Friday, June 24, 2011

India – Superpower in the Making

It’s a new India. It’s a new journey, a journey from poverty towards prosperity, from tradition towards modernity, from a nation protected in the garb of license raj to a nation ready to compete in the global firmament.

India has come a long way, since it embraced the market economy in 1991. The economy has undergone significant changes since then, which have made it an attractive global destination for businesses and trade, thanks to the forces of liberalization and deregulation that have unleashed an environment which is on par with some of the best in the world. Its strong macroeconomic performance (with average annual GDP growth of about 6%) has propelled it to emerge as the fourth largest economy in the world, on account of purchasing power parity. It has a well developed banking system and a vibrant capital market. Further, with a billion plus population where every sixth person in the world is an Indian, the fast growing middle class, the competitive world class enterprises and the growing purchasing power, the economy has been growing more than twice as fast as the US economy.

And there is more good news. India is fast emerging as a land of incomparable opportunities. The whole world is looking at India’s unlimited new business opportunities. The country’s economic and other achievements are getting recognized the world over. Even the world’s lone superpower recognizes it. This is reflected in the statement made by the US Secretary of State, Randy Daniels, who remarked, “India is indeed a beacon for peace and growth, not only for the region, but also for the entire world.” More and more global organizations are setting up their bases here. The “Made in India” label is increasingly becoming a respected global brand, for its competitiveness, reliability and quality, more so after the country’s IT industry’s stellar success.

Against this backdrop, the country is all set to become an economic superpower. It is indeed a significant development for a country that was labeled as one of the ‘third world’ nations for nearly 45 years. Now, that is a thing of the past. Indian economy in recent times has shown exceptional resilience in absorbing external shocks like oil market fluctuations and worldwide recession. Today, a new sense of confidence is emerging, a new sense of pride is there, and there is a willingness to emerge as an economic superpower. And that does not look unrealistic. To its credit on the demographic front, 50% of the population is less than 25 years of age. This means that the domestic demand is high and is less dependent on exports. Allan Conway of Schroders, a US-based fund manager expresses optimism about the present growth, as he says “Emerging markets such as India have to rely on international trade in the initial stages of development, but as employment grows and people get wealthier, they become a rich source of domestic demand that can sustain the economy.”

The recent World Bank study describes India as an emerging giant that is likely to become an economic powerhouse in 25 years. The study further reveals that India has a huge pool of well-educated, technically-trained people, proportionately much larger than in China or Southeast Asia; India’s number of scientists and engineers, for example, is second only to that of the United States. If their skills can be tapped, they represent an unparalleled resource. “There is an assessment that India’s power on many fronts is growing steadily and that other countries must develop a working relationship with it,” says Stephen Cohen, Senior Fellow in Foreign Policy Studies, Brookings Institution, US, who predicted the rise of India in his book, “India: Emerging Power”. He believes that India is finally reaping the benefits of steady reform process that will translate into enduring growth. “The biggest change the last decade witnessed was that the world at large recognized that India can deliver technologically superior products, competitively. The country’s expertise in IT, Pharmaceuticals and Heavy Engineering has been accepted globally,” says a CEO of India-based company. He predicts that these three industries will drive future growth.

According to a recent report by Goldman Sachs, a leading global investment banker, the Indian economy is expected to be the third largest in the world by 2050, after the US and China, overtaking France, Germany and Japan. Adam Matthews,

Asia-region specialist with JP Morgan Fleming, echoing the same view said, “India is being rated even higher than China at the moment, and is a hot market right now.” Overall, all sectors of the economy are facilitated by a host of factors, such as growing agricultural production, stable prices, falling interest rates, and, of course, political stability in general, and the restoration of goodwill between India and Pakistan, in particular. On the employment front, Indian IT majors as well as foreign outfits like Microsoft, IBM, Accenture, HP, Sun Microsystems, Dell, Reuters, J P Morgan, Citi Group, HSBC etc. are creating new jobs, which augurs well for the economy.

Emerging Trends
Overall, the economy is witnessing a stable macro-economic framework of high economic growth supported by modest agriculture growth and robust industrial and services sector growth. Accordingly, the strength of the Indian economy is evidenced by key macro-economic indicators like low inflation rate, burgeoning foreign exchange reserves and a favorable interest rate regime. These indicators are at work to help India emerge as the economic powerhouse. On the other hand, it is rapidly creating world-class knowledge-based industries, which have emerged despite less government support and have helped to boost the economy. The IT revolution, telecom growth and pharmaceuticals have changed the face of India. The rapid growth of service sector is turning the country into a global hub for servicing MNC clients. Business Process Outsourcing (BPO) has served the cause of India further to emerge as a preferred destination for MNCs.

