Why Growth Matters

Why Growth Matters

WHY
GROWTH
MATTERS

How Economic Growth in India
Reduced Poverty and the Lessons for
Other Developing Countries

JAGDISH BHAGWATI
ARVIND PANAGARIYA

A Council on Foreign Relations Book

P
UBLIC
A
FFAIRS

New York

Copyright © 2013 by Jagdish Bhagwati and Arvind Panagariya.

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Book Design by Jeff Williams

Library of Congress Cataloging-in-Publication Data Bhagwati, Jagdish N., 1934–

Why growth matters : how economic growth in India reduced poverty and the lessons for other developing countries / Jagdish Bhagwati, Arvind Panagariya.—First edition.

pages cm

Includes bibliographical references and index.

ISBN 978-1-61039-271-6 (hardcover)—ISBN 978-1-61039-272-3 (e-book) 1. Poverty—India. 2. Poverty—Developing countries. 3. Economic development—India. 4. Economic development—Developing countries. 5. India—Economic policy. 6. Developing countries—Economic policy. I. Panagariya, Arvind. II. Title.

HC440.P6B45 2013
339.4'60954—dc23

2012042283

10 9 8 7 6 5 4 3 2 1

       
Preface

Introduction
    
The Tryst: The Vision and the Reality

PART I
    
DEBUNKING THE MYTHS

  
1
  
Indian Socialism and the Myths of Growth and Poverty

  
2
  
Myths About the Early Development Strategy

  
3
  
Reforms and Their Impact on Growth and Poverty

  
4
  
Reforms and Inequality

  
5
  
Reforms and Their Impact on Health and Education

  
6
  
Yet Other Myths

PART II
  
THE NEW CHALLENGES: TRACK I REFORMS FOR FASTER AND BROADER GROWTH

  
7
  
Track I and Track II Reforms

  
8
  
A Multitude of Labor Laws and Their Reform

  
9
  
Land Acquisition

10
  
Infrastructure

11
  
Higher Education

12
  
Other Track I Reforms

PART III
  
MORE EFFECTIVE AND INCLUSIVE REDISTRIBUTION: TRACK II

13
  
Track II Reforms

14
  
Attacking Poverty by Guaranteeing Employment

15
  
Adult Nutrition and Food Security

16
  
Reforming Health Care

17
  
Elementary Education

India: Past and Future

Acknowledgments

Appendix 1
  
Socialism Under Nehru

Appendix 2
  
Measuring Inequality: The Gini Coefficient

Appendix 3
  
Key Provisions of the Right to Education Act, 2009

Appendix 4
  
Prime Ministers of India

Notes

References

Index

In the 1950s, as developmental economists began to consider which countries would break out of the pack and become role models for other developing nations for their developmental strategies, India and China were regarded as certain bets. These giants would awaken after a long slumber.

India enjoyed an advantage on some dimensions but a handicap on others: India had inherited a splendid civil service, a fiercely independent judiciary, a relatively free press, and above all, politicians who had fought for independence and put social good ahead of personal profit. These attributes, which are now called institutions and define the underlying elements of good governance, were rare among most of the countries that reached independence as the Second World War ended.

The agronomer Rene Dumont, in
A False Start in Africa
, famously denounced the lifestyle of the African rulers who took over from the departing French, comparing it with that of the French court of the Bourbons! Indeed, pretty soon India was the only major postcolonial developing nation left standing as a democracy, even what we call now a “liberal” democracy characterized by the institutions of free elections, a free press, and an independent judiciary. Few development economists would have discounted the favorable implications of India's political “exceptionalism.”

By contrast, China had emerged from the Long March and a fiercely contested civil war, and the liquidation of the kulaks in the process. If the Soviet Union under Stalin was any guide, the prospects for growth were shrouded in political uncertainties. In fact, the Great Famine and the Cultural Revolution were upheavals that underlined the legitimacy
of these doubts about China. Until the 1980s, the Chinese giant therefore did not awaken; it continued snoring.

Yet, developmental economists in the 1950s favored the prospects of China over those of India. Why? The reason lay in the fact that development economists typically deploy simple models to arrive at judgments about development outcomes. At the time, the favorite developmental model shared widely by the economists depicted growth as dependent on two parameters: how much you saved (and invested) and how much you got out of that investment. As it happened, it was customary to assume that the savings rate could vary, and was subject to policy manipulation—typically, the government could use taxes to raise the domestic savings rate—but that the productivity of that investment, which was reflected in the “capital-to-output” ratio, was not significantly variable and was treated as a “technological datum.”

So, with the productivity factor neutralized, it was inferred that India would lose out to China simply because India, being a democracy, could not raise its savings rate through taxation as fast and as much as China, which was authoritarian and could extract savings—or what Marxists call a surplus—through draconian means from the population.
¹
India, left on its own, would lose the developmental race to China.

But the fact that India was democratic meant that in the 1950s the West was rooting for its success against the communist behemoth, China.
²
Its inability to match China's savings effort thus had to be matched by the West's making up through foreign aid India's handicap in raising savings and hence investment.

So, India became a recipient of substantial foreign aid and should have grown rapidly, in consequence. Yet, it did not. The Indian giant also continued to slumber and snore.

Both India and China were unable to grow very much during nearly three decades: China because of ruinous politics with disastrous economic policies prompted by Marxist doctrines that required autarky and regimentation of the economy, and India because of a disastrous economic policy framework that undermined the productivity of its investment efforts.
³

India's growth rate turned out to be abysmal because the underlying assumption, that the productivity of the increased investment was a technical affair, turned out to be false. Domestic savings efforts were indeed being made,
⁴
but the resulting growth fell far below expectation. Investment rose predominantly in the public sector, where productivity was low and stagnant. A complex regulatory regime tied otherwise dynamic entrepreneurs of India into knots. The result was low and stagnant growth rates until reforms began first grudgingly in the 1980s and then in earnest in 1991 (as seen in
Figure 1
).

The Indian situation was reminiscent of the 1970s and 1980s Soviet Union, which exhibited high and increasing savings and investment rates but whose growth rate kept falling (see
Figure 2
): there was blood, sweat, and tears, but no results. The cause of this disconnect was that the Soviet system was not putting the investments to productive use. This in turn had to do with the heavy hand of the central planning mechanism and the absence of incentives to produce and innovate that followed from the overwhelming dominance of public ownership of the “means of production.”