Can India Become the Next $10 Trillion Economy? That Depends…

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Marshall M. Bouton from the Center for the Advanced Study of India discusses what lies ahead for U.S.-India relations.

India has in recent years strengthened its ties with the U.S. in bilateral trade and defense deals, but the relationship faces headwinds on several fronts. Among the sensitive areas are potential economic sanctions following India’s defense dealings with Russia, India’s worries over some of President Trump’s policies, and U.S. immigration restrictions on work visas.

A recent, significant challenge is that India risks U.S. sanctions over its recently concluded $5 billion deal to buy air defense missile systems from Russia. The U.S. imposed sanctions on Russia for meddling in America’s 2016 presidential elections; those sanctions could extend to any country doing large defense deals with Russia. If the U.S. were to impose sanctions on India, this could jeopardize banking relationships between the two countries, including money transfers, noted Marshall M. Bouton, acting director and visiting scholar at the University of Pennsylvania’s Center for the Advanced Study of India (CASI). According to Bouton, India has informed the U.S. that the deal to buy the Russian S-400 long-range surface-to-air missile system will not impinge on its ties with the U.S. He made those remarks in his keynote address at the Wharton India Economic Forum last week in Philadelphia.

India is hoping for a waiver from the sanctions. But the U.S.’s ability to spare India from sanctions is “not for a blanket waiver” but “transaction-specific,” the Wall Street Journal reported, quoting a spokesperson for the U.S. Embassy in New Delhi. But extending that approach to other areas of the relationship could prove problematic. Indeed, “India fears a return of ‘transactionalism’ in the relationship – getting one thing in return for every other thing – instead of [the U.S.] taking a long-term view,” said Bouton.

The cloud that hovers over the U.S.-India relationship exists despite deepening ties on several fronts. Bouton highlighted defense deals – the very area of the current tensions: U.S. sales of defense equipment to India have risen from essentially zero to $15 billion in the last decade. That is expected to rise further to $18 billion by 2019, according to a July 2018 congressional hearing. Bouton listed other advances, as well: Between 2007 and 2017, bilateral trade between the two countries rose nearly 120% to $126 billion, and U.S. foreign direct investment into India jumped nearly 300% to $44.5 billion. The 185,000 Indian students in the U.S. are second in size only to Chinese students, he added.

More could be achieved in personal conversations than through diplomatic dialogue, Bouton suggested, advocating a meeting between Trump and India’s Prime Minister Narendra Modi. “These are two very strong leaders who have the potential to do a lot together, but they have to be able to spend some time with each other,” he said in an interview on the Knowledge@Wharton radio show on SiriusXM.

Below are edited excerpts from that interview.

Knowledge@Wharton: Where do you see the relationship between the U.S. and India right now?

Marshall Bouton: It’s [been] an extraordinary 20 years. The relationship in the 20 years since 1998 has been transformed almost beyond recognition. In fact, no U.S. bilateral relationship in the world – certainly with another major country – has changed as much and for the good as has the U.S.-India relationship.

That is true across all fronts, but primarily in the security and defense areas. In economic relations also, we have seen great progress – a huge increase in the bilateral trade volumes, mostly with the U.S. holding a deficit ($27.3 billion in 2017), which [the Trump] administration is not happy about. FDI into India from the U.S. has gone up very sharply (to $44.5 billion in 2017). It’s still a fraction of U.S. FDI both in terms of flows and stock from that of, say, China ($107.6 billion in 2017, according to research firm Statista), not to mention the developed countries in Europe. That is a strong portent for the future for a continuing positive trajectory.

However, changes in policy, particularly in the U.S. but also in India over the last year or two, are cause for some worry. Prime Minister [Narendra] Modi has moved in somewhat more protectionist directions with his economic policy. Nobody knows what it will do if he’s re-elected come next April-May. One hopes he backtracks on that, but we can’t be sure.

Knowledge@Wharton: In a paper you wrote for the Asia Society’s Policy Institute in May 2017, you recommended that the Trump administration should make India a clear and strategic diplomatic priority. In the year that has gone by, do you think that has happened?

Bouton: Short answer – yes. I’ll give the Trump administration a lot of credit for moving rapidly, especially on the security-defense aspects of the relationship, with the approval of the sale of the Sea Guardian aerial vehicles, but also the recent agreement between the U.S. and India which will allow data sharing over secure channels between the two militaries directly.

There has been one summit between President Trump and Prime Minister Modi. Prime Minister Modi invited President Trump to come to Delhi in January and be the chief guest on India’s Republic Day, which the president has not yet accepted. I’m concerned about the pace of connections between the two of them. These are two very strong leaders who have a potential to do a lot together, but they have to be able to spend some time with each other. The administration’s policies – it’s more the “America First” policy – have not taken a heavy toll on the actual conduct of U.S.-India economic relations. But one begins to have some niggling worries about where it might be going from here.

