The Dark Side of the Moon: The Downside to India’s Economic Rise

The Rise of India, a new book written by Niranjan Rajadhyaksha, offers insightful perspectives on how India reached its current level of economic prosperity, warts and all. An editorial-page editor with Mint, a new financial daily in India, Rajadhyaksha uses wide-ranging interviews and hard data to back his arguments. In the following excerpt from his book, Rajadhyaksha argues that new solutions are needed to tackle poverty, including moving beyond squabbling over how to best measure it and toward more equitable income spreads. He also describes the ill-effects of globalization and argues that poverty has more to do with unproductive employment than unemployment.

India will have to deal with myriad challenges in the years ahead if it is to ensure that it remains on its current growth trajectory and also if it is to help more and more of its citizens become active participants in the global economy. Five issues stand out: poverty trends, income inequality, energy, employment, and infrastructure.

About 30 minutes away from Mumbai’s swank new business district, the Bandra Kurla Complex, where some of the country’s largest companies are headquartered in towers of glass and steel, is a nondescript little lane called Machchhar Galli. In the local language, it literally means “Mosquito Lane”. Here, a rundown tenement block houses workers from the now-defunct Swadeshi Mills. This textile mill is part of the city’s commercial folklore.

It had been bought by pioneering industrialist Jamsetji Tata in 1886. In its days of glory, cloth produced in Swadeshi Mills was sold in distant markets like China, Korea, and Japan. The looms here stopped whirring after the mid-1980s.

Deepak Patil was one of the thousands of workers who were forced into idleness because of the slow decline of Mumbai’s textile industry over the past 20 years. He worked for Swadeshi Mills and lived in Machchhar Galli. In the middle of 2003, Patil jumped in front of a suburban train and killed himself. The local newspapers reported what he wrote to his wife in the suicide note: “I am dying because my mill shut down.” Other unemployed textile workers just about manage to keep desperation at bay. A few of the more daring boys join criminal gangs.

The Trickle-Down of Economic Prosperity

Elsewhere, the heart of Mumbai’s old textile district is being torn down and rebuilt to house fancy offices and apartments. Squalor and prosperity coexist here in an uneasy truce. And further away into the hinterland, there is the steady trickle of grim stories of villages that have been wrecked by capricious cycles of drought and floods; and of farmers who have embraced death by swallowing pesticide because of mounting debts. There have been cases of farmers selling their kidneys and other vital organs to earn money. The 270 residents of Dorli, a tiny hamlet in the state of Maharashtra, put their entire village on sale in 2006 — land, houses, and livestock. It is desperate measures such as these that have fed concerns that the benefits of economic reforms have not filtered down to the poor.

There is little doubt that the wave of corporate restructuring that lashed the country in the 1990s has been harsh on workers like Patil, as companies focused on cost cutting. It is also indisputable that millions of Indians still live on the edge of deprivation, a fact that is often unseen by investors blinded by India’s roaring GDP growth rates. But the individual stories of distress — though tragic by themselves — do not quite add up to the giant, heartrending tale of rising poverty that circulates today. In fact, the cold data show that Indians are far better off today than they were in 1991, the year when radical economic reforms were initiated.

Economists love to argue that growth is the best antidote for poverty. India and China are the most dramatic test cases for this comforting hypothesis. India’s economy inched ahead between 1950 and 1980. Average incomes rose by a mere 1.2% a year in this period of muddled socialism. Naturally, there was no perceptible decline in poverty during those stagnant decades. But since 1980, when the first tentative reform measures were undertaken, incomes have increased at around 4% a year, leading to huge drops in poverty (despite perhaps some increase in inequality). India’s GDP growth has averaged over 6% between 1991 and 2005. Average incomes have increased by over 4% a year since 1991.

Clearing the Poverty Line

Poverty rates are calculated from the regular surveys conducted by the National Sample Survey (NSS). The 55th round of the survey was conducted in 1999-2000. It showed that the percentage of Indians living below the poverty line fell to 24% (compared to 36% in 1993-1994, the year the previous comprehensive survey was done). This means that 120 million Indians climbed out of poverty in six short years. The data thrown up by the 55th round of the NSS was controversial, however. It sparked off many academic battles because the method used for this survey was different from those used earlier. Hence the data was difficult to compare.

