India and the Global Economy A collection of essays presented at the Hudson Institute-Observer Research Foundation Roundtable on “India’s Economic Engagements with the World,” New Delhi, India, March 25-26, 2014 Edited by Husain Haqqani July 2014 India and the Global Economy A collection of essays presented at the Hudson Institute-Observer Research Foundation Roundtable on “India’s Economic Engagements with the World” held in New Delhi, India on March 25-26, 2014 Edited by Husain Haqqani © 2014 Hudson Institute, Inc. All rights reserved. For more information about obtaining additional copies of this or other Hudson Institute publications, please visit Hudson’s website, www.hudson.org ABOUT HUDSON INSTITUTE Hudson Institute is an independent research organization promoting new ideas for the advancement of global security, prosperity and freedom. Founded in 1961 by strategist Herman Kahn, Hudson Institute challenges conventional thinking and helps manage strategic transitions to the future through interdisciplinary studies in defense, international relations, economics, health care, technology, culture, and law. Hudson seeks to guide public policy makers and global leaders in government and business through a vigorous program of publications, conferences, policy briefings and recommendations. Visit www.hudson.org for more information. Hudson Institute 1015 15th Street, N.W. Sixth Floor Washington, D.C. 20005 P: 202.974.2400 [email protected] www.hudson.org Table of Contents Introduction India’s Reform Agenda Husain Haqqani 1 Innovation, Intellectual Property Rights and Healthcare Innovation, Intellectual Property Rights, and the Modernization of India’s Economy Robert Shapiro 5 Health Care in India: Challenges and Opportunities Kristina Lybecker 22 International Trade, Foreign Direct Investment & Capital Market Reforms Reforms and Global Economic Integration of the Indian Economy: Challenges and Future Directions Nagesh Kumar 46 Indian Capital Market Reforms Chaitanya Pande 67 Defense and Military Industries India-US Defense Ties Manoj Joshi 86 Building Toward A Partnership: The India-U.S. Defense Trade Relationship Roger Zakheim 99 Energy, Environment and Education Sector – Reform & Private Sector Participation Energy sector in India: The challenges Nitin Zamre 114 Skill Development in India: Navigating the Labyrinth Saurabh Johri 120 References 136 Introduction: India’s Reform Agenda Husain Haqqani ndia, the world’s largest democracy, has yet to realize its full potential as a leading global economy. The rapid economic growth that India has witnessed since the mid- I 1990s was ushered in through much-needed reforms. After being criticized by economists for low growth, India has finally earned a place among the world’s leading emerging marketsi. Further reform could lead India to further success among the BRICS – Brazil, Russia, India, China, and South Africa –and beyond. The Indian economy today is more integrated and more dependent on the global economy than ever before. The country has come a long way from decades of stalled economic growth, exchange rate fluctuations, a severely negative balance of payments, and intermittent crises. An insulated and largely socialist economy was liberalized, rescuing the country from the brink of default and initiating a period of sustained economic growth. Given the criticality of its external engagements, India needs to renew its commitment to reforms and better exploit the benefits of global integration. A number of sectors are still governed by rules and norms of the past that need to be liberalized, rationalized and strengthened to allow for resilient and sustainable growth. Some sectors offer immediate benefits and need to be prioritized while others need long-term and far- sighted reforms. The election of a new government, led by Prime Minister Narendra Modi and his Bharatiya Janata Party (BJP), presents an opportunity to advance India’s agenda of reform. Mr. Modi has a demonstrated commitment to free market ideals. His election reflects the Indian people’s embrace of an open, modern economy that allows individuals to realize their potential unencumbered by an over-weaning State. After independence in 1947, Indian policy makers preferred a heavily insulated, self- reliant economy, with a major focus on poverty reduction. India tried to achieve progress through state-directed industrialization and followed a socialist economic model. The focus was on import substitution and limited international trade. As a result, the Indian economy cycled through low productivity and slow growth, especially in comparison to its East Asian neighbors. 