Thursday, November 13, 2008
Yes, the digital revolution is real. Yes, the global software and related services market can be expected to continue growing at a significantly higher rate than that of the global GDP. Yes, today’s India does have a major competitive edge in this sector and it is this edge that continues to power annual growth rates exceeding 100 percent for companies such as Infosys and Wipro. Still, I would argue that viewing the IT sector alone as the road to the country’s economic salvation is a dangerous mistake.
Let us, for the moment, ignore the fact that most realizations tend to fall short of projections and assume that the McKinsey-NASSCOM forecasts will indeed become true and that India’s software and related services sector will grow explosively from its current $8 billion to $87 billion by 2008. What exactly will this achievement look like in the context of India’s overall economy? The country’s current GDP is about $450 billion. To achieve a real growth rate of nine percent a year — a target being advocated by many of the country’s industrial leaders — and assuming annual inflation of, say, 5 percent, the GDP must increase to $1,330 billion by 2008. Given these numbers, it follows that, even if the McKinsey-NASSCOM projections are realized, the $79 billion growth in the IT software and services sector will account for less than 10 percent of the total growth ($880 billion) required in the economy. The remaining 90 percent must still come from sectors other than IT software and services, that is, from sectors such as agriculture, textiles, automobiles, financial services, and so forth. Of course, India must go all out to achieve the expected dominance in IT software and services. However, it is clear that, even in the best-case scenario, such dominance will account for only a tiny fraction of the overall economic progress that the country must make over the next 8-10 years.
It would be reasonable to ask whether explosive growth in India’s IT sector might contribute to higher economic growth not just directly (as reflected in the above calculations), but also indirectly (i.e., by increasing the productivity of the other sectors). Globally, the evidence regarding the impact of IT expenditures on the productivity of non-IT sectors is not very encouraging. A recent OECD study concluded that, during the 1990s and adjusting for the economic cycle, IT expenditures increased annual total factory productivity by only about 0.5 percent in the US, Canada, Australia, and the Scandinavian countries but actually decreased it in Japan and the major European countries. An even more recent study released by the Ernst & Young ITEM Club just a few weeks ago concludes that there was no evidence that the large increase in IT investments in the UK over the last five years had any impact on overall productivity growth rates in the economy. It’s not obvious why we should expect India’s experience to be radically different. In fact, it is entirely conceivable that growth in the nation’s IT software and services sector may actually take place at the expense of the non-IT sectors. Why? Just look at the mass migration of engineers and other technically trained Indians from industries such as consumer goods, transportation, infrastructure, chemicals, etc., to the IT sector. Unless there is a rapid explosion in the output of technically trained manpower across the board, the Indian economy would remain constrained by a zero-sum game. Every brother, sister, nephew, niece, or friend that we see entering the IT sector is also a brother, sister, nephew, niece, or friend who is either not joining (or leaving) the non-IT sectors. Outbound migration of this sort cannot but constrain the growth of these other sectors.
For India’s economy to achieve annual growth in the 8 to 9 percent range, the growth of IT must be accompanied by explosive growth in a whole host of traditional manufacturing industries. Industry accounts for only about 23 percent of India’s GDP. Contrast that with China, whose economy is about twice the size of India’s and where industry accounts for about 50 percent of GDP. Thus, for the economy in 2008 to achieve the same status as China’s economy today, the country’s industrial sector would need to quadruple in real terms, i.e. grow at about 20 percent a year consistently. That kind of growth is not possible without sustained growth of 20 percent or more in industrial exports. This would be an uphill task. Over the last five years, India’s exports have increased on average less than five percent a year. Also, a 20 percent growth rate in exports is about three times greater than the six to seven percent annual growth in total international trade worldwide. Thus, 20 percent growth in exports cannot occur without India’s exports out competing and displacing exports from other countries. China is and forever will remain the country’s principal competitor in export markets. How easy will it be for India to grab export market share from China? At more than $180 billion, China’s annual exports are five times India’s $35 billion. Thus, Chinese producers enjoy not only a huge scale advantage over India’s. They also have several years’ lead in learning about the needs of American and European consumers and in accessing and building distribution channels within these markets. No wonder Chinese goods are beginning to flood India, causing many Indian industrialists to fantasize that this must be the result of government subsidies, rather than cost efficiencies derived from huge economies of scale, lower cost of bureaucracy, superior production technologies and operations management.
To sum up, for India to achieve economic freedom, it needs to make rapid progress across a broad front. Unlike Finland or Italy, India is a large country. Just as niche strategies would never have worked for other large economies such as the US, Japan, or China, they will not work for India. Yes, the country must do everything possible to realize its potential as a global powerhouse in IT software and services. However, the real war that is yet to be waged lies elsewhere — in the rest of the economy!
Anil K. Gupta is a Visiting Professor at the Stanford Technology Ventures Program and a distinguished Professor of strategy and global e-business at the Robert H. Smith School of Business, The University of Maryland at College Park. You can e-mail him at anil@corp.siliconindia.com