These battles are part of a wider disagreement about the actual trend of poverty in India. Some economists, like Raghbendra Jha of the Australian National University, say that poverty declines in the 1990s have been modest. Poverty declined at a faster rate in the 1980s. Leading the opposite charge is Oxus Research & Investment president Surjit Bhalla. His analysis shows that poverty has fallen far more than the NSS data shows. Bhalla says that only 12% of Indians lived below the poverty line in 1998. Jean Dreze and Angus Deaton’s adjusted estimates show that rural poverty was 26.3% (as against 26.8% in the official NSS data) while urban poverty was far lower, at 12% (24.1% according to the NSS).

These disagreements are part of a global war of numbers. The effect of economic reform and globalization on poverty is a hotly debated issue. The recent Indian debates about the extent of poverty declines are an echo of the larger, global debates. But what is significant is this: not one serious economist says that poverty has actually increased since 1991, in sharp contrast to what the more passionate opponents of globalization charge.

Once again, there are some individual cases where globalization has led to deprivation and suicide. About 800 km away from Mumbai is the cotton-growing region of Vidarbha, perched on the Deccan Plateau. Hundreds of cotton farmers here have killed themselves in recent years. The reasons are complex and varied. Among the reasons is this one: farmers here cannot compete with cheap cotton imported from the United States, whose farmers are lavished with huge subsidies by a government that preaches the virtues of competitive markets to the rest of the world. Their deaths can be linked to imperfect globalization. More generally, though, reform and globalization have led to faster growth and sharp drops in poverty levels.

The Widening Divide: A Cause for Concern?

And what about inequality? When the economist Simon Kuznets studied the relationship between the level of development in a country and income inequality there, he came across a clear trend. Within the group of countries with low levels of income, the relatively better-off poor countries had higher levels of income inequality compared to the rest. On the other hand, the high-income countries showed the very opposite trend. Here, it was the ones that had relatively lower incomes that had higher levels of income inequality. This led to the creation of the famous Kuznets Curve — an inverted U that showed how income equality went up in the early stages of development and then came down as average incomes crossed a certain threshold. In short, initial bursts of growth tend to create greater income inequality.

Kuznets did his work on development and income inequality more than four decades ago, and many economists have subsequently tried to pick holes in his arguments. But Kuznet’s central conclusion does assume great significance in any study of contemporary India. There are fears that a disproportionate part of the benefits of rapid economic growth have gone to a small minority. Income distribution is not a major political issue as yet, but it could become more important in the years ahead. China has already reached a stage when the wide divide between the coastal cities and the rest of the country is seen as a potential risk by both the economists and the party bosses.

There are telltale signs of growing inequality in India. The country today has 23 billionaires, more than China (with eight of them) and not far short of Japan’s 27, according to Forbes magazine. The annual surveys of global wealth by Merrill Lynch and Cap Gemini consistently show how the number of dollar millionaires (70,000 at last count) is growing very rapidly in India. Urban India has already seen successful young kids lavished with lucrative stock options and large bonuses. Companies today offer their top management salaries that were unheard of even five years ago. Spending on all sorts of luxury goods — from Swiss watches to gourmet meals — has soared in recent years.

Ways of Seeing Inequality

The precise way to measure income inequality is through the Gini coefficient. The income data in India is inadequate, and there have been messy debates on the exact trend in income inequality in recent times. There are three economic trends that suggest that there is a widening chasm in Indian incomes, more or less as Kuznets predicted.

First, there are the trends in consumption. Some analyses of consumption data show that the poor are consuming less than before. Abhijit Sen of Jawaharlal Nehru University argues that spending on food (as a percent of total private spending) has fallen by 6% since 1999 and the contribution of items such as fuel, health, education, and transport has increased over the same period because employment has remained flat. Most of the increase in incomes has gone to people who are already employed and who cannot spend beyond a certain point on more food.

Second, consider the trend of an increasing tax-to-GDP ratio since 2003 (after more than a decade of decline), which could also contain hints about growing income inequality. More tax can be collected per unit of GDP if either tax rates are increased or if more citizens are brought within the tax net. In India, tax rates have fallen; so the first explanation is clearly of no use. There is no doubt that more people pay taxes in India today, and that could be a major factor behind the rising tax-to-GDP ratio. But there is a third factor: are tax collections going up because a larger part of India’s national income is going to the rich and to companies?

Finally, the sudden spike in the savings rate too could indicate that income inequality is increasing. India’s savings rate, which hovered around 24% of its GDP through the 1990s, suddenly took wing in the first years of the new century. It is now a few whiskers away from touching the 30% mark. There are many obvious reasons why the savings rate is going up, one reason being that the government has started putting its finances in order and this has obliterated public sector dis-saving. Growing income inequality too could be a factor here. Some Keynesian economists like Nicholas Kaldor have argued that the propensity to save from profits is higher than the propensity to save from wages. The sudden spike in savings in India could be because corporate profits are accounting for a larger portion of India’s GDP than before.

