View: India is not China. The new policy of state support to select sectors could be very risky
The government has announced a production-linked incentive (PLI) of 4-6% of sales, costing around Rs 2,00,000 crore (0.7% of GDP) over five years in 11 sectors for companies that commit to invest and increase production massively. This implies India is abandoning the earlier WTO vision of moving towards an open economy governed by international rules. Instead India seeks to copy China’s “industrial policy” or state support to select sectors to make them national champions. Very risky. India is not China.
Atmanirbhar means self-reliance. The government says this is not self-sufficiency, which was attempted — with disastrous results — by Nehru and Indira Gandhi. Atmanirbhar aims to produce not just for India but the world, making India an export hub with jobs aplenty.
This begs the question: what will India import? If India shuts out imports but exports massively, that will invite sanctions on Indian exports, as has happened to China. Beijing got away with this for many years since it was initially poor, exporting cheap labour-intensive products that did not threaten the West. Once it became richer, competing with the West in high-tech areas, it was condemned and sanctioned. That’s a warning to India.
At Davos two years ago, Prime Minister Narendra Modi championed open trade, criticising the US for protectionism. Today, he is going the same way. Import tariffs in several sectors have been raised for several years.
If all countries move from open, rules-based trade to inpidual atmanirbhars, the outcome will be a closed world in which all suffer. Remember the Great Depression of the 1930s? All countries tried to reduce imports and promote exports through tariffs and competitive devaluations. They forgot that one country’s imports are another’s exports. If all countries cut their imports, they will unwittingly cut their exports too, hitting production and deepening the recession.
When India was a poor country with limited exports, it could shut out imports without fear of retaliation. But a strong India will have to open itself to imports or face sanctions. The US under Trump imposed a series of trade sanctions on India, including denial of the duty-free Generalized Scheme of Preferences, hitting $6 billion of India’s exports. Maybe the Biden administration will relent, but historically Democrats have been more protectionist than Republicans. They will not take kindly to India’s industrial policy.
Self-sufficiency under Nehru and Indira produced only 3.5% GDP growth. The “infant industry” argument for industrialisation was that countries had to nurture infant industries for some time before they grew strong and competitive. However, the Indian “infants” refused to grow up and became uncompetitive geriatrics.
Nehru and Indira sought to create champions in the public sector catering to Indian demand, which was much too small to create scale economies or competitive production. Modi is different. He seeks to create industries that attract the biggest multinationals, creating massive production centres with top technology and scale economies that become global export hubs. That is a far better vision than Nehru’s. It still carries the risk of subsidising high-cost industries that never become competitive.
A seminal paper by Bhagwati and Ramaswami in 1963 implied that if a government sought to support a particular sector, that was better done by a subsidy than a tariff. Nehru and Indira took the tariff route and failed. The new PLI policy may seem a shift to the Bhagwati-Ramaswami line. However, for mobile phones, atmanirbhar has meant PLI plus substantial tariffs of up to 20%. This looks likely for other sectors. Such huge, double-barrelled support is worrying: can it ever be phased out? It can also lead to cronyism, with a favoured few making fancy profits from uncompetitive products.
In theory, such sops can create massive industries with competitive scale economies, after which the sops can be abolished. But that approach requires sunset clauses that clearly specify when the sops will end. This is essential to ensure that dubious companies never enter the fray, and those that fail will die rather than become eternally spoon-fed infants. That alone will ensure Atmanirbhar’s success. Alas, no end-date for either tariffs or PLI has been announced. The longer high tariffs and subsidies continue, the greater is the risk of ending in Nehruvian failure.
China succeeded because its land acquisition is cheap and fast. In India it is costly and constantly delayed. India’s electricity is among the costliest in the world, China’s is among the cheapest. China’s infrastructure and transport costs are very competitive, India’s is woefully uncompetitive. China has labour flexibility, India does not. Copying China does not just mean industrial policy and subsidies. It means massive reforms in other politically sensitive areas, which are difficult in a democracy. So far, they are woefully insufficient.
Views expressed are personal