India at Inflection Point

For India to reach its peak potential, the consumption story of its youthful middle-class was never going to be enough. The Services sector, currently commanding 54% of India’s economy, is incapable of absorbing the teeming graduates emerging each year, a fact painfully underscored by the pandemic. The obvious solution, long understood, has been to pivot to Manufacturing and Exports. However, despite the structural reforms of the Modi government, the singular lack of capital formation over the past decade has stymied India’s promise.

But then came Trump & Coronavirus, the two inadvertent catalysts for a dramatic resurrection of India’s fortunes. Trump’s anti-China rhetoric converged global angst about China’s continued disregard for global order & human rights. This triggered a geopolitical push to position India as the balancing factor in South-Asia. The Covid-linked disruption of global manufacturing and shipping has only served to emphasize the need to reduce dependency on China.

China Plus One

Western democracies and multinational-companies prize a rules-based international order and China’s
resolute refusal to play by the rules has rattled them. Enforcement of a fascist security Law in Hong Kong, Militarist control over South China Sea, Economic imperialism through the Belt Road Initiative, Human Rights violations in Xinjiang province, crackdown over its tech giants in a bid to control citizen-data and now embrace of Taliban in Afghanistan are all actions not befitting a responsible superpower.

Suitably spooked, global companies are actively de-risking their businesses from China’s dominance.
Japan became the first major country to offer subsidies to its companies to move production out of China into other South-Asian countries. Bilateral and multilateral partnerships have emerged to counter China, like the QUAD – aligning Japan, US, Australia and India. Another such policy measure is the Supply Chain Resilience Initiative (SCRI) by India, Japan and Australia to hedge against China.

The entire South Asia region has benefitted from the ensuing gradual shift of supply chains. India has
gained materially in sectors like Pharmaceuticals, Machinery, Speciality chemicals and Automobile
components. In 2020, India received $64 billion in Foreign Direct Investment, the fifth largest inflows in the world, according to the World Investment Report 2021 by UNCTAD. Despite a weak global investment climate due to the pandemic, in the first five months of 2021, Gross FDI inflows to India have exceeded $31 billion. These trends signal that India’s star is rising on the global investment landscape as the two decade romance with China loses some steam.

Even in Portfolio investments, there is material shift towards investing in Indian equities. Analysis of
Asia-x-Japan funds shows that the allocation to India has been gradually increasing over the past year
while that to China has steadily declined.

Rising Exports

The rapid rise of the Asian Tiger economies in the 1990s was catalysed by high levels of domestic savings being channelled into gross capital formation. The backdrop of a geopolitical environment conducive to
export-oriented industrialization helped immensely. India could have adopted the same template but the
scale of the country, diversity of its peoples and the complexity of its democracy have been crippling. India’s exports have languished even though India’s labour costs have always been meaningfully lower than those of China. The combination of a beleaguered banking sector, absence of state funding and poor logistics infrastructure have traditionally rendered Indian exports uncompetitive.

However, of late, a galvanized Indian government has acquired a strategic devotion to export-led growth. Its Production-Linked Incentive scheme (PLI), instituted for sectors like electronics-manufacturing, food processing, battery storage, automobile components and specialty steel, has gained traction over the past year. While it was designed to boost domestic manufacturing it has had a welcome impact on exports. India’s merchandise exports rose for the eighth straight month in July to $35 billion, up nearly 50% from a year earlier. Despite the low base effect, India is benefiting from a favourable global-trade growth outlook. For 2021, North America is set to see major import growth of 11.4% and Europe of 8.4%. India’s trade with China has also witnessed an uptick.

India has set a target of $2 trillion annual exports by 2030, which translates to approx. 22% contribution on a projected $9 trillion GDP, up from the current 18% levels on a $2.8 Trillion GDP.

Summary

India is at an inflection point as the world searches for a new equilibrium in a rules-based order. The developed nations are keen to position India as the next growth-engine to counterbalance the influence of China. The reform-orientated Modi Government is keen to re-position India’s development model on
Manufacturing & Exports. Between these two forces, India is poised to become the beacon of global growth.

PDF file: India at Inflection Point_UTI article_Sept ’21