India’s economic policy will not make the country rich

Developing countries have a new love for economic planning. With the spread of protectionism in the West, poor countries are no longer afraid of industrial policy—or bold ambition. India’s government says manufacturing will propel the country to high-income status by 2047. Indonesia wants to achieve that status by 2050, with growth fueled by green goods. Vietnam is targeting 7% annual GDP growth by 2030. Meanwhile, South Africa wants to more than double per capita income by 2021. Surely economies everywhere will accelerate.

A worker at a construction site on the Mumbai Coastal Road in Mumbai, India, Monday, March 4, 2024. (Bloomberg)

Not true, according to a new World Bank report. At its current rate of growth, it will take India three-quarters of a century to reach a quarter of America’s per capita income. That’s according to calculations in the World Development Report, published Aug. 1, in which the bank’s researchers ran the numbers for 108 middle-income economies, accounting for 40 percent of the world’s GDP and 75 percent of its population. Indermit Gill, the bank’s chief economist, Somik Lall, one of his advisers, and co-authors, say the industrial policy fad, particularly in India and Indonesia, is unlikely to deliver the riches that policymakers now dream of.

The report begins by outlining the challenge. Since 1990, only 34 countries have achieved high-income status. Thirteen of these were in the Eastern bloc and benefited from EU accession; several more in the Gulf and Latin America owe their wealth to the commodity boom. Per capita income in middle-income countries has been less than one-tenth of that in the United States since the 1970s. If India is to sustain growth of 6-8% per year, it will repeat a feat that only South Korea has managed.

The bank’s economists think such growth is fanciful. They argue that governments would do better if they tried to sustain slower growth for longer. Mr. Gill and his co-authors suggest three goals: becoming more attractive to capital, making better use of existing technology, and developing new technology. This is not groundbreaking. But what is new is the suggestion of a timeline by which they chart the progress of middle-income countries.

For example, Brazil was considered a low-middle-income country that became a low-income country in the 1970s. At that point, it should have focused on importing foreign technology and bringing state-owned conglomerates into international markets. Instead, it taxed international intellectual property. Local patents became more common, but the quality of innovation declined. Meanwhile, Bulgaria managed to integrate existing technology into domestic production, but its own R&D remains weak.

The authors criticize countries that hope to skip steps by developing domestic technology rather than adopting things used elsewhere. Such an approach risks wasting scarce resources. Scientists will be entangled in bad products, government bureaucracies will be overwhelmed, and funds will be diverted to unproductive companies. The report suggests that South Korea’s industrial policies have subsidized the adoption of foreign technology rather than encouraged the production of knowledge at the frontier of human thought. Any country that tries the latter path, the authors warn, will have a hard time reaching the frontier.

Mr. Modi’s “Make in India” strategy aims to attract foreign companies to make everything from phones to electric vehicles. That’s better than plans in other developing countries. Malaysia is offering subsidies to start-ups that want to try their hand at cloud computing. Indonesia is cutting some of the cost of an electric vehicle, but only if enough of its components are designed domestically. But there’s a risk that India will follow suit. Other elements of the country’s industrial policy aim to promote domestic technology, including in chips and defense. Since 2020, the country has banned imports of 509 common defense components as part of an effort to boost local arms exporters. But the country has dropped out of the list of the top 25 defense exporters.

India’s management practices are also under fire. Although the World Bank tends to stick to conventional macroeconomics, the report’s authors adopt a somewhat Schumpeterian framework, allowing for the possibility that incumbent firms can be efficient but only if they are surrounded by new entrants who keep them on their toes. The Indian state prevents this at both ends of the spectrum. Small reservation laws ensure that some of the handouts go to firms too small to be efficient. Meanwhile, cronyism and weak competition policies favor unproductive giants. A firm in America that reaches its 40th birthday typically grows sevenfold in size. In India, its size will only double.

Not all of the World Bank’s recommendations hold up to scrutiny. Improving education is a worthy goal, if an extremely difficult one. Keeping populism at bay, also on the list, is another nice but difficult suggestion. The report’s fondness for South Korea’s industrial policy is exaggerated. But it is certainly true that much of the country’s prosperity comes from massive private investment and an openness to foreign technology. Mr. Modi has been unable to spark a surge in investment in the sectors where he wants India to make its own breakthroughs. The risk is that by acting prematurely, the country will eventually struggle to develop industries that can compete with those of the United States. Fortunately, all is not lost. The World Bank calculates that policymakers have at least three-quarters of a century to get things right.

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