Knowledge@Wharton: What are some of those worries?

Bouton: The principal worries are two on both sides. One is that at some point the Trump administration will put into place hard policies, particularly on trade. The other related area that is of concern to many Indians is over H-1B visas (the temporary work visas the U.S. issues for foreign workers). So far, the administration has taken an approach where it’s indirectly trying to influence the number of H-1B visitors by making it impossible for their spouses to stay in the United States and by not approving many more continuing employment visas. If they really double down on that effort, we could see some real damage. On the Indian side, Prime Minister Modi has moved in more protectionist directions which I’m sure are of concern to U.S. companies. We’ll just have to wait and see. We have a political season here and a political season coming up soon in India. That causes a little bit of craziness on both sides.

Knowledge@Wharton: It is amazing, looking at India’s growth over the last few years, to still have it referred to at times as an emerging economy. But when you hear that large portions of the country still need to be electrified, you do understand that there is still a long way to go for India.

Bouton: No question. The real question is whether India can be in the next 10 or 15 years the next $10 trillion economy. That would be great – very momentous for the world economy. But India has a lot of problems, and they aren’t going away. A lot of people expected Prime Minister Modi in his first term to adopt several more liberalizing policies, including a second wave of big structural reforms, particularly on the supply side on land and labor especially. But he hasn’t done that; he’s taken the more politically safe course. He’s certainly not taking that more adventurous course now.

Knowledge@Wharton: The investment in India by Walmart (which bought India’s online retailer Flipkart for $16 billion in June 2018) is one example. Why do you think it is taken this long to see this type of push on U.S. FDI into India?

Bouton: The policies [in India] weren’t conducive; the regulations weren’t conducive. India ranked 130 (in 2016) on the World Bank’s Ease of Doing Business Index, [but] it has come up to 100 (out of 190 countries).

That [higher rank] is also indicative of Amazon, Walmart and other retailers going into India. The retail sector [in India] has very light regulation overall compared to the manufacturing sector. The ease of moving into India, especially in the digital age, in the retail sector is far greater [than in other industries]. When you start to see American companies investing in manufacturing in India or in logistics or in infrastructure, you can sit up and take notice.

“We have a political season here and a political season coming up soon in India and that causes a little bit of craziness on both sides.”

Knowledge@Wharton: With the closeness that has developed between India and the U.S. on the defense side, India has been buying more and more of U.S. defense products. But it has also shopping around the world for defense products. Some of these deals have been somewhat controversial, notably the one with Dassault of France for 36 Rafale fighter jets. Given the political season that we are entering, do you think the deal with Dassault will make prime minister Modi as vulnerable as the Bofors deal did [former Indian prime minister] Rajiv Gandhi in the past?

Bouton: I would guess not. First of all, the Modi administration has an excellent reputation for greatly avoiding and reducing the amount of corruption, especially at the top – in the prime minister’s office, in the cabinet and the government of India. Lower down there’s probably still some [corruption] going on. So, he’s not vulnerable on those corruption issues. At some point if some shocking details come to light about the Rafale deal or others, then people might reassess, but I don’t think it’s going to be an issue this time.

The big issue on defense acquisitions is the Russian sale [to India] of the S-400 anti-aircraft missile system which was just — at least nominally — approved when Russia’s President [Vladimir] Putin visited India in early October. This has the potential to be a great disrupter of the U.S.-India relationship because it runs afoul of the sanctions on Russia placed by Congress just a year ago. The CAATSA [legislation] requires the U.S. to sanction any entities in the world that engage in major transactions with Russia. And it looks like [President Trump] will impose those sanctions [on India].

Knowledge@Wharton: Russia is still the biggest supplier of arms to India. What will be the impact of this deal on the closeness that’s been developing [between the U.S. and India] on defense and security?

Bouton: That’s exactly my concern. It would impact not only the U.S.-India defense relationship, but also the India-U.S. economic relationship, because it will sanction Indian financial entities from dealing with U.S. banks [and impact] moving money; just the very basic stuff.

Russia is still in the aggregate the principal supplier [of defense equipment to India] by value. But that’s partly just legacy stuff from the past because India is determined to retain its sovereignty and to make its decisions about its national interests based only on those national interests and not on the wishes of another government. That is a recurrent problem in U.S.-India relations which we moved away from but could be coming back. When you have the U.S. setting global policies that have an impact around the world, we can expect our allies to fall in line. India is not an ally, and for the foreseeable future will not be an ally of the U.S.

“India is determined to retain its sovereignty and to make its decisions about its national interests based only on those national interests and not on the wishes of another government.”

Knowledge@Wharton: If the relationship between the U.S. and India continues to go stronger, is there the possibility that India could be considered an ally down the road?

Bouton: Well, there’s a possibility. India’s absolute determination to be self-determining as a nation comes from its colonial past. Plus, India’s interests in some areas are different from those of the U.S. The circumstances that led to the creation of our post-World War II alliances are not the same. They may be someday.

