will be released by PublicAffairs on April 9. The book, Bhagwati says, “rejects the obsession with the top 1 percent that preoccupied the Occupy Wall Street movement and returns our ethical objective to concern for the poor, those at the bottom who are below the poverty line.”

Jagdish Bhagwati biography›
Arvind Panagariya biography›

Book reviewWall Street Journal, April 15, 2013
Book reviewEconomist, April 20, 2013

The authors, both of whom are faculty members, responded to questions from Neha Tara Mehta of SIPA News.

Your book argues that market reforms are essential for India's continued economic growth. Can you explain the central argument behind this?

For three to four decades following independence, India pursued policies of tight government control on the economy through what has come to be known as the license-permit raj and extremely high levels of protection against imports. That policy framework scuttled entrepreneurship and cut India from the benefits of product and process innovation in the outside world. The result was average per-capita income growth of just 1.5 percent per year.

Since India had started extremely poor, three and a half decades later in 1980, it was still very poor with very little scope for redistribution. There were simply too many in need of receiving income transfers and too few from whom incomes could be transferred.

It was finally the end to the license-permit raj and opening up of the economy, first haltingly and half-heartedly during the 1980s and then more systematically and decisively beginning in 1991 that the growth rate shifted up significantly. In the last two decades, India has grown on average 5.5 percent in per-capita terms, which has finally allowed ever-rising numbers of Indians to be pulled into gainful employment and out of poverty. Higher incomes have also placed larger volumes of revenues in the hands of the government to finance social programs thus permitting a double-barreled assault on poverty.

But labor and land markets still remain highly distorted in India and further pro-market reforms in these areas are essential to make growth more employment intensive. Doors need to be opened wider to the private sector in higher education as well to permit better access for the massive population of the young. Public sector alone still lacks enough resources to expand higher education fast enough to accommodate the burgeoning young population of India.

What can India's economic successes and failures over the years teach other developing countries? Does India also have lessons for the developed world?

India has had a system of parliamentary democracy throughout its post-independence era. Within this system, it has experimented with a variety of economic policies: first autarkic trade policies, strict controls on private activity, and massive participation by public sector in production and distribution activities during the first three to four decades; then pro-market and outward-oriented policies of the 1990s and beyond.

India’s experience shows that while effective government participation in social sectors and infrastructure buildup is important, reliance on outward-oriented trade policies and private entrepreneurs for production activity produces perceptibly superior outcomes. Indian experience also shows that for countries that start out poor, there is no substitute for rapid growth as the instrument to eradicate poverty. Without wealth creation, the scope for redistribution to combat poverty is too limited to make a dent in poverty.

The key message of the book that growth is central to improving the wellbeing of people applies to the developed countries as well. Today, struggling European economies would come out of the crisis faster if they could produce even modest growth. Here in the United States too, we see that raising taxes to boost government revenues turns out to be politically a hard sell. The beauty of growth is that it allows revenues to rise without having to raise the tax rates. It also helps cut the unemployment rate by opening up new jobs.

Opponents claim that reforms in India have increased corruption and inequality, and even led farmers to commit suicide. How do you respond to these arguments?

Regarding corruption, past reforms helped eliminate it on many fronts. Huge bribes given to obtain investment and import licenses are gone. Also gone are the bribes for a phone connection and dial tone. Ditto for obtaining scooter and car and train and air tickets. But since the reforms have raised incomes and returns to many resources, corruption in land deals, mining and even wireless spectrum (also a resource) has jumped. Telecom reforms led to an expansion of phones from just five million in 1991 to 300 million by 2008. That made the spectrum worth billions of dollars and hence scope for making large sums for a minister willing to apply his own rules of its allocation. The solution to corruption is more, not less, reforms. India’s government procurement rules need to be made more transparent.

Evidence on inequality also turns out to be less than compelling. It has certainly not risen monotonically with income growth. It rose between 1988 and 2000 but fell between 2000 and 2005 with a small net increase. Besides, remember that in a poor country, it is poverty removal that should get priority. As a dramatic example, Kerala is the most unequal state among the large Indian states but it has the lowest poverty. At the other extreme, Bihar and Uttar Pradesh have the most equal income distributions but the highest rates of poverty. Unsurprisingly, migrants go from more equal Bihar to less equal Kerala and not the other way around.

Lastly, proponents have provided no evidence at all for their claims about suicides by farmers. For reforms to be the cause of suicides, we must first establish that farmer suicides accelerated after the reforms. But we have no data on farm suicides prior to the reforms to establish this preliminary fact. Moreover, data presented by the proponents of this view themselves show that the suicide rate per million people is much lower for farmers than non-farmers. The introduction of BT-cotton seeds is alleged to have accelerated suicides but we show that here too evidence fails to support the claim.

What strategies do you propose going forward?

We argue for two types of reforms. What we call Track 1 reforms are needed to accelerate growth while making it yet more inclusive. These reforms are most prominently required in areas of labor and land markets, infrastructure and higher education.

For example, due to draconian labor laws, entrepreneurs in India go for the most capital- and skill-intensive industries and technologies. This leaves India’s comparative advantage in the labor-intensive manufacturing hugely underexploited. Reforms in this area will help accelerate growth while also creating vast numbers of well-paid jobs thereby cutting poverty yet further.

Track 2 reforms aim to make what we call redistribution programs more effective. Under the current regime, much of redistribution involves government delivery and in-kind transfers. For example, public distribution of food grains and the rural employment guarantee scheme involve vast government machinery to transfer purchasing power from the central government down to the beneficiary in remote villages. In turn, these massive distribution chains are subject to vast leakages due to both corruption and inefficient management.

Replacing them with cash transfers will plug most of the leakages and also empower the beneficiary. Rather than being at the mercy of the shop owner or job provider, the beneficiary will decide how she wants to spend her cash.

You project that India's growth with be slower but surer than China's. What is India's comparative advantage?

We argue that India has a vibrant democracy that has now been the bedrock of the decision-making process for over six decades. With diverse interests, a democratic system naturally slows down the decision-making and policy reform. At the same time, it ensures that the reforms are backed by people and will therefore stick.

In contrast, the authoritarian regime in China allows it to take decisions more swiftly but risks of upheaval in the long run are much greater. As we say in the book, PC (the personal computer and the ability to access information and communicate with others that comes with it) and CP (Communist Party, which must curb the access to information and communication to remain in control) are incompatible in the long run. So India has better long-run prospects.