A Book Review on

WHY GROWTH MATTERS

How economic growth in India reduced poverty and the lessons for other developing

nations

Abhishek GauravRoll number : 11024

Department of Humanities and Social Sciences

Indian Institute of Technology, Kanpur

U.P., India

The book has been jointly written by the authors Jagdish N. Bhagwati and Arvind Panagariya.

Jagdish Natwarlal Bhagwati is university professor of economics at Columbia and a long time fellow at the Council of

Foreign Relations in the United States. He has combined scientific scholarship with a substantial public policy presence

through writings in leading media worldwide and much-acclaimed books aimed at the general public. He has received

several prestigious awards and honorary degrees. He is well known for his research in International Trade and is a

champion of free trade practices. Widely recognised as the pioneer of India’s reforms, he has also received the Padma

Vibhushan.

Arvind Panagariya is a professor of Economics and Indian political Economy at Columbia University, a non-resident

senior fellow at the Brookings Institution and a past chief economist of the Asian Development Bank. A leading trade

theorist of his generation, Panagariya has written prolifically on global trade policy issues and economic reforms in India.

Author of a dozen books, his technical papers have been published in the leading journals including the American

Economic Review, Quarterly Journal of Economics and Review of Economic Studies while his policy papers have

appeared in the Foreign Affairs and Foreign Policy. Panagariya writes an influential monthly column in the Times of India

and has been honoured with the Padma Bhushan.

Authors : Biography

In the 1950s, at the time when both India and China became independent , there was a great debate among the

Development Economists as to which of them would turn out to be the role models for other developing economies.

India had an upper hand in the fact that it had inherited a well grounded democracy, a splendid civil service, a relatively

free press and moreover politicians who had fought selflessly for the country’s independence.

In contrast, China had emerged from a fierce civil war, Great Famine and cultural revolutions which had greatly

undermined the legitimacy of democratic institutions.

Development Economists initially favoured the prospects of China over India because it is easy to procure high savings

rate through taxation in a monarchical framework than a democratic framework that characterized India.

However the West rooted for the success of Democratic India against the Communist Behemoth, China .The only hope

for India lay in the fact that the West make up India’s inability in raising savings fast and hence investments with

massive influx foreign aids to match with the China’s saving efforts .

Introduction

India, did become a recipient of foreign aid but was unable to reap its benefits. China, too, continued its

developmental progress on a sloppy pace in the first three decades imitating its neighbouring counterpart.

The authors from here on discuss the reasons that were responsible for the debacle of India’s growth story in the

first three decades and what stimulated it later on.

Despite having a promising beginning with the hopes of a liberal democracy, we embraced such an economic

policy framework (by the late 50s) that produced an abysmal growth and did little to alleviate poverty.

Institutions are not exogenous to policies. The License Raj and the virtual monopoly given to government in

almost all policy and development matters resulted in the degeneration of Indian Politics and the stemming of

corruption in the bureaucratic and political lanes.

It was only after the reforms began in the right earnest in 1991 that the economy recovered from the doldrums

and the increased growth started making an impact in reducing poverty and changing the fortunes of the

marginalised groups.

Introduction

Myths About Early Development Strategies

A widely held myth is that Indian Planners pursued the objective of growth ignoring poverty reduction and

reducing inequality ,which is the main reason of abysmal social and economic indicators .The authors point

out that it is exactly the opposite what the Indian policymakers had in mind.Their apathy to the good growth

targeted programmes actually hit the Indian economy hard.

The book quotes an excerpt from the first five year plan “ The elimination of poverty cannot, obviously be

achieved by merely redistributing existing wealth. Nor can a program aiming only at raising production

remove existing inequalities.”

They dispel the myth that growth is not necessary for poverty alleviation and that redistribution policies can

suffice. The authors reject this proposition completely citing the document of Perambur Pant (1962) which

emphasized on growing the size of the pie rather than sharing it more generously.

Moreover the idea of redistribution of income on a scale as large as India is meaningless unless it is

accompanied with revolutionary changes in property rights and scale and structure of wages and

compensations.

The Pant report of 1962 using a formal model, calculated that in a span of fifteen years a 7 % growth

rate combined with redistribution to those outside the mainstream could potentially eliminate abject

poverty measured by 20 rupees per capita income at 1960-61 prices.

Another widespread myth was that growth is not “sufficient” to reduce poverty, redistribution is

necessary.

The authors convincingly emphasize that growth helps by drawing poor into gainful employment and

also by generating revenues to finance the poverty targeted programs.