 After the great success in the field of Information Technology (IT), India now dreams of becoming the most preferred destination for BPO ahead of countries such as Philippines, Mexico and Ireland. The BPO industry comes as a great opportunity for India. It could really be a shot in the arm for the Indian economy going by the country’s rich talent pool. It has the second largest English-speaking people with computer skills in the world after the US and with education being a priority in most Indian families, this is bound to rise in the future. Going by this, BPO is definitely a sunrise sector in India with bright prospects in the long-term.

On the other hand, India’s manufacturing sector is on the strong growth path as global companies are favoring India as the major manufacturing hub to leverage its cost advantages and growing domestic market. On the domestic front, India Inc. is building global brands by taking cost-cutting measures and productivity improvement initiatives. Besides, a combination of business entrepreneurship and social entrepreneurship is developing rapidly. More and more companies are joining this bandwagon. For many years India was considered as the service economy, but revival in manufacturing sector has shown the future potential for the economy. India’s competitive advantage in the manufacturing sector is going well beyond the labor advantage. For instance, the average wage in India is about £300 a year compared with more than £20,000 in Britain. India is well-placed in providing the professionals to industry, well-trained engineers and technicians compared to other developing economies like China, Thailand and Malaysia. India’s inherent strength lies in engineering designs, process innovations and R&D. Besides the labor advantage, India has huge untapped domestic market and abundant raw materials like iron ore, bauxite etc, which are basic inputs for several manufacturing industries.

Against this background, the movement of the Indian rupee was unidirectional. In the last couple of years, on the back of a strong economic growth and increased interest from the foreign investors, the rupee started gaining strength vis-à-vis the US Dollar. However, the rupee appreciation affects India inc., positively as well as negatively. The Net Importers like the oil companies would gain from dollar depreciation but export oriented companies especially in Pharmaceuticals, Software and ITES stand to lose. If the dollar appreciates the fortunes would reverse. Ashima Goyal, Professor, IGIDR suggests that the RBI has to keep in mind not only what is happening to the US exchange and interest rates, but also the changes in the Real Effective Exchange Rate (REER), relative productivity and what competitors such as China are doing.

Though India has great potential; a lot still needs to be developed. But for that potential to be realized, its promise must not be treated as an instrument of short-term electoral popularity. India being an agrarian economy, the performance of agriculture is very important not only from the point of view of economic growth but also for the well-being of the majority of the population. The sector that provides 60% of employment is virtually stagnant and its development has been systematically ignored both by the central as well as the state governments.

Besides, the biggest challenge is to raise the per capita income and standard of living of these people. To sustain the tempo of growth, it is imperative to make the sector economically rewarding. Another important issue that needs to be addressed for achieving a vibrant economic growth is regional disparities. In the post-reform era, it is found in many studies that regional disparities in terms of growth have widened. Also, very few states have adopted the reform measures. Experts suggest that to achieve high growth with low incidence of poverty, India needs to focus on regional development.

Overall, there are bad things accompanying good things. Economists say that the broad-based fundamental improvements in macroeconomic scenario should not make policy makers overlook some key areas of concern. Though it is a happy moment for Indians to observe the economy graduating up the ladder of growth, it is too early to celebrate the observation.

Notwithstanding the fact that the country is witnessing strong growth it is not reflected in the overall improvement of living standards. The government will have to put its shoulders to the wheel in order to attain and sustain the growth rate in GDP. It will have to come up with reforms by way of enhancing public and private investments in infrastructure, strengthening the financial sector and capital markets and deepening structural reforms and regenerating industrial growth. The country must pay attention to its ballooning public debt and inflating high fiscal deficit. It must also consolidate tax reforms and continue fiscal adjustment at both the Central and the State levels. Besides, pressing issues like high level of poverty, lack of proper education to the masses, inadequate infrastructure must be tackled on war footing, and then only India can emerge as an economic powerhouse.

N K Singh, Member, Planning Commission, suggests, “The competitiveness of the Indian economy would need to be substantially improved through a continued soft interest rate regime, lower cost of financial intermediation, credible labor reforms and managing expectations about the appreciation of the rupee - in the face of rising reserves - to prevent erosion of export competitiveness.”

The Global Economic Power in the Making
Although a section of experts express pessimism that India’s economy and economic policy are still relatively inward looking and it seems unlikely that India will become a dominant player of the world economy in the current decade, given the government’s desire to push reforms process, the situation in the next decade may be quite different. The journey towards becoming economic powerhouse has already started and is gathering momentum.

