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Mainstream, Vol XLVII, No 23, May 23, 2009

Global Challenges before the New Government

Saturday 23 May 2009, by Bharat Jhunjhunwala

The chances of a new Congress Government being formed have increased with the party emerging as the largest and even crossing the magic number of 272 with its allies. The most important challenge before the new government will be to deal with the continuing global recession. The present thinking is that the Indian economy will look up along with the Western economies. Thus Prime Minister, Manmohan Singh, declared his intention to walk side by side with the Western countries at the G-20 meet months ago. However, this policy fails to capture the immense possibilities that the present recession opens up for India.

Present thinking ignores the fact that rise of India and fall of Western economies are two sides of the same coin. Truly, we are the cause of their troubles today. Western companies are unable to compete with our low-cost high-quality products. For example, the American company, General Motors, plans to import more cars from its production facility in China instead of manufacturing them in Detroit because of high wages at home. The natural result is the decline of the American economy. The situation was different earlier. Western countries were exporting high-tech goods at high prices and earning huge profits. They were paying high wages to their workers from this income. That is no longer possible because Indian companies have started making similar high-tech goods. For example, our companies have rolled out semi-hybrid cars to compete with the Western hybrid cars. My assessment is that the decline of Western economies will continue for a considerable time because
their high wages have become unsustainable in view of the developing countries catching up technologically.

The stimulus packages being implemented by these countries may provide some temporary relief for, say, six months but not help in the long run. Their governments are printing notes and generating domestic demand artificially. They will have to collect taxes in future to pay for the present spending. At that time their problems will become much worse. A company running in loss due to high wages of its workers can delay closure for only some time by taking loans. Similarly, these economies can delay their troubles by implementing stimulus packages only for a short time. General Motors has had to increase imports from China despite getting assistance from the US Government under the stimulus package. In this situation it will not help us if we wait for revival of the Western economies to jump-start our exports.

The problems of foreign investment are similar. It is true that much foreign investment has come into India during the last 15 years when the Western economies had been roaring. But times have changed. Western economies were strong till recently. Western multinationals were investing profits earned in their home economies in the emerging markets. For example, General Motors would make profits in America and invest in India. This will not happen when their economies are declining. But, that does not mean that all global capital has evaporated. Investors like pension funds and George Soros are still seeking opportunities for investment. My assessment is that they will turn towards India. Global investors turned away from Britain and moved in droves towards the United States at the end of the Second World War. Similarly global investors will turn away from the US and move towards emerging economies now.

The challenge before the new government is to adopt policies in tune with this changing ground reality. Prime Minister Manmohan Singh agreed to walk together with the Western countries at the G-20 summit a few months ago. India has bought US Treasury bonds after the summit to help the United States survive. This means that India endorses the present asymmetry in the world economy where 20 per cent people living in the Western countries consume 80 per cent of the world resources. The challenge before the new government is to break this asymmetry. This will require active cooperation with China, Russia, Brazil and other developing countries to make a joint front against the dominance of the Western countries. We should try to increase exports to these emerging economies instead of trying to revive exports to the Western countries. We should try to stop the outflow of our wealth through hawala and other routes to the Western countries instead of seeking more investment from them.

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Another challenge is to face the restrictions on outsourcing being imposed by the Western countries. My assessment is that these restrictions will boomerang upon them. American companies resort to outsourcing because they find labour cheap in India and that helps them lower their cost of production and remain competitive in the world economy. Restrictions on outsourcing will force American companies to employ high-wage American workers instead of low-wage Indian workers. This will lead to higher cost of production for their goods and they will be priced out of the global market. For example, Japanese carmakers will be able to outsource their chores to Indian outfits while American carmakers will not be able to do this. Truly, America is caught between the devil and the deep blue sea. Allowing outsourcing will lead to loss of jobs. Restricting it will impose losses upon American companies. The only solution is to lower the wages of their workers. Ultimately the American workers will have to accept wages similar to those of the Indian workers. Alas! No Western leader is willing to tell this hard truth to his people. Thus, they will impose restrictions on outsourcing which are populist in nature and push their economies into deeper trouble.

The new government must make a strategy to face this impending contraction in demand for outsourcing services from global businesses. The cost of production of Western companies will increase. We must turn this into an opportunity. Western companies are presently exporting goods like computer servers, patriot missiles, aircraft, and the like. These goods will become expensive with restrictions on outsourcing in place. We must try to make these high-tech goods and export into the global market. The government can establish a new public sector undertaking to do this.

The third challenge is to create a new world currency to replace the dollar. Presently we are providing money to the US for creating foreign exchange reserves. The Reserve Bank of India is buying US Treasury Bonds for this purpose. The US is using our money against our interests. For example, the United States has told Indian companies not to do business with Iran. The US is able to do this because India is providing it with money to keep afloat. The developing countries must make an alternate world currency and shift their reserves from the US dollar into the new currency. China and the ASEAN have already taken the first steps in this direction under the Chiang Mai Initiative. India must join them and give the final push to the collapse of the dollar. The new government must change policies in keeping with these changing ground realities.

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