I am grateful for the invitation to deliver a talk at the Peterson Institute for International Economics. I understand that one of the objects of the Institute is to promote informed dialogue on international issues. The world is still divided in many ways-developed versus developing, North versus South, and rich versus poor. It is necessary to bridge this divide, and dialogue can do so. Dialogue can promote better appreciation of the issues; dialogue can also anticipate emerging trends.
Let me share with you our recent experience in managing the Indian economy and the outlook for the medium term. The India story is now rather well-known, but some aspects bear repetition. In the most recent four-year period-2003-04 to 2006-07-India's GDP has grown at an average rate of 8.6 percent a year. In particular, 2006-07 was a splendid year turning out a growth rate of 9.4 percent. All the indicators are positive. Gross Domestic Capital Formation (GDFC)-that is investment-in relation to GDP is estimated at a little over 35 percent. Inflation measured by the wholesale price index (WPI) is 3.3 percent. Foreign exchange reserves stand at over US$230 billion. All sectors of the economy are contributing to the growth rate, although we are not entirely satisfied with the performance of the agriculture sector.
It is now three years and four months since the present government assumed office. The government has brought greater stability and clarity to the policy environment. In many cases, the policy is backed by law or regulation. In key sectors, the government has ceded authority to independent regulatory bodies.
The government has also remained steadfast on the path of fiscal prudence and discipline. Within weeks of assuming office and before presenting the first budget, we notified the Fiscal Responsibility and Budget Management Act (the FRBM Act). Despite pressure on resources, we have complied with the obligations under the act. The fiscal deficit for the current year has been budgeted at 3.3 percent and the revenue deficit at 1.5 percent, and we believe we are on course to achieve the targets set by the FRBM Act.
What are the factors that are driving economic growth in India?
Firstly, it is domestic consumption. The annual growth in real consumption expenditure over the past four years has been, on average, 6.3 percent. With easy liquidity conditions spurring demand for personal loans, and adequate capacity in the manufacturing sector, there has been a consumption boom.
Secondly, rise of investment. The consumption boom that started at the beginning of this decade has triggered an investment boom. Real investment has grown at a robust rate since 2002-03, averaging 17 percent a year in the past four years. During this period, the contribution of investment to growth has exceeded the contribution of final consumption expenditure. The current investment rate, as a proportion of GDP, is 35.1 percent, and it is expected to increase in the medium term.
Thirdly, increase in employment. The rate of growth in the labor force that was 1.60 percent in the previous period of six years accelerated to 2.54 percent during the period 1999-2000 to 2004-05. Thankfully, the rate of growth of employment too accelerated from 1.57 percent in the first period to 2.48 percent in the second period. We have, therefore, more persons employed and contributing to the national output. Paradoxically, we also have, in absolute number, more persons unemployed.
Fourthly, increase in productivity of both capital and labor. Rodrik and Subramanian, in an IMF working paper of 2004, pointed out that India seems to have large amount of productivity growth from relatively modest reforms. A more recent paper by Barry Bosworth, Susan Collins, and Arvind Virmani (2006) has confirmed this. They have concluded that output per worker grew at 1.3 percent annually during 1960-80 and total factor productivity (TFP) was barely above zero. In contrast, growth in output per worker nearly tripled to 3.8 percent during 1980-2004, while TFP increased tenfold to 2 percent.
The outlook for the medium term is extremely positive. We believe it is possible to sustain the factors that are driving economic growth and consolidate the gains.
There are, of course, some risks. Many of them are beyond our control and, hence, we are compelled to take precautionary measures that will minimize the adverse effects of these risks. The two annual monsoons are always uncertain factors. By and large, the monsoons determine the area under cultivation and the output of food grains and other food articles. As a precautionary measure, we had to import some quantities of wheat last year and again this year. The price of crude oil is an enormous external risk. Since these outrageous prices cannot be fully passed through to the consumers in India, the burden falls largely on the domestic budget and constrains our capacity for investment. The depreciation of the value of the dollar vis-à-vis the rupee has thrown up an unexpected downside risk: It has challenged our exports and our tax revenues, and we may find ourselves in a situation where we need to provide for the consequences of an appreciating currency.