Along with China, India is going to create a new kind of balance in Asia. Goldman Sachs predicts that growth in India could actually exceed that of China by 2015. Further, India will overtake Britain in 2022 and Japan in 2032 to become the third-biggest economy in the world, after China and America. “There is every hope that the present challenges will be tackled successfully in the years ahead. India in 2020 has every reason and chance to become at least a mid-sized economic power,” says V Anantha-Nageswaran, Founder-Director of LIBRAN, Asset Management, Singapore.

Let’s welcome the new confidence to pave the way for an emerging economic powerhouse. The positive factors mentioned above would help accelerate growth rapidly in the coming decades. In the light of these developments, undoubtedly, the future is going to be India’s.
Image source:

N Janardhan Rao, Lead Economist.

Commodities Market – An Overview

In a new era of trading environment, commodities exchanges offer innumerable economic benefits by facilitating efficient price discovery mechanisms and competent risk transfer systems.

Ever since the dawn of civilization commodities trading has become an integral part in the lives of mankind. The very reason for this lies in the fact that commodities represent the fundamental elements of utility for human beings. The term commodity refers to any material, which can be bought and sold. Commodities in a market's context refer to any movable property other than actionable claims, money and securities. Over the years commodities markets have been experiencing tremendous progress, which is evident from the fact that the trade in this segment is standing as the boon for the global economy today. The promising nature of these markets has made them an attractive investment avenue for investors.

In the early days people followed a mechanism for trading called Barter System, which involves exchange of goods for goods. This was the first form of trade between individuals and even nations. The absence of commonly accepted medium of exchange has initiated the need for Barter System. People used to acquire those commodities which they lacked in exchange of those commodities which are in excess with them. The commodities trade is believed to have its genesis in Sumeria. The early commodity contracts were carried out using clay tokens as medium of exchange. Animals are believed to be the first commodities, which were traded, among individuals. The internationalization of commodities trade can be better understood by observing the commodity market integration that occurred after the European Voyages of Discovery during the 15th century. The development of international commodities trade is characterized by the increase in volumes of trade among the nations and the convergence of price related to the identical commodities in different markets. The major impetus for the commodities trade was provided by the changes in demand patterns, scarcity and the supply potential both within and across the nations.

Development of Commodities
In the context of the development of commodities markets, integration plays a pivotal role in surmounting the barriers of trade. The major drive for the integration of commodities trading was given by the European discoveries and the march of the world trade towards globalization. However, the commodities trade among different countries was originated much before the voyages of Columbus and Da Gama. During the first half of the second millennium, India and China had trading arrangements with Southeast Asia, Eastern Europe, the Islamic countries and the Mediterranean. The advancements in shipping and other transport technologies had facilitated the growth of commodities trade. The unification of the Eurasian continent by the Mongols increased the flow of people, ideas and goods. Later, the Black Death of 1340s, the killer plague that reduced the population of Europe and Middle East by one-third, has resulted in more per capita income for individuals and thus increased the demand for Eastern luxuries like precious stones, spices, ceramics and silks. This has augmented the supply of precious metals to the East. This entire scenario resulted in the increased reliance on Indian Ocean trade routes and led to the discovery of sea route to Asia.

The second half of the second millennium is characterized by the connectivity of the markets related to the Old and the New Worlds, which saw the the light in the aftermath of Europen Discovery. In the year 1571, the city of Manila was found, which linked the trade between America, Asia, Africa ad Europe. During the initial stages, because of the high transportation costs, preference of trade was given to those commodities, which had high value to weight ratio. In the aftermath of the European discoveries huge volumes of silver was pumped into world trade. With the discovery of the Cape route, the Venetian and Egyptian dominance of spice exports was diluted. The introduction of New World crops to China lead to the increased demand for silver and a growth in exports of tea and silk. Subsequently, Asia became the prime exporter of spices and silk and Americas became the prominent exporter of silver.

Trading in Commodities
Earlier investors invested in those companies, which specialized in the production of commodities. This accounted for the indirect investments in commodity assets. But with the establishment of commodity exchanges, a shift in the investment patterns of individuals has occurred as investors started investing directly in commodities rather than in the companies which produced them.

The establishment of these exchanges has benefited both the producers and traders in terms of high profits and low transaction costs. Commodity exchanges play a vital role in ensuring transparency in transactions and disseminating prices. The commodity exchanges ensured the standard of trading by maintaining settlement guarantee funds and implementing stringent capital adequacy norms for brokers. In the light of these developments, various commodity based investment products were created to facilitate trading and risk management. The commodity based products offer a huge array of benefits that include offering risk-return trade-offs to investors, providing information on market trends and assisting in framing asset allocation strategies.

Commodity investments are always considered as defensive because during the times of inflation, which adversely affects the performance of stocks and bonds, investments in commodities enabled the investors to defend the performance of their portfolios.

