As the world’s largest democratic republic and the home to a substantial English-speaking population, India appears poised to establish itself as a powerful engine for global economic growth. Though India, already the fourth-largest economy by purchasing-power parity, is currently believed to be performing below its potential, the following indicators point to a more affluent future: a competitive business environment, a privatization agenda, a thriving services sector, and an increase in foreign direct investment. However, before achieving comprehensive economic sustainability, several key issues must be addressed.

According to Augusto Lopez-Claros, Chief Economist of the World Economic Forum, “The extent of bureaucratic red tape and excessive regulation remains a serious problem in India.” Resembling their previous history of central planning and nationalization, Indian governments have, in many respects, lost key opportunities for achieving economic reforms that could have rivaled the growth of the “Asian tigers.” The current prime minister, Manmohan Singh, a Cambridge-educated economist, is attempting to push a liberalization agenda through Parliament, but his efforts are hindered by the socialist factions in his coalition. Perhaps forgetting the reforms instituted by Singh when he was finance minister in the early 1990s, the opposition only hinders the process of removing the excess bureaucracy that constrains the Indian business environment.

Slow Beginnings

Following independence from Great Britain in 1947, India’s economy turned to centrally-planned autarky, replete with trade restrictions, industrialization, and state interventionism. Drawing on influence from socialism, especially Fabianism (trends not uncommon today), India achieved a lackluster growth rate, derogatorily referred to as “The Hindu Rate of Growth.” The attempts to balance the private and public sectors did not encourage economic growth rates similar to those in Japan and South Korea during the 1970s and 1980s. By thwarting the impersonal mechanism of the price system, state intervention prevented India from realizing its true economic potential. The domestic effect was devastating; the global effect, nominal.

The first Indian prime minister following independence from Great Britain, Jawaharlal Nehru, was responsible for much of the stagnation that plagued India and that continues to haunt it today. Spurred by a vision of a centrally-planned Indian economy tempered by a liberal, democratic government, Nehru’s nationalization only impeded growth. As Shashi Tharoor, author of Nehru: The Invention of India, wryly states: “Nehru’s India put the political cart before the economic horse, shackling it to statist controls that emphasized distributive justice above economic growth, and discouraged free enterprise and foreign investment.” If only such rhetoric were not so relevant today.

India’s economic reforms began in 1980, under the leadership of Indira Gandhi. These reforms increased flexibility for India’s private sector, opening the door for foreign investment and future innovation. In 1991 Singh, then finance minister, responded to a macroeconomic crisis by abolishing the “License Raj” (onerous regulations once required to start a business), reducing government involvement in the economy and enhancing private-sector ownership. As a result, foreign direct investment flourished, leading to today’s expanding economic growth.

The Challenges

In spite of the progress effected by Singh’s foresight, several factors have inhibited India’s economic growth. According to the United Nations Conference on Trade and Development’s (UNCTAD) Trade & Development Report 2004-2005, despite substantial tariff reductions, “India remains a relatively protected economy.” Currently, India’s tariffs average around 22 percent (or 18 percent in trade-weighted terms), somewhat higher than the respective global and Asian average tariff rates of 11.5 percent and 9.5 percent. Such tariffs do not allow Indian firms to compete adequately with international businesses since these tariffs may restrict innovation potential and reduce capital flows. The distortions resulting from tariffs can hamper India’s integration into the global economy by reducing its prospects for signing trade agreements with regional neighbors; these internally-created impediments may cause potential economic tension with competitors such as China and Japan.

The Indian economy, though primarily services-driven, requires an additional boost from its rather diminutive manufacturing sector. As currently typified by China’s skyrocketing growth, the manufacturing sector, at least for the short- to medium- term, can be a key driver of national economic growth in developing nations. Since the manufacturing and textile sectors are not too capital-intensive, many developing countries can exploit these opportunities to achieve rapid rates of economic growth, thereby alleviating poverty. India can improve with regards to these sectors. Certain policies, such as what the UNCTAD Trade & Development Report 2005 terms “restrictive labor laws and onerous red tape,” heavily restrict manufacturing growth, and can even have a secondary effect on the skills-focused information technology (IT) sector. Therefore, India’s manufacturing sector does not contribute to gross domestic product (GDP) as much as it would in other developing countries. The report further reveals that “the dominance of manufacturing was much less pronounced in India than it was in China throughout the 1980s and 1990s.” In this sector in particular, India is noticeably behind its Asian competitors; however, in the future, India may possess an advantage in exporting manufactured goods should China’s policy shift toward stimulating domestic demand for manufactures, thus lowering their current trade surplus.

Privatization also represents another issue of utmost importance to the future of India’s business environment. In 2003 the government was able to sell off a 27.5 percent stake in India’s largest car manufacturer, Maruti. The sale of Maruti, which helped to revitalize the Mumbai stock market, was one of India’s most successful, resulting in bids from more than 300,000 investors. Such favorable privatization has the possibility, if it is not restrained by governmental opposition, to enhance India’s competitive business environment in the long term while also improving economic efficiency.

A lack of infrastructure development also poses a great challenge to India’s future economic prosperity. Without proper infrastructure, current business endeavors incur higher input and transportation costs which, coupled with a lack of external competition, can only result in a drop in long-term productivity and efficiency. Historically, Indian governments had not properly invested in infrastructure and had not efficiently managed subsequent projects. For example, during the proliferation of “miracle seeds” (improved strains of cereals that lead to higher crop yields) in the 1960s that created the so-called Green Revolution, India’s government heavily centralized water distribution, leading to many of today’s shortages in the water infrastructure. A lack of proper infrastructure may discourage foreign investment because multinational corporations may be less inclined to utilize capital to develop the necessary infrastructure (such as roads and electrical grids) themselves. Due to the lack of foreign investment, India’s export potential may decline in the future. A 2003 World Bank report, authored by economists Marianne Fay and Tito Yepes Delgado, suggests that India, if it wishes to maintain its current economic growth, would need to increase annual infrastructure investment by 3 percent of GDP to around 7 to 8 percent of GDP.