In an economy with widespread poverty, labour is cheap, thus the economy can specialize in

producing labour intensive products, produce and export these products which in turn will create

employment opportunities, higher wages for the masses with a consistent decline in poverty.

The authors are critical of the labour laws like small scale industries reservation and chapter VB of the

IDA of 1947 which made the large firms in labour intensive sector uncompetitive in the world markets

and hurt their growth and in the end proved detrimental for the growth of labours and the informal

workforce themselves.

Myths About Early Development Strategies

In the book, the authors have analysed the various aspects of India’s economic progress not in a

chronological sequence but sector-wise, outlining the various myths surrounding them. They chalk out the

consequences that these myths had on India’s development agenda , how it affected our progress and what

should have been the preferred course.

They point out that not only the magnitude of investment but also the productivity of that investment is

instrumental in driving growth in an economy. This fact was completely neglected in the early years of

independence , especially in the tenure of Mrs. Indira Gandhi resulting in high and increasing savings and

investments but plummeting growth rates.

In contrast the East Asian Economies of Japan, South Korea and Taiwan registered impressive growth rates

as their focus was not just on the quantity but also the quality of the investments.

These comprehensive socialistic measures backfired and the economy took a nosedive with per capita

incomes rising just 0.3 percent annually between 1965 and 1975 and the private final consumption rising

even more slowly.

Indian Socialism And Its Impact On Development

The authors are extremely critical of the industrial and economic policies of Mrs. Gandhi’s ,Ten Point

Programme.

The ten Point Program included policies like nationalization of fourteen large Banks in 1969, nationalization

of general insurance, oil companies and coal mines in the following four years, forcing the dilution of foreign

equity in virtually all firms to 40 % or less, confining investments by large domestic and foreign firms to

nineteen narrowly defined highly capital intensive industries, strictly limiting the size of urban landholdings

and restricting the layoff of workers in large firms.

Similarly, India restrained direct foreign investment which dramatically fell during this period, to as low as $

100 million at the time of liberalization reforms in 1991 , that is unbelievable for a country as large as India.

The country turned away from integration into the world economy, forgoing important gains from taking

advantage of such integration due to the sheer “anti-market fundamentalism” prevailing at the time which

resulted in grave consequences in efficiency and growth.

The authors feel that these expanding governmental controls closed nearly all avenues for growth in the early

independence period.

Indian Socialism And Its Impact On Development

Reforms And Their Impact On Growth And Poverty

They have addressed concerns of the various NGOs and journalists that the growth post 1991 reforms have

bypassed and even hurt the socially disadvantaged groups stating that contrary to the general impression reforms

and growth , and not governmental assistance have actually opened opportunities for the scheduled caste and

scheduled tribe entrepreneurs to seize ,in large and small enterprises.

An extremely important point to note is the significantly larger decline in poverty among the Scheduled castes

and Scheduled tribes relative to the non-scheduled castes during the latest high growth phase. Poverty for the

Scheduled Castes fell by 9.4 percentage points and that for the Scheduled tribes by a gigantic 15.3 percentage

points relative to the 6 percentage points for non-scheduled castes between 2004-05 and 2009-10.( Mukim and

Panagariya - 2013)

Many Economic historians are of the idea that the post-1991 reforms followed rather than preceded the growth

acceleration. They feel that the quiet process of loosening controls during the 1980s in the reign of Rajiv Gandhi

actually led to the attitudinal changes which accelerated the growth trajectory. Panagariya and Bhagwati refute

this claim completely.

They strongly advocate that the structural changes since 1991 have a direct link to the liberalizing reforms,

be it the trade to GDP ratio which has risen from 17 % in 1990-91 to more than 50 % by the late 2000s, or

the foreign investment magnitude which has risen from $100 million in 1990-91 to more than $60 billion in

2007-08 .

Again attacking the claim of IMF economist Petia Topalova who argued that trade openness has aggravated

the problem of poverty , they advocate that trade openness in a labour abundant economy stimulates growth

in general and the expansion of labour-intensive industries in particular.

They cite the work of another set of economists Hasan, Mitra, and Beyza Ural(2006-07) who have

questioned the methodology of Topalaova’s analysis adding that the analysis of poverty at the district level

poses several problems due to the insufficient number of observations, mobile boundaries of the district and

also the randomness of the sample.