The commodities trade in the 18th and 19th centuries was largely influenced by the shifts in macro economic patterns, the changes in government regulations, the advancement in technology, and other social and political transformations around the world. The 19th century has seen the establishment of various commodities exchanges, which paved the way for financing and warehousing facilities in this arena. In a new era of trading environment, commodities exchanges offer innumerable economic benefits by facilitating efficient price discovery mechanisms and competent risk transfer systems.

Trading in Commodities Derivatives
Another major leap in the development of commodities markets is the growth in commodities derivative segment. Derivatives are instruments whose value is determined based on the value of an underlying asset. Derivatives are useful for both the producers and traders for the mitigation of risk in their business. Forwards, futures and options are some of the well-known derivatives instruments widely used by the traders in commodities markets.

Derivatives’ trading has a long history. The first recorded incident of commodities derivatives trade can be traced back to the times of ancient Greece. In the year 1688 De la Vega reported the trading in 'time bargains' which was commonly used term for options and futures in those days. Though the first recorded futures trade was said to have happened in Japan during the 17th century, evidences reveal that the trading in rice futures was existent in China, 6000 years ago. Trading in futures is an outcome of the mankind's efforts towards maintaining the flow of supply of seasonal commodities throughout the year. Farmers derived the real benefits of derivatives contracts by assuring the desired prices are paid for their products.

The volatility of prices made the commodity derivatives not only significant risk hedging instruments but also strategic investment assets. Slowly, traders and speculators, who never intended to take the delivery of goods, entered commodities trading. They traded in these instruments and made their margins by taking the investment asset advantage of price volatility in commodity markets.

The dawn of the 21st century brought back the good times for commodity markets. With the end of a 20 year bear market for commodities, following the global economic recovery and increased demand from China and other developing nations, has revitalized the charisma of commodities markets. According to the forecasts given by experts commodities markets are likely to experience a bright future with the depreciation in the value of financial assets. Furthermore, increasing global consumption, declining U.S. Dollar value, rising factor-input costs and the recent recovery of the market from the clutches of bear trend are considered to be the positive symptoms, which contribute to the acceleration of growth in commodity markets segment.

The Indian Connection
Coming to the Indian scenario, despite a long history of commodity markets, commodity markets in India are still in their initial stages of development. The reasons for this can be attributed to stringent regulatory interventions, intermediate ban on commodity trading and policy interventions by the government. Commodity markets have a huge potential in the Indian context particularly because of the agri-based economy. With the government's initiative for agricultural liberalization, commodities' trading in India has gained increased momentum in activities. To increase the efficiency of the markets the Forward Markets Commission (FMC), the governing body of commodities trading in India has taken several initiatives for the establishment of national level multi-commodity exchanges in India. These exchanges serve as platforms for facilitating transparent trading, trading in multiple commodities, electronic delivery systems and efficient regulatory mechanisms, creating a world class environment for Indian traders. In order to sustain the increasing volumes in commodities trade, the need for proper clearing and settlement systems, warehousing facilities and efficient pricing mechanisms has been identified. With the recent boom in commodities markets, Indian participants are gearing up for exploiting the potential opportunities in the future.

Commodity markets are of great help not only for their participants but also for the economy as a whole. The twenty year bear market for commodities has drastically reduced the prices of many commodities to their lowest levels. The present shift in trend in commodity trading coupled with the global increase in demand will certainly hold a promising future for the investments in this segment. This book provides the impetus for the readers to understand the evolution and development of commodities markets and their significance in the arena of strategic investments.

N Janardhan Rao, Lead Economist.

India as Knowledge Superpower

India should aim to have entrepreneurial skills, efficient social organization, and education that encourage creativity and curiosity, as the building blocks to develop itself into a knowledge superpower.

Little knowledge is indeed a dangerous thing. More so in today’s information age where knowledge plays an integral part in the development of an economy. Today, no economy can remain competitive without applying knowledge and, currently, the most technologically advanced economies are truly knowledge-based. Lester C Thurow, noted MIT economist, writes in his book Building Wealth: The New Rules for Individuals, Companies and Nations, “Knowledge is the new basis for wealth. This has never before been true. In the past, when capitalists mentioned about their wealth, they were talking about their ownership of plant and equipment or natural resources. In the future when capitalists talk about their wealth, they will be talking about their control of knowledge.”

Therefore, in the coming years, it is just knowledge, knowledge and more knowledge that will rule the world! Tangible or physical resources are pass√© and knowledge is the “in thing”. India too has realized this, and is gradually and successfully transforming into a knowledge-based economy.

