India’s Inward (Re)Turn

Our growth model has been export-led and should not be abandoned. Export opportunities in general and in specific sectors could be significant even in a post-COVID world.

India’s intellectual and policy community has embraced atmanirbharta. This inward turn — actually return — amounts to abandoning two core principles of the post-1991 consensus: Export-orientation on the macro-economic side, and slow but steady liberalisation on the trade side. Is the inward turn strong? Is the underlying diagnosis-cum-prognosis correct? Will it work? Based on new research, our simple answers are, respectively: Yes; no; and not really.

Let’s start with some key facts. The inward turn is most evident in trade policies aimed at promoting domestic manufacturing. Leaving aside the spate of China-related restrictions, tariffs have been increased substantially, trade agreements have been put on hold, and a spate of production subsidies are being offered.

Between 1991 and 2014, average tariffs declined from 125 per cent to 13 per cent. However, since 2014, there have been tariff increases in 3,200 out of 5,300 product categories, affecting about $300 billion or 70 per cent of total imports. The average tariff increased from 13 per cent in 2014 to nearly 18 per cent. The largest increases occurred in 2018 when tariffs for nearly 2,500 product categories were increased, amounting to nearly 4 percentage points. Tariff increases have been greatest in low-skill manufactured imports and cell-phone assembly, amounting to 10-15 percentage points.

The inward turn is based on three misconceptions of diagnosis and prognosis. First, the perception is that India’s growth success since 1991 has not really been based on exports and certainly not on manufacturing exports. This is wrong. India has been a model of spectacular export success and an exemplar of export-led growth.

Between 1995 and 2018, India’s overall export growth (in dollars) averaged 13.4 per cent annually, the third best performance in the world amongst the top 50 exporters. Most strikingly, India’s manufacturing exports (in dollars) — for long considered India’s Achilles Heel — grew on average by a whopping 12.1 per cent, the third-best performance in the world, and nearly twice the world average (Figure 2). Only China and Vietnam surpassed India.

These exports made a substantial contribution to the overall GDP growth. In each of the three decades since the 1990s, exports contributed about one-third of overall growth. As a result, India’s export-GDP ratio is currently 20 per cent, more than twice as high as in the early 1990s, despite the post-global financial crisis (GFC) slowdown. Thus, an export slowdown today is likely to have a more consequential impact on the overall economy. Every 5 per cent of the export growth foregone will shave off 1 per cent in overall GDP growth.

The second is a pessimistic prognosis about India’s future exports. This overlooks key facts. Export pessimism is based on expectations of deglobalisation abroad and weak performance at home. But India can gain market share even in a deglobalising world. Consider the numbers. India’s manufacturing exports account for 1.7 per cent of the world’s which is less than Vietnam’s. Even if India’s exports grow three-to four times as fast as the world exports, it would gain only a few percentage points of the global market share after 10 years. China’s secular ceding of low-skill export space provides further opportunity. This is one of the virtues of past under-performance: The future can be more accommodating to India and less intimidating for the world.

This possibility is not just hypothetical. It is exactly what India did after the global financial crisis. In the 2010s, world exports were stagnant and yet India’s exports grew by about 3 per cent. This was true in both manufacturing and services.

The lamentation about deterioration in export performance in the 2010s (especially post-2014) is ironic given that it was partly self-inflicted. It was caused by a domestic anti-export policy, including a sharp exchange rate appreciation of 20 per cent, reputational damage that undermined pharmaceutical exports, and a social policy — on livestock — that affected agricultural exports. Not only did India’s exports hold up as global trade collapsed, they could have held up even more had domestic policies not been so inimical.

The real prize that India should aim for is the large unexploited opportunity of unskilled labour exports — around $140 billion which we discuss in our second column. The other under-recognised opportunity is in services. The post-global financial crisis era witnessed de-globalisation of world trade in goods but globalisation continued apace in services. World exports of goods peaked just prior to the GFC at about 25 per cent, declining to about 21 per cent in 2019. However, world exports of services which reached 6.5 per cent in the GFC, took a hit, but have since steadily risen to about 7 per cent.

COVID could even create an upside potential to globalisation. Consumption and production activities that require close physical contact will fare worse. The flip side is that activities that can be done at a distance — and tradable services are exactly that — could benefit enormously. If so, they could play to India’s comparative advantage in service exports.

Atmanirbharta’s third driver is the strong belief that India’s market is big enough to sustain growth going forward and make up for the loss of opportunities overseas. Size seduces. At $2.9 trillion, and as the fifth largest in the world, India’s GDP seems alluringly big. But if the domestic market is to sustain growth, we need to look at the size of the market (say the “middle class”) with some amount of purchasing power over manufacturing goods and services.

Based on some assumptions, our rough estimate is that this middle class market size is between 15 and 40 per cent of GDP. This is smaller than commonly believed and substantially smaller than any potential world market that Indian firms and producers can and should compete for. The reason is twofold. There are a lot of poor people with limited purchasing power and a few people with a lot of purchasing power who, however, save a lot. Both of these reduce the market for consumption. The delusion of size is making policy-makers set their sights on the domestic market when it should be on the world market.

Normally, it is failure that is an intellectual orphan. In contrast, India’s inward turn seems to be a case of making an orphan of spectacular success. India’s growth model has been an export-led one and should not be abandoned. Moreover, India’s export opportunities in general and in specific sectors could be significant even in a post-COVID world. If the diagnosis and prognosis prompting the inward turn are flawed, will the policy prescriptions be effective? We respond in our next piece, highlighting the real prize that India should aim for.

Chatterjee is assistant professor of economics at Pennsylvania State University and Subramanian is professor of economics at Ashoka University and former chief economic adviser to the Government of India. The second part will appear tomorrow

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