Reforms And Their Impact On Growth And Poverty

Reforms And Their Impact On Growth And Poverty

Several studies, Jewel Cain, Hasan Mitra(2012) and Mukim and Panagariya (2012) clearly indicate that

states that are more exposed to foreign competition had lower rural and urban poverty ratio with the effect

being more pronounced in states having more flexible labour market institutions.

Addressing the concerns of the critics that there has been no substantial decrease in the poverty after the

reforms, they state that whichever estimate is taken in the right perspective would reflect substantial

reduction in poverty as well as the absolute number of poor in India.

In the time period from 1983-84 till 2004-05 alone, there has been an exit of 187.5 million people from

poverty, a substantial reduction in the poverty ratio from 44.5 percent till 27.5 percent.

As far as the claim of reforms having not helped certain underprivileged sections is concerned, it has

already been pointed out poverty has gone down among all broad based groups, such as Scheduled Castes

and Scheduled Tribes and across all states.

The important point is that poverty in India everywhere is showing a declining trend.

Reforms And Inequality

Recent reports of the media give an impression that the reforms have led to the increased inequality, more so because

we are more concerned in viewing inequality between regions rather than within regions.

The authors in fact feel that some amount of inequality is essential for promoting growth, the poor may react by

celebrating conspicuous inequality thinking that they too may some day “make it big”.

They advocate that in a mobile labour abundant economy, pro-growth policies lead to specialization of skills that raise

employment and wages. The poor can easily switch from low-paying jobs to high paying jobs, from countryside to

urban centres, thereby reducing inequality.

They quote Krishna and Sethupathy (2012) who in their research pointed out that the inequality within states accounts

for more than 90 % of the total inequality over the country.

The authors point out that the rise in interstate inequality does not reflect the poorer states’ remaining poor but it

represents the richer states growing faster than the poorer ones in an environment in which all the states can grow fast.

Citing examples of Orissa and Bihar, they point that this interstate inequality has a diffusion effect on the

underdeveloped states, wherein the poorer states will demand more from its leaders , prompting policy and leadership

changes as has happened in both Orissa and Bihar.

Track I and Track II Reforms : Possible Way Out

Track I Reforms : Reforms aimed at accelerating and sustaining growth while making it even more inclusive.

Track II Reforms : Reforms that can actually make the distributive programs more effective as their scope

widens

Neither of them in isolation is sufficient enough. UPA after coming to power in 2004 focused exclusively on

Track II Reforms aimed at promoting social programs with the result that the government is facing structural

paralysis at present.

Productivity of the work force remains a key issue at present. According to a 2007 government report 57 % of

the workforce is employed in the agricultural sector producing less than 20 % output of the country.

Within the industry and services also, 84 percent of the workers were employed in enterprises employing fewer

than ten workers , which are generally characterized by low productivity.

An extremely large percentage of the workforce depends on a very small share of the national income, Track I

reforms become all the more important for them to create gainful employment opportunities.

The outdated and draconian labour laws like IDA 1956, 1970 Contract Labour Act especially in the

manufacturing sector, have discouraged large players from entering the market.

Track I and track II Reforms : Possible way out

The Track I reforms in addition to accelerating growth would also result in making it more inclusive. track II reforms must

be implemented as a follow up to the Track I reforms.

One alternative to use the generated revenues could be to boost the purchasing power of the poor by direct cash transfers or

employment in public works at above market wages

Giving the private player an equal footing in providing these services and facilities will actually promote healthy

competition and ensure quality delivery of services.

The preferred strategy that the authors talk about consists of unconditional cash transfers for most of the needs, vouchers

for elementary education and insurance vouchers for illness with governments covering the premiums. The provisions can

be a mixture of both public and private schemes, leaving the power to decide in the hands of the beneficiaries.

The authors also advocate the need of targeted rather than the universal schemes. A substantial exclusion will prevent the

social expenditures from being spent too thinly and thus being diluted.

Multitude Of Labour Reforms

Despite a significant decline in the output share, the employment share of agriculture in India has remained

high.

Employment in industry and services also remains predominantly in small, informal firms characterised by

low productivity.

The manufacturing sector which is often the sector that absorbs the maximum workforce has been performing

rather badly in India, in addition to the slow growth that it experienced in the past

Industries Disputes Act 1956, Contract Labour Regulation Act 1970, 1926 Trade Union Act, 1948 Employees’

State Insurance Act have added to the woes of large private players in this sector.

The IDA allows every single industrial dispute to go to the labour courts and tribunals, this time consuming

practice should be replaced by one under which an independent authority is empowered to deliver a time

bound and final verdict in a designated class of cases.