Ladies and Gentlemen! Let me not give you the impression that our work is done. Far from the work being completed, the road ahead is long and difficult. Governing India is, at the best of times, a complex task. During a period of high growth, the task does not become easier, as one may be wont to think. While sustaining high growth is one kind of challenge, the more difficult challenge is spreading the benefits of growth and making it more inclusive.
Despite a marked reduction in poverty, about 26 percent of the population of India lives in extreme poverty. A larger proportion of the population is affected because of the inadequacy or absence of many public goods and services such as clean drinking water, sanitation, schools, basic healthcare, electricity, and roads. Democracy-especially a vibrant and noisy one-offers many seemingly attractive alternative models for the elimination of poverty. We know that many of those have not worked in the past, and we shall not repeat those mistakes. We believe that growth is the best antidote to poverty, provided that the growth is broad based and inclusive.
Our government believes that in a developing country growth is an imperative and nothing should be done to affect the process of growth. At the same time, our government believes that it is the duty of the government to provide a measure of economic and social security to the very poor who are, at present, beyond the pale of the market economy. We have, therefore, adopted an ambitious social and economic agenda that extends to matters such as guaranteed wage employment, affirmative action in education, death and disability insurance, health insurance, old age pension, scholarships and education loans, empowerment of women, and right to information.
I am aware of the oft-repeated criticism that the growth process has benefited only a small section of the people and, therefore, we must change course. I reject that criticism. It is based on a superficial and ill-informed view of the transformation that is taking place in India. More people are discovering that there are opportunities at the bottom of the pyramid and more people at the bottom of the pyramid are demanding their share of the economic opportunities thrown up by the growth process. For instance, in the last three years, banks have more than doubled the amount advanced as farm loans: The volume has increased from Rs 844 billion in 2003-04 to Rs 2050 billion in 2006-07. Who gets these loans? It is farmers who have an average land holding of one hectare, and every year over 5 million new borrowers have been added to the portfolio of banks and given farm loans. In 2006-07, 8.35 million new farmers were brought under the bank credit system.
Take another example: India runs the largest program of microcredit-a fact that is not widely known. At the end of March 2007, 2.6 million self-help groups (SHG)-nearly all of them "women only" groups-were credit-linked to the banks. Beginning with consumption credit, an overwhelming majority among them has graduated to production credit. These groups borrow amounts up to Rs 200,000 for purposes such as land development, rearing cattle or sheep, poultry, garment making, food processing, manufacture of toys, and retail shops. The amount of credit advanced to SHGs at the end of March 2007 was Rs 180 billion.
More than anything else, it is growth that has allowed the government to increase public expenditure in sectors such as health and education. In 2003-04, the central government's budget had allocated Rs 70 billion for the health sector and Rs 70 billion for the education sector. In 2007-08, those allocations had grown manifold to Rs 143 billion for health and Rs 286 billion for education.
However, outlays do not mean outcomes, and this is our prime concern. There is not yet in place a mechanism that will ensure that the deliverables are indeed delivered or that the public goods and services are of acceptable quality and have reached the intended beneficiaries. Some of the problems are due to poor design of the program. Besides, there is still too much dependence on the government machinery and an unwillingness to experiment with alternative models like food stamps or school vouchers. There is also, regrettably, a considerable degree of waste and pilferage.