The key to that would be how China develops and China’s relationships with the U.S. and India. None of us wishes for the kind of confrontation that would produce a situation in which an alliance would be thought of on both sides, because they would be pretty dire.

Knowledge@Wharton: What are the chances of the U.S. favoring an expanded role for India in Asia? Do you think India is responding adequately to China’s One Belt, One Road initiative, or even more importantly, the China-Pakistan Economic Corridor project? What should India be doing to respond and what should be the American role vis-à-vis India in these in these situations?

Bouton: Going back to Hillary Clinton’s time as secretary of state and even in some respects before that, the U.S. has been urging India, encouraging India, and even occasionally attempting to push India a little bit to take a more active role in what used to be called the Asia-Pacific region. The key turning point was a meeting between Prime Minister Modi and President Obama in 2010, where they signed a joint statement on a vision for the Asia-Pacific. That was very positive move in this direction. It’s a statement of principle; it’s not a statement of actual policy and actions.

The U.S. has opened its defense storehouse to India partly with that in mind. India has been cautious about this and most recently, for instance, India withdrew from the so-called Quad exercises which bring together the U.S., Japan, Australia and India. India chose not to do that in order not to provoke China.

So India is playing a cautious role, and right now it is even more cautious. They look at President Trump’s mercurial nature and somewhat contradictory policies and statements and they’re a little concerned about how this might work for them, so they’re not going to give up their independence of action. Longer term, there’s no question that India will be more active in the Asia-Pacific. It must be for its own interests, and in fact we now call this so-called Asia-Pacific region the Indo-Pacific region – that’s the official policy in the U.S.

Knowledge@Wharton: India is facing a parliamentary election next year, and in your Asia Society paper, you had mentioned that you thought Mr. Modi was likely to win. Is that still your assessment, or have your views changed?

Bouton: It’s still my assessment. He is still likely to win. He’s the only politician in all of India on the national stage who can command attention and audience, and he has a supremely efficient and extensive political operation that’s never stopped running, right down to the polling place. I was in India last July and the talk then was still very much weighted on the side of the prime minister returning to office – perhaps with a reduced majority in Parliament, which will tie his hands a little bit.

But the Indian electorate is amazing. In India all you need to do is to be 18 and you’re a voter. It has a far better franchise than the U.S. I wish we could have that system here. The [Indian] electorate in its wisdom can throw people out at the drop of a hat, and has done so with great surprise to everybody else. I never make definite predictions. It’s a very dangerous thing to do.

“[Narendra Modi] is still likely to win [the 2019 elections]. He’s the only politician in all of India on the national stage who can command attention and audience.”

Knowledge@Wharton: When you look at the last few years for India, what has the government done to drive the growth that it needs to see in the next 10 to 20 years?

Bouton: Most importantly in the past four-and-a-half years, the Modi government has greatly reduced regulations insofar as the federal government or central government in India can do. India like [the U.S.] is a federal system, and you have 29 states and several territories that just don’t do your bidding. The deregulation push has to extend down ultimately to state levels and local levels.

Secondly, [the Modi government] has invested a lot of money, particularly in transportation infrastructure, particularly in roads. The third thing is that [the government] has up until now conducted India’s macroeconomic policy with continuing attention to the twin deficits – the trade deficit or more broadly the current account deficit, and more importantly for India, the Indian fiscal deficit, [where it] has been strict about keeping it at less than 4% [of GDP].

Now, we read that the Modi government is trying to influence [India’s central bank], the Reserve Bank of India, to in fact lower its rates and in other ways relax its standards for bank lending in the hope that that will give a boost to the economy. This tells us that the prime minister and his key political lieutenants are concerned about this election. They wouldn’t be risking their international reputation and a further drop in the rupee — which has dropped 30% in the last couple of months — if he didn’t feel he needed another boost on the economic front to get reelected.

Knowledge@Wharton: At the Center for Advanced Study of India, what are some of the projects that you’re doing, and how do they potentially fit into this burgeoning relationship between the U.S. and India?

Bouton: First, the Center for the Advanced Study of India is a unique institution not only within Penn but also among all U.S. universities in that it is the only university-based center devoted exclusively to high quality social science research on India’s politics, economy, society and international relations. Furthermore, it selects and conducts that research in a way that’s attentive to India’s policy environment. Over the years, we have done a lot of path-breaking work on Dalit entrepreneurs — to help develop an entrepreneurial culture for them. (Dalits used to be called “untouchables” or “Harijans” in India’s caste-based system.)

The Center has also done a lot of work on migration within India and between India and the world. Our former director at CASI, Devesh Kapur, recently gave an important speech to the Reserve Bank of India on the impact of migration on the Indian economy. It’s doing work now on agriculture and the agricultural economy because India’s agricultural sector is now the center piece of its poverty problem. Somewhere between 50% and 60% of India’s poor are farmers.

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