Taking a cue from other knowledge-based economies that are progressing and doing well globally, India is surely catching up with the trend and gradually transforming into a knowledge superpower. The country is well on its way to harnessing novel as well as existing knowledge to improve the productivity in agriculture, industry, and services for the overall economic and social welfare.

The availability of skilled, English-speaking knowledge workers, a well-functioning democracy, and its large domestic market are providing the country with the much required advantage to evolve into a knowledge economy. The consistent and remarkable development of Information and Communications Technology (ICT), a free-market economy, and an efficient private sector are the strengths the country can rely upon. However, Indian culture has always valued knowledge very highly, and these cultural values too are responsible for driving the country towards being a knowledge economy.

Towards the Knowledge-based Economy
The world is witnessing the dawn of the information age in which knowledge is the standard of measurement. More than 50% of the Gross Domestic Product (GDP) in the major OECD economies now depends on the production and distribution of knowledge. Countries like the US, Canada, Australia, Ireland, and Singapore have embraced the knowledge economy and are experiencing strong GDP growth as a result. But what exactly do we mean by a knowledge economy?

According to the United Kingdom Department of Trade and Industry, “A knowledge-driven economy is one in which the generation and exploitation of knowledge play the predominant part in the creation of wealth”. All in all, knowledge economy is based on human ingenuity and skill, and an exclusive dedication to innovation through research and development.

The Knowledge-Based Economy (KBE) emerges from two crucial forces: the rise in knowledge intensity of economic activities and the increasing globalization  of economic affairs. While the former is being driven by combined forces of Information Technology (IT) revolution and the changing face of technology, the latter is being driven by national deregulation and by IT-related communications revolution. Unlike the traditional factors of production, the source of wealth is not finite. The knowledge economy produces goods and services effectively at lower costs to a greater number of people. Research indicates that a KBE comprises four main elements. These four structural forces driving the economic transformation are: revolutionary changes in Information and Communications Technology (ICT), rapid scientific and technological advancement, global competition, and shifting consumer demand.

India’s inherent strengths are the pillars of support for its transformation into a knowledge economy. The key ingredients include a critical mass of skilled, English-speaking knowledge workers, and of course a well-functioning political system. Rapid advances in important knowledge-based sectors like ICT, pharma, R&D, health care and nanotechnology are fast turning India into a force to reckon with. According to R A Mashelkar, director general, Council of Scientific and Industrial Research of India, “India is already gaining international repute for its innovations in areas ranging from pharmaceuticals to software.

Information Technology will achieve even more as it improves the efficiency of public R&D, increases private R&D, and encourages greater university-industry linkages. It is leveraging traditional knowledge with modern science and exploiting public-private partnerships to support grass roots innovations, which can improve the quality of life for the poor. An example is the Computer-based Functional Literacy Program, initiated by Tata Group to overcome illiteracy through innovative use of IT”.

The time is very favorable for India to make its transition to a knowledge economy. However, it is not new to the idea of knowledge being central to the development and progress of a country. A 2005 World Bank report titled “India and the Knowledge Economy – Leveraging Strengths and Opportunities” by Carl Dahlman and Anuja Utz says, “The notion of a new knowledge economy is not new or foreign to India. India’s past achievements in science, philosophy, mathematics, and astronomy reinforce the notion that the country has, for millennia, been a leading knowledge society”.

The country has always valued knowledge highly and it is this culture that is driving the country towards a knowledge base. John Daly, a US-based freelance consultant working on issues of technology and science for developing countries opines, “I see India’s growth in knowledge-intensive fields continuing. And that growth is yielding substantial long-term economic and social benefits to India.” India’s consistent economic progress on the back of its services-led growth has the world mesmerized.

Commenting on India’s almost magical growth and progress Thomas L Friedman, author of The World is Flat, said, “You’re seeing an explosion of 10 years of pent-up aspirations. If you want to know what India feels like today, it’s very simple. Pull out a champagne bottle, shake it for an hour, and take the cork off. You don’t want to get in the way of that cork.” This quote perhaps sums up the kind of perception that India is currently viewed with.

Sectors Already Thriving
India is doing exceptionally well and is showing great promise in the realms of pharmaceuticals, IT, nanotechnology, biotechnology, R&D, and animation. John Daly opines, “Clearly, software and ICT-enabled services are important industrial drivers. I expect to see areas such as pharmaceuticals increasingly important, and India benefit economically from nanotechnology-based industries.” Indianpharmaceutical companies are successfully discovering new chemical entities for diseases.

In the domain of nanotechnology, the country has 154 research centers, mainly focusing on new drug delivery systems. India has also tied up with the US in the area of nanotechnology, which is anticipated to produce new vistas. In biotechnology, India takes the credit for discovering an alternative fuel—Jatropha, which is changing the oil dependency pattern of modern civilization. India is also making swift progress in the area of stem cell research. Three major Indian institutions are finding the cure for glaucoma, eye ulcers and chemical incidences through the application of stem cell research.

