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Impact Investing

IPE special report May 2018

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India: In a league of its own

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India is a prime example of the trend for emerging economies to decouple from developed markets. That’s not in the sense that they are immune from economic shocks in rich world, but that they have high long-term structural growth rates.

With more than a billion people—many of them young—India is in a league of its own. Only China comes close. But for decades since independence in 1947, India was saddled with the legacy of a centrally planned economy.

Swadeshi thinking—or the Gandhi-inspired pursuit of economic self-sufficiency—merely protected poor-quality Indian businesses against foreign competition. A derisory “hindu growth rate” contrasted with those of the neighbouring Asian tigers.

However, there has been a transformation since the 1990s. The country liberalised its economy and growth accelerated. For institutional investors worldwide, investing in India has now become an issue of “how best to”, not whether to invest at all.

Goldman Sachs says India has the potential to be amongst the world’s largest economies by 2050, along with the other BRIC countries of Brazil, Russia, and China.

The development is being driven by underlying factors such as population size, demographics and increasing urbanisation, along with a sizeable and rapidly growing middle class. Moreover, China’s one-child policy may mean the country grows old before it grows rich.

India with a much younger population does not face such challenges yet. But promotion to the premier league of economies is not guaranteed for India. To achieve this, Jim O’Neill and Tushar Poddar at Goldman Sachs have suggested that there are ten critical elements that are required. (See box: Goldman Sachs top ten list.)

Ensuring good governance is critical for any long-term investment strategy for India. But that can challenge even developed nations. The global financial crisis that the world is recovering from originated in a nexus of maligned interests between financial institutions in the US and Europe, not in emerging markets.

Yet India clearly faces deep-seated issues of corruption. They can be overt. But there is also a debilitating covert collusion amongst a wealthy business elite, politicians at both local and national level, and even the media. A prime example was the recent controversy over the award of telecom licences that revealed the unsavoury relationships between all three.

The real losers have always been Indian consumers, as the economy becomes burdened with inefficient firms relying on patronage to prevent competition. Yet the “license raj” that existed prior to liberalisation was much worse. The economy dominated was by a small group of companies that sprawled across every sector their boards could get a licence to operate in. But the future does look brighter.

There is a new generation of entrepreneurs that have been created over the past decade building companies that are themselves now spawning offshoots. Their success in an increasingly global trading environment is predicated on their competitive strengths, not on their political connections. This, combined with a growing well educated middle class, may be the best hopes for better governance in India.

For investors, political stability is a key issue. Domestically, the lumbering democracy that has prevailed in India despite all its drawbacks, has at least ensured stability. Even the darkest days of Indira Gandhi’s 19-month emergency rule, which ended in January 1977, proved to be a short-lived exception to India’s tradition of democracy; Gandhi herself even staged a spectacular comeback in 1980.

But when it comes to India’s current foreign policy, it does appear shambolic as it struggles to cope with an increasingly unstable Pakistan, a resurgent and increasingly=assertive China, and lukewarm relations at best with its other neighbours, Bangladesh, Nepal and Sri Lanka. Goldman Sachs argues that India needs to greatly increase trade with all its neighbours, which requires well-thought out political and economic strategies.

Perhaps one of the most profound long term developments for India may be the post-Cold War switch. Diplomats previously perceived India as part of the non-aligned bloc of nations that were surrogate Soviet allies. Now India is one of the key global allies of the US. Perhaps it was inevitable that the most powerful democracy in the world should be aligned with the most populous.

Much of the US’s technological strengths in Silicon Valley arose from people of Indian origin. As a result, emotional, political and economic links between the two giants are likely to be a key theme to guide India’s own future over the next few decades.

Infrastructure is still the Achilles heel for India. It may take 20 years to catch up with China. But there is an upside: investors will have plenty of opportunities for some time to come.

Nevertheless, land is emerging as the single largest constraint. Acquisition is sensitive, since indigenous communities with no formal title to where they live may be displaced.Goldman Sachs have outlined the key financial and economic factors for India’s long term success and there is every reason to be hopeful. There are always steps back with every few steps forward, but India is developing an efficient financial market infrastructure that provides the mechanism for efficiently allocating capital within a complex economy. One encouraging example is the effort to open up stock lending by the Bombay Stock Exchange and the National Stock Exchange.

However, the management and control of inflation and development of a credible fiscal policy are challenges that face not only India, but the developed world as well. What the last few years have shown, is that the US and Europe have lost the credibility that is only generated by success. Western central bankers cannot casually lecture developing countries on economic policy any more. India has to chart its own path, and how well that is undertaken is the final hurdle for any long-term investment in the country.

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