So while there is no conclusive proof, it is likely that income inequality has been inching up in India. Why is inequality growing and is it a major cause for concern? Jha mentions three reasons why inequality could have gone up (particularly in urban areas). One, the relative share of national output going to capital (as against labor) has gone up; two, the rate of labor absorption has declined; and three, the services sector has grown rapidly. Every society has some level of inequality. It is very difficult to judge what a tolerable level of inequality is. It is a moot question whether inequality in India would increase to Latin American levels and create deep rifts within society. But a little rise in inequality is not necessarily a bad thing, because it can act as an incentive for hard work.

What is more crucial at this stage is the trend in absolute levels of poverty. Should India concentrate on faster growth and tolerate marginal increases in inequality? Arvind Panagariya of the University of Maryland has outlined three key reasons why growth is so crucial to poverty reduction. First, when per capita incomes grow at more than 3% a year, the effects of an increase in inequality “are overwhelmed.” Second, faster growth means there is more money to finance various antipoverty schemes. Third, growth improves the ability of the poor to access public services.

At this juncture, India would be better off trying to address the problem of absolute poverty rather than bothering too much about marginal increases in inequality. What matters more is what the poor are actually consuming rather than how much less they are consuming compared to the rich. The real challenge is to ensure that the incomes of the poor do not stagnate or drop; that would be a social disaster.

The Energetic Waste of Energy

The Rashtrapati Bhavan is the official residence of the President of India. It is one of the grandest homes in the world — a colonial palace of 200,000 square feet and 340 rooms. The person living in this majestic building at the beginning of the 21st century is A.P.J. Abdul Kalam, an accomplished scientist and the 11th President of the Indian republic.

Kalam likes to set an example. He got an energy audit done for his official residence and has given a commitment to cut energy consumption at Rashtrapati Bhavan by 23%. He has even planned an 8 MW solar energy plant in his estate to make it self-sufficient in energy. There are no signs that Kalam’s example will be picked up by the rest of the country. India continues to be one of the most profligate users of energy in the world — a dangerous habit for a country that imports about 70% of its petroleum (oil imports are expected to account for 90% of India’s total oil consumption by 2020).

Has the larger point behind the President’s initiative — that energy needs to be used more intelligently — been lost on India’s energy establishment? In the autumn of 2004, oil was once again on the boil. Prices were nudging towards $50 a barrel and the world was headed for what is now seen as the third great oil shock. The two previous ones — in 1973 and 1979 — had brought the global economy to its knees. India too had been hit hard by low growth and high inflation. In 1973, GDP fell by 0.3% and inflation climbed to 20.2%. In 1979, GDP fell by 5.2% and inflation was up at 17.1%. What is more, the short but sharp spike in oil prices during the first Gulf War in 1990 led to capital flight and a balance of payments crisis.

The third oil shock has been different — at least in the initial period. The Indian economy has continued to coast along at an average rate in excess of 7% a year. Inflation has generally been down at around 5%. But that is not the only thing that makes the third oil shock interesting. For the first time in history, oil analysts and economists were fretting about how demand from India (and China, of course) would drive global energy prices in the years ahead. The debate seemed to have changed in a subtle yet significant manner: it was not about how oil prices would affect India but how India would affect oil prices. Ed Yardeni, chief economist of Prudential Financial wrote: “In the long run, I seriously doubt that there is enough oil on planet earth to meet the needs of all of us driving SUVs, not just in America but also in India and China.”

India’s high-octane economy is bound to guzzle oil in the coming decades. The standard response has been to go on a global hunt for oil supplies. The quest for “energy security” has taken the government oil companies into Asia and Africa — including badlands like Somalia and some of the former Soviet republics. There is a renewed drive to use more coal as well as some loose talk about promoting new sources of energy, like wind and solar power. And there are grand strategies to pipe natural gas into India, the most controversial of which is the plan to get gas from Iran. The hunt for oil and gas has excited both the politicians and the press, what with the mix of oil, politics, and foreign policy. The quest for energy security has attracted attention because, in a way, it is a dramatic reenactment of the 19th century Great Game, when Britain and Russia fought for supremacy in Afghanistan and the now oil-rich regions surrounding it.

