The purpose of this report is to examine and evaluate the economic state of India in terms of economic growth, political economy and foreign direct investment. This report will also assess and criticise the drivers and obstacles of economic growth in relation to India and wether the legal, political and economic systems in place are inhibiting or optimizing India’s economic growth.
1. Current Context
India is a diverse nation, encompassing multiple beliefs, cultures and identities. In order to be a successful business in India it is important to understand how they manifest these beliefs in to their business environment (Office and Limited, 2017). Cambridge economist Joan Robinson stated “Whatever you can rightly say about India, the opposite is also true.” (Economist, 2017) This demonstrates that India cannot be accustomed to generalizations. India still suffers from a caste system which promotes inequality and this can also be seen across their labor force with people from lower class backgrounds less likely to be hired.
India’s tropical climate and annual monsoon means it is agriculture rich and takes up 60.5% of land usage (Cia.gov, 2017). As a result, agriculture has always been the dominant job sector and contributes to half of India’s labor force. Despite this, the ‘service sector is the major source for economic growth, accounting for two thirds of India’s output.’ (Cia.gov, 2017). Recently, the technological industry’s rapid growth has resulted in India being regarded as a global player and is changing the nature of jobs.
India is natural resource rich which makes India the ’18th largest export economy in the world,’ (Atlasmedia, 2017). According to the OEC website, the main exports of India are refined petroleum (9.9%) and diamonds (9.3%) mainly to USA, contributing to 19.18% of India’s GDP,2016 (Oecd, 2017). Exports are beneficial to India’s economy along with other industries such as pharmaceuticals and steel which contribute greatly to India’s $6.57K GDP per Capita in 2016 (Atlasmedia, 2017).
3. Political Economy
Political Economy is defined in Global Business Today as the ‘political, economic and legal systems of a country’; to stress that these factors influence one another and are interdependent for economic ‘well being’ (Hill and Hult, 2017).
Political system is defined as ‘the system of government in a country.’ Based on ideologies Individualism and Collectivism then branches down further in to democratic or totalitarian government.
A representative democracy followed by most western civilizations, where the ‘political system in which citizens periodically elect individuals to represent them in government.’ Whereas, totalitarianism is the practice of ‘absolute control over all spheres of human life,’ demonstrated by North Korea. Theocratic totalitarian governs on the basis of religious principals, most profoundly expended across the Gulf in their practice of Islamic law and is perceived to ‘limit freedom of political and religious expression’ (Hill and Hult, 2017).
When Individualism is practiced over collectivism, the economy is more likely to be free market-based, where state owned enterprises have been privatized and production is based upon a supply and demand model. In contrast, a command economy is where ‘allocation of resources’ is determined by the government. However, the fall of the Soviet Union has indicated that this system is flawed and stagnates economic growth due to a monopolist status. Hence, no incentive for the enterprise to improve their services for the public and therefore proving inefficient. Many countries have also evolved to become ‘Mixed economies’ which integrates both the free market and command economy (Hill and Hult, 2017).
Lastly, legal systems are immensely important in political economy as they determine the ‘manner in which business transactions are to be executed.’ A legal system, ‘a system of rules which regulate behavior,’ is essential in distinguishing between international standards and ‘legal traditions’ which do not have ‘the force of law. There are 3 legal systems consisting of Common Law, Civil law and Theocratic Law. Common law which was derived from England is ‘a system based on tradition, precedent and custom.’ Regarded as the most flexible legal system based upon interpretation and draws upon previous cases to reach judgment. Civil law on the other hand, is based upon ‘a system of detailed set of written laws and codes,’ which is more rigid as the law can only be ‘applied.’ Theocratic law is a system based on religious morals (Merryman, J. 1969).
India currently inhabits a population of 1.2 billion people and therefore makes it the worlds largest representative democracy, established when India gained independence from Britain in 1947. India’s parliamentary system is largely based upon the UK’s colonial influence and consists of 29 States and 6 Unions, each differing in legislations but Unions have more power in judicial courts. Hints of theocratic legal traditions can also be observed with 70.9 % of the population identifying as Hindu (Cia.gov, 2017).
India follows a common law legal system inherited from over the influence of 200 years of British colonialism. Adopting a mixed economy, India only started to become more liberal economically when industries were delegalized around the 1990’s, undergoing an economic reform. Their annual GDP was $310 and 40% of their population was living in poverty. Neighboring countries such as Taiwan and Singapore had a much faster rate of economic growth (MUKHERJI, 2008). State enterprises such as electricity, oil and steel was privatized to generate more productivity. Foreign investment was accepted with open arms with incentives including shareholders being able to own 51% of a company as opposed to the previous 40%. Tariffs on imports were reduced as well as tax. As a result, GDP grew from 1994-2004, encouraged by Foreign Investment to an annual growth of 7% in 2014 (Hill and Hult, 2017).
4. Economic Growth
Economic growth can only be valid under ‘defined economic and social conditions.’ (Kuznets, S.) Kuznets is referring to factors used to measure economic growth such as Gross National Income (GNI) which displays the annual income received per resident of the country. However, due to the generalization of GNI the measure does not take in to account costs of living. In order to assess economic growth annually, profit generated by all the goods and services produced by the country is calculated in the form of Gross Domestic Product (GDP). It can also be catalyzed by Foreign Investment and bilateral aid (World Bank,2017).
In comparison to the previous decade, India’s economic growth is occurring at a slower rate with forecasted GDP growth by the International Monetary Fund being revised regularly, for instance 2011-2012, GDP was adjusted to 8.9% from a 9.3% estimate. Fortunately, India’s economy made a recovery after 2012 as structural policies have been adjusted in order to attract investment such as softening inflation. In 2013, GDP was $1.857 trillion, in 2016 this had risen to $2.264 trillion. India also made it on to the World Banks Top 100 Ease of Doing Business for the first time. India continues to implement a ‘strong reform agenda’ to attract international businesses. As one of the top 10 reformers, implementing 8 out of 10 ‘Doing business Indicators, 2017’ (Doingbusiness,2017).