Information Technology and offshoring services have been major contributors to India’s economic growth in the recent past. According to McKinsey, share of IT Software and Services Industry in India’s GDP is expected to reach 7% of GDP in 2008 from 4.1% of GDP during 2004-05. R&D, too, has gained significant momentum and is attracting multinationals to invest in the country.

A host of international IT bigwigs made a beeline to India recently, and announced huge investments in R&D. Foreign IT giants like Intel, Cisco Systems, Microsoft have announced billion dollar investments in India and a large chunk of these amounts is assigned to the R&D sector. The increasing importance given to the R&D activities by domestic companies across various sectors is also attracting foreign players to invest in India. For instance, according to a study of 25 domestic drug companies, the R&D expenditure of these companies went up sharply by 42% to Rs.1814.65 cr during the fiscal year 2004-05 from Rs.1278.08 cr in the previous year.

Leveraging the Opportunities
India needs to seize the opportunities provided by the knowledge economy, and according to experts, innovation is the key to development and progress. A significant part of India’s innovation system is the dispersion of modern and more efficient technologies in all sectors of the economy. As John Daly avers, “I don’t think India will progress as much as it should without a policy environment that encourages investment and innovation. And I think it is important to strengthen institutions including India’s participation in international markets, legal institutions, governance institutions, intellectual property rights institutions, etc.”

India has a vast pool of highly educated and talented people. However, they relatively represent a small fraction of the total population. The country has a majority of the labor working in sectors like agriculture, informal industry, and informal service activities. To increase the overall productivity of the country, workers should be moved from these low productivity and subsistence activities to more contemporary sectors and to new knowledge-based activities, which are more productive and will also help in bridging the economical divide.

John Daly opines, “In the sense of using improved knowledge as a driving force behind all aspects of Indian development, I think the development of the knowledge economy is central to the overall development. The experience in Western nations is that improved technology and improved organization drive the productivity improvement that in turn drives long-term growth. Thus, modern knowledge institutions are critical to improving agricultural productivity, providing good health services, etc.” Economic success in today’s KBE increasingly depends upon the effective utilization of intellectual capital such as employees’ knowledge, skills, innovative potential, as well as their ability to continuously improve those processes.
Employment in the KBE is characterized by increasing demand for more highly skilled workers, also called “knowledge workers”. In advanced economies such as the US, more than 60% of workers are knowledge workers. Knowledge workers are termed as “symbolic analysts”—people who manipulate symbols rather than machines. Anuja Utz, co-author of the report says, “To create a sustained cadre of knowledge workers, India needs to make its education system more demand driven to meet the emerging needs of the economy and to keep its highly qualified people in the country.” She further adds, “This means raising the quality of all higher education institutions, not just a few world-class ones, such as the Indian Institutes of Technology.”

The ICT sector in India is progressing swiftly and is responsible for dramatically changing the face of economic and social activities, and the acquisition, creation, dissemination and use of knowledge. The World Bank report titled “India and the Knowledge Economy” says, “India’s IT companies are moving up the value chain, and India is now undertaking new and innovative work, such as the management for clients of IT-related business processes”. India should leverage this opportunity as it has already proved its prowess in IT and IT-enabled services.

Challenges to Overcome
India is currently facing a slew of problems, and manpower shortage is one of them. It needs to maintain a constant flow of skilled manpower to sustain the high rate of growth in various sectors. According to the Nasscom-McKinsey Report 2005, India will need a 2.3 million strong IT and BPO workforce by 2010 to sustain its share in the global market. If the quality of education is not upgraded immediately, a shortfall of nearly 0.5 million qualified employees is estimated, of which 70% will be concentrated in the BPO industry alone.

The biotech industry, which is worth Rs.4,745 cr and growing at a rate of 37%, is also facing a huge demand-supply gap for experienced technical and marketing professionals. Another high action-packed area, i.e., the retail industry, which accounts for 11% of India’s GDP, is facing a serious talent crunch. Not only is the number of educated unemployed increasing, but also the demand for skilled professionals is growing day by day in the country. India produces around 200,000 scientists, engineers and technicians annually. However, the country fails to derive full economic benefit from this talent base, because of the mismatch between education and the labor market. A growing gap is emerging between the knowledge that they possess and the real practice. The low wages in India lead to brain drain, which is also a major hurdle to a country growing as a knowledge economy. Immediate efforts should be made to advance policy and institutional reforms in scientific and technical education to improve the quality of India’s existing and future talent pool.