Our best chance lies in encouraging more openness and more competition. An open society and an open polity will eventually embrace an open economy. A revolutionary change has been wrought in the sectors where monopolies were dismantled and the sector was thrown open to competition. Two examples would suffice: one, telecommunications and the other, aviation. Not too long ago, a customer had to register for a landline telephone and wait for many years to be given one. She would have to "book" a long distance call and hope that she could get through within a few hours. And she would have to pay exorbitant rates depending on the "distance" between the caller and the called person. Mobility was a dream; the telephone itself was a nightmare. Mobile telephony is growing at over 5 million new connections every month, and in August this year 7 million new connections were added.
The air transport sector has witnessed a similar revolution. The entry of private airlines has democratized flying. Many second- and third-tier towns are now connected by air. Domestic passenger traffic has grown, on average, by 30.5 percent a year over the last two years. Two green field airports are being built. Two metro airports are being modernized and upgraded, and before that task is over, plans are being drawn up for a second airport in these two metros. Two more metro airports and 35 nonmetro airports have been taken up for modernization and expansion.
Competition is driving growth in many other sectors: steel, textiles, pharmaceuticals, automobiles, home appliances, packaged food, computer hardware and software, banking, and insurance. It is axiomatic that more openness and more competition will benefit the sectors that remain closed or restricted as a matter of policy, and that is the direction in which we would like to move.
The competition is not among domestic players alone. India's manufacturing and services sectors face increasing competition from overseas manufacturers and service providers. Many foreign companies have entered the Indian market through imports or local production. Far from being overawed or vanquished, Indian business has boldly ventured into other countries and has opened offices abroad, acquired factories, and established new facilities. Foreign direct investment has become a two-way street. In 2006-07, while foreign direct investment flows into India were US$19.5 billion, the outflow of capital amounted to US$11.9 billion.
On August 15, 2007, India turned 60. It is, compared to the United States or many other countries, a young nation. It is also a young nation in another sense. One-third of the population is below the age of 15 years. India is the only large country in the world where the size of the working age population will grow-and will exceed the number of dependent children and old persons-until 2025, the year up to which projections of population have been made, and perhaps even beyond until 2045. The size of the work force will grow, incomes will grow, savings will grow, and investments will also grow. The challenge is to seize the opportunity and turn India into an economic powerhouse.
We are happy that the world is taking note of India and other emerging economies. If the developed countries of the world are serious in their intention to achieve the Millennium Development Goals, they must realize that the goals will not be achieved until they are achieved in India and China. We recognize that as we take our place in the world we have to assume our share of responsibility, consistent with our need and capacity, to make the world a better and safer place.
In the past-and now too-India has accepted responsibilities. For example, though we are an energy deficient country, we have accepted the principle of common and differentiated responsibilities in the area of climate change. At Heiligendamm, the Prime Minister of India made an important statement when he offered that India's per capita CHG emissions would never be allowed to exceed the per capita CHG emissions of developed countries. That statement has been strongly endorsed by Chancellor Angela Merkel. That statement opens the way to find a just and fair agreement on the complex issues concerning climate change.
In the area of nonproliferation, though we are not a signatory to the Non-Proliferation Treaty (NPT), we have put substance over form and maintained an impeccable record of nonproliferation. The India-United States agreement on civil nuclear cooperation is premised on that record.
On the economic front, we acknowledge that we share responsibility for ensuring the stability of the global economy. We have maintained fiscal prudence and discipline. We have taken precautionary measures to avoid high-risk financial transactions. We have contained inflation and will always be on alert. We have in place necessary regulations to ensure that capital flows-inward and outward-are orderly.
Much of what has been accomplished-or adopted-in India is not unique to India. Many other countries have done the same and, in this behalf, I can cite the cases of Argentina, Brazil, China, Egypt, Mexico, and South Africa. As I said at the beginning of my speech, the world is still divided in many ways. A new division (or is it rivalry?) appears to be on the horizon-between the G-7 countries and the fast growing, emerging economies. Just as we are willing to share responsibility with the developed countries, the G-7 countries must also share responsibility with the emerging economies. That, indeed, would be the most wise and prudent course to make the world a better and safer place.Thank you for your patience and courtesy.