The Edgy Optimist

How India’s Economic Rise Could Bolster America’s Economy

Narendra Modi’s pro-reform government could do for the next decade what China did at the turn of the millennium.

Narendra Modi
India’s Prime Minister Narendra Modi emerges from a meeting room to receive his Bhutanese counterpart Tshering Tobgay before the start of their bilateral meeting in New Delhi on May 27, 2014.

Photo by Adnan Abidi/Reuters

In the coming weeks, the new government of Indian Prime Minister Narendra Modi—elected with a huge mandate and parliamentary majority in May—will release its first budget. Modi campaigned on a program of radically reforming the Indian economy, and this budget—and indeed his entire economic program—is hotly anticipated.

Modi has been a controversial figure in India. His party, the BJP, emerged as a Hindu nationalist institution, and Modi will have to show that he means to govern as a secular leader.* That said, if he succeeds in restructuring the Indian economy and integrating India more deeply into the global economic system, India might well do for the next decade what China did for the global system in the years after 2000.

Like China then, India has an immense population (1.2 billion, just about where China was in 2000) and has an economy that’s been touted as the next new thing, only to halt and sputter. China before 2000 was the place where Western dreams of avarice went to die. For much of the 20th century, Western investors venturing to China found only grief.

After joining the World Trade Organization in 2001, China’s growth averaged over 10 percent a year for the next decade. The nation became the dominant importer of raw material and high-end equipment, one of the biggest manufacturing nations globally, and the largest consumer market in the world. If India can pull off in the next decade even a fraction of what China did in the 2000s, the global economy—and specifically the American economy—will start looking substantially more robust than the current consensus would have it.

For many years, there have been serious concerns about long-term growth in India. Led by a rickety Congress Party coalition, the previous government couldn’t break the cycle of subpar economic performance and part the thickets of bureaucracy and corruption precluding reform. These failures were prime reasons for Modi’s victory. Even with Modi’s win, expectations for India haven’t been radically adjusted: India’s economy is still expected to grow 5.5 percent this year and a bit over 6 percent next year, according to the World Bank.

India currently has a per capita gross domestic product of about $1,500 a year in nominal dollars and about $5,400 in purchasing power; by comparison, China today is $6,800 in nominal terms and $11,900 in terms of purchasing power. But in 2000, the gap was much narrower; in purchasing power terms, China was at about $2,800 while India was at $2,000.  In those days, neither China nor India was seen as a major contributor to global economic growth. In its annual publication in 2000, the International Monetary Fund didn’t even discuss China until well into the report, and then only in a few brief paragraphs.

As we now know, China became the economic story of the decade. Rather than becoming primarily an importing nation, as the IMF predicted, China built a massive pile of foreign reserves, became a significant lender to the U.S., and created the fastest-growing consumer market in the world. In the process, it provided markets for U.S. companies ranging from GE to Nike to Ralph Lauren to Procter & Gamble.  It was the primary growth engine for hundreds of foreign companies, many of them American, that either gained business helping China’s industrial build-out or became a market for Chinese consumers. The rise of China was one reason why the economic crises of 2001–02 and 2008–09, painful though they were, were not substantially worse.

One of the first things the Chinese government did to accelerate its growth path was to open itself to foreign investment and competition—a process that accelerated after China joined the WTO. China also embarked on a massive urbanization program, crafting the world’s most modern infrastructure and then encouraging the move of hundreds of millions of people into cities. That process is not nearly complete.

Now, India looks to follow a similar path. While China has a centralized command-and-control government in Beijing, India has all the strengths and weaknesses of messy, decentralized democracy. But Beijing has always been more constrained in its dealings with provincial authorities than it’s commonly assumed, and India has a powerful central government that for more than 20 years has been constrained by coalition governments with no clear mandate.

And on the plus side, India has a larger and more consumer-oriented urban middle class today than China did in 2000. Modi’s government is widely expected to give priority to massive infrastructure projects and to more efficient taxes as well as middle-class tax relief. Modi has also indicated that he wants to open India to more foreign businesses. The inability of foreign companies to operate in India, along with domestic corruption, has presented a serious economic obstacle.

Modi has already demonstrated his focus on attracting foreign firms and foreign capital—a model he honed as chief minister for the state of Gujarat. But national laws hampered those efforts: India has restrictive regulations governing foreign firms’ ownership of Indian subsidiaries that have repelled foreign investment and business. In recent weeks, Modi’s new government has called specifically for India’s defense industry to open itself to competition. That may not be the most PR-friendly area for expansion, but opening the door to foreign defense firms is at least a first step toward opening up other industries. Modi’s government has also announced plans to up the limit of foreign investment in insurance companies.

These may be only hints of what’s to come. Even before Modi’s election, some observers have bet on India becoming the third-largest consumer base in the world by around 2030. More modest estimates see it as the fifth-largest consumer market by 2025.

But what if, with the aid of Modi’s reforms, India’s growth outstrips even the more optimistic predictions? What if instead of growing an anticipated 6 percent a year, India accelerates to 8 percent or 9 percent a year, with several hundred millions of ascendant middle-class consumers becoming more than half a billion in 15 years, or even 10. The demand for goods, services, and materials will far exceed current expectations, which will appreciably catalyze global growth.

Obviously, it is easier to have boundless potential than to deliver true dynamic change. If Modi and his party do deliver, the impact will be felt not just in India but across the global economy. The effect will be comparable to what happened after 2001, as China blossomed much more rapidly than anyone expected—and that in turn will notably impact U.S. growth. More Nike sales in China between 2000 and 2010 certainly boosted Nike’s profitability. More Caterpillar sales in China in those years did the same for Caterpillar parts suppliers in Mississippi and other parts of the U.S. The same point could be made for any number of American companies and the resulting effects on the domestic economy.

A surging India is one of those X factors that can radically alter our assumed glide path. We are all intuitively aware of looming black swans and other negative X factors that can sink us: war in the Ukraine, the dissolution of Iraq, climate change. We are less attuned to the X factors that can bolster us. China was one of those X factors a decade ago. India is one today.

*Update, July 2, 2014: This sentence has been updated to clarify that Modi has to show he aims to govern as a secular leader.