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FDI: Will India edge out China?

S. Majumder

China may have overtaken India in macroeconomic parameters, but in terms of micro-economic indicators India is ahead.

In Asia, foreign investors are in a quandary about where to go. By the barometer of Foreign Direct Investment, China seems to be the place to be in, but if it is economic competitiveness, India appears more attractive. Paradoxically, though China ranks lower than India in terms of global competitiveness, its FDI was ten times more than India's. As per the Global Competitiveness Index, 2006 of the World Economic Forum, China was ranked 54 and India 43 in the ascending order. This apart, between 2005 and 2006, China's ranking slipped from 48 to 54, whereas India's moved up from 45 to 43.

There has been much debate about the measures used to assess the FDI potential of the two countries. While China's attractiveness is viewed mainly in terms of cheap labour and better infrastructure, India's potential is leveraged by the Global Competitiveness Index, which includes nine parameters — infrastructure, institutions, macro-economy, health and primary education, higher education and training, market efficiency, technological readiness, business sophistication, and innovation.

Contrasting models

China and India follow diametrically opposite growth strategies. China wants to cool its overheated economy. At the recent annual meeting of the Central Committee, the Communist Party of China endorsed a new doctrine, that is, to build "a harmonious socialistic society," which goes against Deng Xiaoping's vision of a growth-oriented society.

India, in contrast, is pursuing faster economic growth, with the manufacturing sector as the base. It has set a GDP growth target of over 9 per cent in the Eleventh Plan. China, on the other hand, is looking to contain its 10 per cent growth.

India's rise in the competitiveness index ranking can be attributed to innovation, a well-developed corporate sector, qualitative use of technology and accelerated transfer of technology. In contrast, China, despite soaking up FDI, trails in ushering in innovative technology, even in industries where it dominates. Dr Yasheng Huang, noted economist and Professor at the MIT Sloan School of Management, cautions India against blindly following the Chinese model. He makes a distinction between the two economies, and states that the Chinese model is not a strong platform for sustainable development.

He commends India for improved corporate governance and fostering private sector development. For instance, India has adopted public-private partnership in infrastructure development programmes. In China, however, more than 90 per cent of the infrastructure development has been through government funding, leaving little for harmonious socialistic growth. In terms of fund flows, more than 60 per cent of the FDI China receives is from its Diaspora. These investments are capital-intensive with hardly any technology component.

In contrast, more than 70 per cent of the FDI in India is from the West and other developed countries and includes technology transfers. The capacity of Indian industry to innovate and adapt quickly has helped to improve its technology standards. And this has also been made possible by the timely opening up of the economy.

In China, the slow privatisation of national enterprises, even after reforms, prevented them from adopting modern technology. This has resulted in a big gulf between home-grown and FDI-backed industries.

In contrast, India's home-grown units have tasted greater success following the reforms — Bajaj Auto's is a case in point. The company regained its position through investment and research. So, too, Tatas, Ranbaxy, Reliance and Videocon have established their brand image globally since the reforms. China and India have followed entirely different growth models — China's growth being led by FDI and exports, and India's by domestic demand and investment. The Indian Diaspora contributes a mere 9 per cent of the FDI, but it is helping bridge the technology divide.

Infrastructure trends

According to Prof Yasheng Huang, China has scored in terms of providing better infrastructure — better power, roads, port facilities and industrial sites. But in terms of "soft infrastructure", such as corporate governance, and legal, financial and political systems , India has the edge. China's weak legal structure, inadequate Intellectual Property Rights system and the not-so-transparent banking organisation are areas of concern for foreign investors.

China draws much praise for overtaking India in macroeconomic parameters. But in terms of micro-economicindicators, such as return on capital, development of domestic enterprises and corporate governance, India is ahead.

With an FDI deluge into industry, China has emerged as the world's manufacturing hub, making products ranging from toys to electronic gadgets. India, on the other hand, has become a major source of skilled manpower. Though China is catching up, it still has a long way to go, especially in R&D outsourcing.

According to a survey by the Boston Consulting Group, R&D investments by foreign companies in India will surpass those in China. Of the seven areas of R&D investment, in four — automobile, IT, telecommunication and financial services — India has attracted more funds.

Economists fear that if China pursues only investment-led growth, it will run up huge bad loans. Total Factor Productivity (TFP) is the key to sustainable economic growth. TFP is backed by technology and efficiency growth. In China, FDI enterprises contribute most to TFP; local businesses are lagging. Unless national enterprises are privatised further and institutional funds used more efficiently, TFP-led growth will slacken in China.

(The author is Adviser, Japan External Trade Organisation, New Delhi.)

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