While there is some justification for the global quest for energy supplies, the demand side has been completely ignored. There is little talk in India of how to use energy with greater efficiency. The International Energy Agency (IEA) calculates what it calls the energy-intensity of an economy. This is the amount of energy needed to produce one unit of GDP. It shows how well a country uses its energy supplies. In 2002, says the IEA, India had one of the most energy-intensive economies in the world — 2.88 times that of the rich countries. So India needed nearly three times more than an average rich country to produce an equivalent amount of output (and there are no indications that things have changed since then). This is scandalous.

Generally, the rich countries use less oil per unit of output than the developing countries. This is because of a variety of reasons: better capital stock and modern infrastructure, for example. But the fact that rich countries have moved away from manufacturing also helps them conserve energy. And this is where India’s energy inefficient ways stand out. China, whose economy is powered by manufacturing, is less energy-intensive than India. India’s energy intensity is almost 24% higher than China’s, despite the fact that both countries are at the same level of development.

One way to keep India’s dependence on imported oil down is to use energy more efficiently. The official India Hydrocarbon Vision 2025 report, for example, says that oil elasticity with respect to GDP is currently around 1.1. What does this mean? It means that India needs 1.1 extra units of oil to produce one extra unit of GDP. It was two in the 1970s and 1.2 in the 1980s. So the amount of oil used to power further economic growth has dropped over recent decades. The vision report expects oil elasticity to fall to 0.7 in 2025.

Will this happen? It did happen in the rich countries. For the OECD as a whole, energy consumption per unit of output has fallen by around 25% since 1973, the year oil prices first shot up. Take one small country: Austria. Its energy consumption in 1992 was the same as it was in 1973, though industrial output was up 70%. Denmark is another country that has successfully de-linked energy consumption and economic growth. High taxes on heating oil and electricity for homes helped. In Japan, one major reason was the shift from heavy industries such as iron and steel to machine-based and high-tech ones like automobiles and consumer electronics.

The point is that there are lots of things to be done — from better infrastructure to higher taxes. Cutting energy usage to more sensible levels will be far more difficult — which is perhaps why there is so little discussion about it in India. As India’s economy guzzles energy, its sensitivity to shocks will increase over the years, unless it learns from countries like Japan and starts using energy more frugally.

Jobs For the Boys and Girls

Poverty in India is often not a result of unemployment but of unproductive employment. The largest proportion of people who labor all day without earning adequate incomes live in the rural areas. Agriculture accounts for barely a quarter of the Indian economy but employs about 60% of the labor force. It means that six out of every 10 Indians are stuck in a sector that has been ignored by policy makers, starved of capital and has thus stagnated over the past few decades. What is the way out?

Some changes are already evident in the rural economy. It can no longer be blindly equated with the agricultural economy. Economist Omkar Goswami and marketing consultant Rama Bijapurkar have constructed a detailed representation of rural India based on economic, demographic and consumption data from 530 districts in the country. They say that rural India accounts for 52% of India’s GDP. They break this into the three basic components: agriculture accounts for 46%, industry for 21%, and services for 33% of the rural economy. So a moribund agricultural sector does not necessarily mean a dead-end rural economy. In a newspaper article, Goswami and Bijapurkar give one indication: the 1991 census showed that only 30% of rural households lived in permanent houses. Ten years later, the next census shows that 41% of rural households have decent housing. This fact does not quite fit in with the politically attractive view that the whole of rural India is suffering because of problems on the farm.

That still leaves the issue of poverty and unproductive employment. It is clear that agriculture cannot absorb more people. There are some initial signs that labor is moving out into other parts of the economy. Rural industry and services may have absorbed some of the excess labor released from the farm. A new round of reforms in agriculture could help the process.

The challenge can be framed in a simple manner. India’s near-tryst with mass starvation after the droughts of the late 1960s made successive governments paranoid about food security. Farm policy since then has focused almost entirely on cereal production. India now produces more rice and wheat than it needs. The government-owned Food Corporation of India has often run out of places to store the mountains of excess cereals it buys. Grain is often left in the open, where it is destroyed by rains and eaten by rats.

One of the troubling misconceptions in India is that only large-scale industry can create jobs. Few seem to care than manufacturing continues to shed jobs the world over, as labor productivity increases by leaps and bounds in factories. The mainstream view is that India has had jobless growth in recent years. That is not quite true, but the ability of the Indian economy to create new jobs has undoubtedly diminished in the past 15 years. One unit of economic growth created 0.384 jobs in the 1980s and 0.312 jobs in the 1990s, according to estimates by Ifzal Ali, chief economist of the Asian Development Bank.

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