Magazine | April 20, 2015, Issue

Betting on India’s Economy

Its strength will be our strategic asset

With China slowing, Brazil stagnating, and Russia tanking, India has once again emerged as a bright economic spot in the developing world. A business-friendly new Indian government, a windfall from lower global oil prices, and robust new growth figures have all contributed to a sense of optimism about Asia’s third-largest economy. Albeit aided by a change in how it measures GDP, India officially grew faster than China in the final quarter of last year. Finance minister Arun Jaitley predicts that next year the Indian economy will expand by more than 8 percent.

Washington has several reasons to seek warmer ties with New Delhi. Though both countries take pains to deny that their partnership is aimed at neutralizing China, it’s hardly a secret that they share concerns about Beijing’s rising clout in the region. Wedged beside Pakistan and Afghanistan, India is also an oasis of relative stability in a region roiled by radical Islam. As a model for Asia’s smaller countries to emulate, India — democratic and pluralistic, with a large English-speaking middle class — is naturally appealing to Americans.

Stripped to its essentials, though, the U.S. bet on India is a bet on its economy. Unless India can find a way to sustain rapid economic growth, it will fail to live up to its potential as a natural check against Chinese hegemony in Asia, a model of democratic prosperity for its Asian neighbors to follow, and an increasingly important engine of the global economy. Thus, the overarching goal of U.S. policy toward India should be to help modernize its economy while deepening trade ties to tether the two democracies more firmly to each other.

Rosy GDP figures notwithstanding, both the Indian economy and the U.S.–India economic relationship could do with a boost. To begin with, economic comparisons between India and China are often misleading. Growth in India has averaged a healthy 6.4 percent since the launch of economic reforms in 1991. But the legacy of the more than four decades of socialism that preceded economic liberalization, and a slowdown that hit in the wake of the global financial crisis, mean that India is still playing catch-up with much of East Asia.

With annual GDP approaching $9.5 trillion, China’s economy is five times the size of India’s. A decade ago, the average Chinese was twice as rich as the average Indian. Now, with a per capita income of $6,800, the average Chinese is more than four times richer than the average Indian (per capita income: $1,500). It should be easy for India to grow faster than China partly for the same reason that it’s easier for it to grow faster than America — India’s economy starts from a lower base.

The strategic consequences of this mismatch with China scarcely need elaboration. The Stockholm International Peace Research Institute estimates India’s 2013 defense budget at $47.4 billion, about a fourth of China’s $188 billion for the same year. Though India’s large population and tradition of strategic autonomy automatically give it more wherewithal than most countries to stand up to Chinese belligerence, over time no country can ignore a vast disparity in resources that only grows wider each year.

Nor are U.S.–India trade ties particularly strong for two countries that between them account for about one-fifth of the world’s population and an annual economic output of nearly $19 trillion. For the last three years, U.S.–India trade in goods and services has hovered at around $100 billion, less than one-sixth of U.S. trade with China. When both goods and services are counted, the U.S. is India’s top trade partner. (China tops it in goods alone.) But for the U.S., India ranks only eleventh in goods trade, between Taiwan and Saudi Arabia.

What should this mean for U.S. policy toward India? In January, as President Obama visited New Delhi, the U.S. and India “elevated” their annual talks from a “strategic dialogue” to a “strategic and commercial dialogue.” This meant that, on top of the annual meeting between the U.S. secretary of state and India’s external-affairs minister, the U.S. commerce secretary and her Indian counterpart would now meet on a yearly basis as well. In a statement, Secretary of Commerce Penny Pritzker said, “The new commercial element of our most important bilateral dialogue will focus on our shared priorities of growing our economies, creating good jobs, and strengthening our middle class.”

Beyond the diplomatic platitudes, increased attention to the economic component of U.S.–India ties is welcome. But there’s real danger in getting bogged down in day-to-day disputes and losing sight of the relationship’s larger, long-term stakes. Indeed, before Prime Minister Narendra Modi’s election last May, which ushered in the country’s first single-party parliamentary majority in 25 years, persistent economic disputes between the U.S. and India were causing friction in the deepening bilateral friendship.

At the World Trade Organization, the two countries have squabbled over poultry, solar technology, and steel products. Indian software firms accuse the U.S. of discriminating against them by making temporary work visas expensive and hard to get. India also wants workers who return to India after a stint in the U.S. to be allowed to reclaim their payments into the U.S. Social Security system.

For its part, the U.S. has found fault with India’s tax laws, local-content requirements in manufacturing, and relatively poor intellectual-property protections. At the request of Congress, the International Trade Commission has been investigating India since August 2013, for industrial policies “that discriminate against U.S. trade and investment.”

To be sure, as the relationship between the U.S. and the EU proves, economic friction needn’t necessarily get in the way of close strategic ties. But in the U.S.–India relationship, it often appears as though Washington misses the forest for the trees. As my colleague Derek Scissors has pointed out, the short-term interests of individual firms often rise to the top of the United States’ economic agenda for India, even when serving those interests does little to advance the strategic U.S. goal of boosting India’s economy.

Following Modi’s election, and his back-to-back summit meetings with Obama in Washington and New Delhi, U.S. officials are studying ways to deepen economic ties with India. Some potential ideas, such as negotiating a bilateral investment treaty or backing India’s membership in the Asia–Pacific Economic Cooperation forum, have been on the agenda for several years. Others, such as freeing U.S. liquefied-gas exports to energy-hungry India, have arisen more recently. Some of Modi’s signature initiatives, including building so-called smart cities equipped with modern infrastructure, bringing high-speed Internet connections to much of the country, expanding the use of renewable energy such as solar power, and turning India into a manufacturing hub, have naturally attracted attention from America’s private companies and its government alike.

But if economic relations between India and America are to avoid getting bogged down in the problems of the past, and are instead to serve U.S. strategic goals in Asia, the U.S. ought to adopt three broad objectives.

First, America should encourage India to become a more competitive, market-oriented economy for its own sake, even if specific reforms offer no clear payoff for U.S. firms. For instance, India needs better roads, but given the lack of U.S. competitiveness in this area they will likely be built by Korean and Malaysian firms, not by American ones.

Second, the U.S. should aim to remain India’s top trade partner. In January, Secretary of State John Kerry reiterated the goal of multiplying U.S.–India trade more than fivefold, to $500 billion, over the next ten years. But beyond just that number, the U.S. should also aim to stay ahead of China in volume of bilateral trade with India. This will likely spur more day-to-day attention to the relationship than a theoretical longer-term target would.

Third, while consistently advocating for U.S. businesses, Washington should not allow individual companies to hijack the agenda. For instance, while India will undoubtedly benefit from opening up its retail market to Walmart and others, by no stretch of the imagination is this the most pressing economic issue facing the country.

India needs to liberalize its labor and land markets, reduce expensive food, fuel, and fertilizer subsidies, and privatize loss-making state-owned companies. Over time, as India’s economy becomes bigger and more outward-looking, many of these decisions will likely benefit U.S. companies. But they’re important mostly because they will unleash India’s own economic potential. Though the U.S. cannot make policy for India, it can certainly provide assistance to would-be Indian reformers who look to it for ideas and expertise.

During the Cold War, the U.S. understood that it had a stake in the economic success of countries as different as South Korea and Indonesia. Today, the future of Asia hinges, to a significant degree, on the evolution of India. If it pays off, America’s bet on India’s economy could be one of the most important investments it makes in the years ahead.

– Mr. Dhume is a resident fellow at the American Enterprise Institute.

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