Apart from the talent crunch, there are a few more fronts that India needs to work on for a smoother transition to a knowledge-based economy. The country lacks an efficient information infrastructure, which is one of the most important factors for the nurturing of knowledge. India also needs to rev up its efforts to tap the swiftly growing stock of global knowledge through channels such as FDI, technology licensing, importation of capital goods that embody knowledge, and also advanced products, components, and services. When compared to other countries like China, India relatively lags behind in effectively using these resources.

Considering the pace with which knowledge is being globalized, it would be logical to seek knowledge beyond borders. Also, the fact that India has the largest number of illiterates in the world cannot be forgotten. As John Daly concurs, “I would suggest that educational excellence must be spread much more widely if India as a whole is to enter the knowledge economy. It would be very unfortunate if a dual society is institutionalized with an educated elite participating fully in globalization, and an uneducated majority left behind.”

A Knowledgeable Future
Currently, India is undergoing a gradual transition towards a knowledge-based economy. The dramatic increase in the number of global companies outsourcing their knowledge processes to India is also proof enough that India is no longer perceived just as the “back office” of the world. While a majority of India’s population still consists of rural and illiterate people, the scenario gradually seems to be changing. Even in slums of Delhi or Mumbai, children are being educated and becoming aware of IT from a very young age, and this is certainly going to help India in the long run. As C K Prahalad, an Indian-born American and renowned business consultant said, “Every kid here who is walking around is getting trained to be an entrepreneur, to hustle, and to get a little bit more than he or she has.”

However, for the country to have an effectual transformation into a knowledge economy, it needs to act in different policy domains, “deepening, complementing, or reorienting” ongoing reforms to use knowledge efficiently and to sustain development in the long run. India needs to understand that policy reforms of any kind would not yield results overnight. Consistent and collaborative efforts from the government, industry and academia are necessary to make India a knowledge-based society. More and more R&D activities are the need of the hour. Kiran Karnik, former president, NASSCOM, opines, “The future lies in knowledge and technology, for economic strength, poverty eradication and military security.

India’s government and industry must wake up to this reality and invest more in R&D.” The masses and all the stakeholders in the government, private sector and industry need to be made well aware of the plans and the needs to transform India into a knowledge-based economy, because the future lies in “Brain, not brawn”. Success of countries, companies and individuals will directly depend on the knowledge they possess, and how effectively and efficiently they put it to use.

N Janardhan Rao, Lead Economist.

Thursday, June 23, 2011

Real Estate Sector: Caution is the Key

The boom and fallowed by the mild slowdown, Indian policy makers are now trying hard to ease its regulations and encourage FDI into the sector.

India has come a long way during the last two decades backed by a strong middle-class and the youth who make up half of its population. It is a young nation, with businesses enjoying good times. India is now one of the fastest growing economies in the world after China. Amidst these developments, the real estate market in India has witnessed significant changes in the last few years and is witnessing another boom spurred by the IT and BPO businesses, and availability of cheap housing loans. These factors have created a new demand for commercial and residential houses.

Most importantly, FDI is now allowed in real estate in India. Overall, the sector is scaling up, of course against many odds: unclear titles, absurd tenancy laws, poor building standards, etc. With the ongoing liberalization in the sector, various foreign investors have shown a lot of interest to participate in the real-estate industry in India. And the industry looks all set to emerge as a big opportunity for investment.

Behind the Recent Past Boom
Over the last decade, the average household income in urban areas has grown at a CAGR of 5%. According to estimates, 80% of the real estate developed in India is residential space and the remaining 20% comprises offices, shopping malls, restaurants and hospitals. According to the 10th Five Year Plan, there will be a shortage of 22.7 million housing units by the year 2007. The changing lifestyles of Indians and better incomes have led to the development of retail and hyper malls. This, in turn, has led to the demand for space from the retail sector. Besides these driving factors, Venkat Raja, Senior Advisor at Real Estate and Infrastructure Research, RREEF/DB Real Estate, a global real estate consulting firm based in the US, says, “The primary drivers of real estate growth in India are: acute shortage of quality real estate; increasing consumer spending and affordability; changing demographics; gradual improvements in infrastructure providing access to lower cost land; governmental relaxation of legal barriers to investing in real estate and a general decline in term structure of interest rates.” The government is preparing to open up retail trade to FDI and the entry of global retailers, such as Wal-Mart, Carrefour and Tesco, is expected to fuel demand for commercial space in the coming days. However, with increasing interest rates during the past six months the dreams of owning a house has became a distant dream today for most people. 

Alarming Signals
Amidst the euphoria, it would be prudent to tread with caution. As history suggests, such euphoria has led bubbles in countries like the US and the UK. Japan has also had its share of pain. And who would forget the real estate mania witnessed in South Asian countries in the late 1990s, which ultimately culminated in a grave economic crisis that threatened to engulf other nations too.