1 Introduction: India’s Reform Agenda The reforms that began in the 1990s catalyzed unprecedented growth rates that were driven by a large and young workforce and a growing consumption class. The rise of the Indian middle class to over 250 million and decline in poverty levels from 37 per cent to 22 per cent over the last decade is an outcome of these reforms and their attendant growth. To spur economic growth, India increased focus on exports, non-factor and labor services. This translated into increased capital inflows and foreign direct investment (FDI). Foreign investment in India increased from a meagre $132 million in 1991 to a peak of $43 billion in 2008. The country was lauded internationally for its reduction and rationalization of tariffs and removal of non-tariff barriers. The average tariff on consumer goods was reduced from 153 percent in 1990 to 25 percent in 1997. These reforms led to deeper integration of the Indian economy with the global economy. The share of merchandise trade has risen since 1991 and a dramatic transformation of services trade has occurred. India emerged as one of the most attractive destinations for FDI, as well as an important source of FDI outflows. The trade structure changed in terms of product composition and destinations and the economy became more diversified. But much of the export growth benefited from expansion in world trade and enhanced competitiveness. There is still a lot of potential for diversification in the economy and a number of opportunities are yet to be fully exploited. The opening up of the Indian economy in the early to mid-nineties ushered in a decade where 8-10 percent GDP growth rates became the norm. As India’s economy flourished, investors, policymakers, and Indian citizens began to believe that such high rates of growth would be the standard. But the stalling of reforms resulted in slowing down this momentum. During the last few years of the Manmohan Singh government, India’s growth rate hovered around the 4.5 percent level. Inflation reached a peak of 10 percent, and the current account deficit mushroomed to almost 4.5 percent of GDP. At a time when the government should have liberalized the markets for labor, energy, and land, India’s policymakers became complacent. Coupled with a global financial crisis that began in 2008, India’s economy began stagnating and the Indian miracle seemed a thing of the past. The election of the Modi government has rekindled hope for a new round of economic reforms that would revive economic growth. Anticipating the change, the Hudson Institute’s India and Globalization Initiative held a conference with the Observer Research Foundation in New Delhi on ‘India’s Global Engagements’ a few weeks before the Indian election of 2014. The purpose of the conference was to make a significant contribution to the ongoing debate about economic reforms in India. Scholars from India and the United States deliberated on policy ideas 2 India & the Global Economy that could lead to further opening the Indian market and integrating it with the global economy. India can achieve rapid economic growth via innovation by opening up its economy to foreign technologies. India must strengthen its intellectual property (IP) rights regulations and protect foreign investors that are exporting new technologies to India. Greater protection for foreign technologies will not only encourage growth and innovation, but will also bring in vital foreign direct investment. Chapter 1 in this volume discusses the challenges India faces and the policies that can be implemented to enhance innovation in the Indian economy. Spending on healthcare is only about 1 percent of GDP in India, making it one of the lowest spenders on healthcare in the world. A number of issues plague India’s healthcare sector, ranging from a lack of infrastructure and financing to a dearth of health workers across the country. Chapter 2 highlights the problems faced by India’s healthcare sector and argues that a well-rounded set of policies with participation from all stakeholders is needed to address the challenge. While India has emerged as a hub for IT outsourcing, it has lagged behind in exporting value-added manufactured goods. India has been unable to increase its share of technology-intensive manufactured goods. With wages rising and productivity falling in China, India has a great opportunity to attract FDI in its manufacturing sector. Chapter 3 argues that implementing a cohesive set of reforms that seek to encourage investment in the manufacturing sector will go a long way in kick-starting India’s stagnating economy. Sturdy capital markets form the backbone of any modern economy, especially one seeking to achieve high rates of development. India will require over $500 billion just for funding its infrastructure needs in the next five years, making capital markets reform a critical component of the reform agenda.