India’s main driver of economic growth in the last 5 years is due to movement away from state enterprise to a free market economy. Achieving economic liberalization through reforms including capitalization of India’s technology sector and increased agriculture output. Additionally, government spending has depreciated, accounting for just 27.4% of total GDP output. Labor freedom has also declined and a ‘weak’ legal framework means India’s informal economy continues to be an extensive source of employment. Nevertheless, India’s 143rd ranking in the Economic Independence Index 2017 is a consequence of poor governmental responsibility (Heritage, 2017). This demonstrates the significance of political and legal systems on economic development especially when India’s nationalistic ideology produced tough policies which restricted FDI inflow and stagnated economic growth, post-independence.
When examining economic growth of India in the last 5 years there has been a steady increase since privatization of major industries. GDP has grown by an average of 7-8% since 2004. Yet, GDP value from 2012-2013 only rose by 4.5%, due to a decline in construction and mining along with stricter foreign investment policies in the retail sector, one of India’s most prosperous industries. Furthermore, a regression in export prices and high interest rates by the Reserve Bank of India contributed to inhibiting growth. India’s economy is reliant upon Foreign Investment which can have negative impact, as high borrowings of funds can ultimately lead to debt. This is supported by the negative trade balance of goods in 2017 (WorldBank,2017).
As a result, India’s technology, manufacturing and defense sectors have rapidly modernized. This is an example that a strong political system is essential for economic growth. GNI has also steadily increased from 2011-2016, from $1480 to $1680(Imf.org, 2017).
‘Direct investment is a category of cross-border investment made by one economy with the objective of establishing a lasting interest in an enterprise that is resident in another economy’ (Oecd, 2017). OECD states that FDI can provide ‘financial stability, promote economic development and enhance the wellbeing of society.’ Used by policy makers to attract international investment through a globally integrated marketplace. Technological innovations have also encouraged cross-border financial flows, Modi, the current Prime Minister is credited for building positive business relations with the US to increase foreign investment in this sector (Oecd, 2017).
Measures of FDI consist of FDI flow, stock, outflows and inflows. This flow of FDI refers to ‘the amount of FDI undertaken over a given period.’ Therefore, stock FDI is the ‘total accumulated value of foreign owned assets at a given time.’ Inflow refers to the ‘flow of direct investment into a country’ and vice versa for FDI outflow. A decline in trade barriers, political and economical reforms have encouraged FDI growth especially in developing nations (Hill and Hult, 2017).
FDI is beneficial to India’s economy as market competition is intensified which increases productivity of businesses by avoiding the monopolist effect which dominated the economic environment when state run enterprises were exercised in the 1970’s. A huge generator of employment and improving infrastructure, FDI received in India during 2016-17 was $60.08 billion implying that political policy reforms to soften inflation and FDI procedures have been effective (Doingbusiness,2017). The technology sector received the highest FDI equity inflow of $6.08 billion along with privatized healthcare, with large investments from Japan and Singapore. India was the fastest growing nation for foreign investments in 2016 with an FDI inflow increase of 40% in the fiscal year of 2015-2016 (Assets.kpmg, 2017). FDI inflow in 2011 was $36.499 billion to 2012 where it declined by 38% to $23.966 billion due to increased inflation, high tax and poor performance in manufacturing, agriculture and mining sectors. Despite this decline, FDI inflow has slowly recovered with 2017 receiving a record breaking $60.08 billion, an 8% increase than 2015-2016 A result of ‘Modi’ government making bold policy reforms, liberalising conservative sectors such as railways and defence. Additionally, investment start ups such as ‘Digital India’ generated $9bn in its first year, encouraging expansion and growth of Indian Startups is driving economic development. In addition, major industries such as air transport was granted permission for automatic routes and radical overhaul of investment caps, retail of food products and e-commerce was eligible for up to 100% FDI in India. Thus, FDI has increased by 38% in the previous 3 fiscal years, especially in the manufacturing and technology sector which experienced a growth of 4% (Imf.org, 2017). Economic deregulation and reducing trade barriers has attracted foreign investment from multinationals as India continues to shift towards a free market economy.
In contrast to this, FDI can also have profound negative impacts on the Indian economy through exploitation of the labor force. Profits generated by MNC’s is taken back to the home country with only a small percentage invested in to the local economy. India’s widening wealth inequality gap is a consequence of rapid modernization as wealth and poverty co-exist. Rural states in India are left underdeveloped as FDI benefits are only seen in urban cities (WorldBank,2017).
In conclusion, FDI is both beneficial and essential to India’s liberalizing free market economy however the distribution of FDI needs to be regulated more closely to achieve long term socioeconomic development. Political reforms and revision of policies especially in regards to FDI is the main driver of economic growth which continues to increase at a rate of 7% annually. India’s technological sector is benefitting from major foreign investment from USA along with neighboring countries such as Taiwan and Singapore. Privatization of state enterprises such as oil, steel and coal increased competition and made the enterprises more efficient for the public and as a result capital flows gained momentum. FDI investment also contributed positively to generating jobs and improving infrastructure. India’s emerging market is now regarded as a desirable place for foreign investment and India is now classified by the World Bank as a NIC. In order to emerge as a developed country India needs to become more self sufficient and not be reliant on foreign investment. The caste system must also be eradicated completely as well as creating safe, flexible jobs for women so the population as a whole can progress both economically and socially. Nevertheless, India remains the fastest growing economy in the world (World Bank,2017).