The rapidly rising prices in the real estate market give rise to fear about a possible bubble in the making. If we go by the rate of Rs.50,000 and Rs.70,000 per sqare foot in Mumbai and housing plots in Delhi’s suburb of Gurgaon at Rs.100,000 per square yard, it is very clear that an asset price bubble is building up. Especially, when watching the key ratio that relates construction cost to sale price. The construction cost of most flats on the market today will be between Rs.1,000 and Rs.2,000 per square foot, depending on the quality of work and the materials used. Experts opine that when the real estate sector reached the stage where a premium flat in Mumbai commands a higher price than the average flat in Manhattan (about Rs.40,000 per square foot, after a prolonged boom in house prices), although construction costs in New York are five times as high as in Mumbai, it is time to raise the red flag.

But there is a difference between a bubble and a robust market. Most of the Indians are not in a position to have more houses. If one compares India with the US, in India the ratio of the total value of mortgages to the GDP is only 2%, whereas, it is 52% in the US, which means in the US, for every $100 of American produce, they owe $52 as mortgage. But, in India, we owe just $2. Moreover, over the last 10 years, real estate prices have almost remained the same in India, with the exception of a few large cities like Bombay, Delhi, Bangalore and Hyderabad. To put it in another way, Indian home buying prices have not gone through the roof. However, Venkat Raja opines, “A short-term softening of the real estate markets may be healthy for the Indian economy since the role of speculative investors will be minimized. I do not expect a dot-com type bubble because the underlying demand supports the continued growth of the real estate markets. Secondly, real estate valuations are based on contractual cash flows of properties. There may be a decline in valuations depending on imbalance of demand and supply. However, such imbalances correct themselves over a period of time.”

It’s a robust market instead of a bubble if we go by the issues like – it is natural for house prices to rise when the economy is doing well and incomes are rising and interest rates are low. Economists say these factors encourage investment in housing, so demand increases and there is nothing wrong with that. The issue that should attract policy makers’ attention is the supply side: What they are going to do to ensure that supply grows with demand, so that prices stay reasonable.

Challenges Remain
Investors face significant risks like – inadequate infrastructure such as roads, electricity and water; the poor records of land ownership; difficulty in determining whether a piece of land has a clear title or not; the bureaucratic processes to acquire clearances like transfer of use of agricultural land for development; followed by the use of black market money in land purchase transactions. Besides, other factors like the proper implementation of real estate laws, regulation of stamp duty, and rent control will pose serious challenges. “The risk of litigation and procedural delays are a big challenge,” says Gagan Banga, a Director at Indiabulls Property, a joint venture between a local brokerage and Farallon Capital. A recent purchase by the company (an eight-acre plot that once housed a textile mill in Mumbai) from the state-owned National Textile Corporation is embroiled in litigation because its previous private owner has challenged its nationalization.

As Marc Faber, the renowned investment guru, put it, “The most overlooked asset class is Indian real estate, because it is so difficult to develop, given the regulatory environment. The world still has lots of opportunities, and real estate in some unusual areas is an attractive proposition.”

Going Forward
Against the real estate boom and fallowed by the slowdown, the country is now trying hard to ease its regulations and encourage FDI. Accordingly, investments started flowing into the sector. Driven by the IT and outsourcing booms, more and more foreign companies are setting up shop in India. Five million square feet of retail space is being developed.

And over $25 billion will be spent on urban housing. Raja is very bullish about the future of Indian real estate. He says, “The Indian markets will be able to sustain this boom on a long-term basis. In the short-term, the markets may correct themselves in response to speculative increases in real estate valuations. The demand factors do point to long-term boom in real estate. The primary challenges to this growth will be continued growth in infrastructure and prudent bank lending practices.”

Earlier, International players have entered in a big way to invest in South-east Asian countries like Malaysia, Indonesia, and Thailand. These countries have attracted several investors successfully, followed by China and Dubai as the next favorite destinations. However, investors are not comfortable going by reduction in capital appreciation and return in these countries. At this juncture, investors and global developers are now eyeing on India as the next most favorite destination to play a vital role. Now, it is high time for India to make attractive policies for international developers to come to this country in a big way.

A recent Goldman Sachs report predicts that India’s economy will be larger than Japan’s by 2030, and that, by 2050, India will be the third largest economy after China and the US. India’s population growth along with rapid economic expansion will result in a tremendous demand for high quality commercial and residential development, thereby providing a compelling opportunity for foreign real estate investors. The trends supporting India as the next “hot” real estate market are indeed promising.

N Janardhan Rao, Lead Economist.