The solution lies in indirect labour market reforms, which would accelerate the growth in formal sector

employment, skill creation that will make workers employable in better paid jobs and strengthen the

redistributive reforms.

Land Acquisition and Infrastructure Reforms

The century old 1894 Land Acquisition Act though having been amended several times remains archaic and

unfit to be implemented in a dynamic and progressive country like India.

Mandatory advertisements of the prevailing prices by the buyer of large tracts of land offer a better alternative to

the problem of imperfect information.

The Revenue Department can post guidance prices to make the public aware about the market conditions.

the authors claim that the need of the hour is to enhance the productivity of the farmlands and not to increase

their already large coverage.

Infrastructure has assumed special importance in the wake of globalization and industrialization.

Simply spending billions in infrastructure will not automatically generate economic growth that would give rise

to the appropriate demand for that infrastructure.

There is a need to coordinate the various arms of the government in order to bring about coherence in the

working of the road building programs.

We have to do away with the horizontal model of expansion of the cities and relax the floor –space index that

can stimulate the vertical growth of Indian towns and cities.

Higher Education Reforms

Higher Education reforms are very essential for India which needs an ever increasing skilled workforce

A central problem of the higher education in India is the virtual monopoly status that has been accorded to UGC

(University Grants Commission) which determines the curricula at various levels, degrees to be awarded and

fees and the faculty salaries.

The entry itself of the private universities is very tough and even if they manage to do, they are not allowed to

open any satellite campuses in other states without the approval of UGC, that involves complex procedures.

Areas like Management and Accountancy which are outside the purview of UGC have done fairly well and have

fairly catered to the needs of the ever increasing student demands.

The solution lies in opening up the education sector for both the profit and the non-profit institutions of

domestic as well as foreign market

Lifting the control over tuition fees in both the public and private universities is an important policy change that

the UGC must consider.

Attacking Poverty by guaranteeing Employment

The principal instrument of direct attack on poverty in India has been schemes providing to the employment to the poor

in the rural areas.

Mahatma Gandhi National Rural Employment Guarantee act surpasses all of them in magnitude and scale. The program

guarantees one member of every household whether poor or not, 100 days’ worth of unskilled manual employment.

The scheme, according to them has resulted in large fiscal deficits and inflation and has adversely impacted the

economic activity by distorting the labour market.

The alternative means of cash transfers has certain obvious advantages over the antipoverty scheme of MNREGA.

Cash transfers greatly increases the purchasing power of the individuals.

The MNREGA has resulted in the creation of substandard capital assets

Even assuming equal volumes of leakages as under MNREGA which is highly implausible, cash transfers would

certainly place greater volume of purchasing power in the hands of the poor and withhold the future of redistributive

programs in India.

Criticisms

The authors strongly believe in free market economy and deregulation of the public sector undertakings. But history

shows that free market economics and complete deregulation may not always bring positive results.

When private players start handling public goods, they often neglect the welfare motives which characterises such a

project because they are often driven by profit incentives.

The scheme of Cash transfers which they aggressively advocate requires an all-encompassing financial institutions

coverage which in itself is an enormous task.

The analysis of labour rigidity is of critical importance and the authors detailing of the specific laws that are getting in

the way helps focus the issue. But parts of it are quite dry and aimed at specific people rather than a broader audience.

The main issue with their approach is that they believe that governmental intervention often does more harm than

good. Well it is not true, China is a good example of how a committed and forward looking government can help to

steer a nation towards economic robustness primarily driven by sound economic policies.

Conclusions

In this book the authors put forward a forceful case that further market-orientated reform, of the kind introduced

haltingly in 1991 is the only way to raise the masses out of poverty, not only in their country but elsewhere in the

developing world.

Two stages of reform are needed for successful long-term economic development, the authors argue, Track I reforms

and Track II Reforms, as has already been discussed earlier. They aggressively advocate Track 1 reforms which are

made possible only by increased revenues.

Why Growth Matters is a useful summary of both the history of economic reform in India and of the controversies

these reforms have generated, as well as a detailed and practical explication of what is necessary for the future.

Bhagwati and Panagariya squarely blame leftist economists, such as their Columbia colleague Joseph Stiglitz, Belgian-

born Jean Drèze and Harvard's Amartya Sen, for being “intellectually lazy and unwilling to learn from the ruin they had

visited on India and its poor”.

Whoever is right, what can safely be said is that this book by Bhagwati and Panagariya makes a weighty and well-

reasoned contribution to a policy debate that has become of critical importance in India.