Submitted by: Gary Chou

This is a summary of the journal article, China and India: The Reality Beyond the Hype – a research paper written by Deloitte Research, a subsidiary of Deloitte Consulting.

[Prof. Carr Addendum: Gary's post is a good post that's relevant to our session last Friday. If you have further follow-up questions for Dr. Morris or Dr. Singh, please make a comment below and pose the question. If the number of questions is manageable, I will email them and ask them to jump in and try to respond to all or some of them.]

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We learned last Friday that China and India have been the richest nations with advanced technology for the most part of human history. Yet this changed dramatically as these two countries took a backseat in recent 200 years. Today, China and India seem to be promising grounds for the future of a globalized economy. As emerging business leaders, we shall look at these countries side-by-side so to better understand their growth potential and business environments.

Introduction

Why did the price of oil and other commodities rise in the last five years? Why is the US able to fund a massive external deficit without an increase in interest rates? Why have global prices of manufactured products declined in the past decade relatives to other goods or services? China had played an important role in these questions.

Being the second largest oil consumer, China has contributed to higher oil prices. By linking its currency to US Dollars, in terms heavily undervaluing its Yuan, has accumulated US external [trade] deficit. Its massive investment in manufacturing capacity also drives down production margin. As India goes through a similar path, do these two countries which represent 40% of the world’s population and 25% of global GDP, have the same business environment? If not, how are they different? As a prudent investor or global businessman, what shall we know about their comparative advantages? How shall we leverage their traits to our advantages?

Answers to these questions are crucial, therefore you must read on.

Sources of Growth

Economic growth is driven in large part by investment in capital. China is a richer country due to having higher investment. However, China has a lower return-on-investment (ROI) because of an inefficient market.

China has invested far more than India. Between 1994-2004, Chinese investment accounted 37.5% of GDP verses 22.5% in India. China has higher investment because of higher level of personal and government saving and a much higher foreign capital inflow. For example, China saved 39.7% of GDP while India saved 21.9% of GDP.

With such high investment rate however, China should boast even higher growth rate than observed. China’s ROI is hampered by an inefficient financial intermediation. Much of China’s investment was undertaken by state-run companies borrowing from state-run banks. By making investments decisions basis on political goals, it goes without saying that markets allocate resources more efficiently than governments.

Doing Business in China and India

Comparing these two countries, China seems to be favored over India. In addition to a higher cost of doing business in India than China (according to a World Bank report), several other factors are considered:

Infrastructure

In 2002 China spent US $128 billion on power and transport infrastructure compared to US$18 billion for India. China’s highway network amounts to 1.4 million kilometers compared to 200 thousands kilometers of India. Also, due to insufficient port capacity, the lead time for Indian exports to the US is roughly three to four times greater than Chinese exports. In fact, according to a commentary in Asia Times, a cargo that takes six days to travel from Singapore to Mumbai could sit in the port for 30 days before it is unloaded. The reason is that there is insufficient capacity to service today’s large cargo ships at Indian ports. The global shipping industry has undergone a technological revolution in which India has been a minor participant.

Regulatory Issues

Although India has promulgated considerable deregulation, there remain many laws that are a legacy of its socialist past. Labor laws designed to protect workers have the effect of discouraging new employment. The Industrial Disputes Act says that companies with more than 100 employees require government permission to dismiss workers. Workers also cannot work more than 75 hours of overtime per year.

China’s labor on the other hand is lenient and most of the time easily bypassed. Chinese factory workers easily work 12 hours a day, far more than the 8 hours day for Indian factories.

In terms of retailing, China has recently ended most restrictions on retailing and is experiencing massive investment in modernization of the retail sector. Not so India. There, foreign investment is mostly banned and local retailers remained very small by global standards. The result is a highly fragmented industry with inefficient distribution. As we know, this discourages the economics of scale.

In terms of trade barriers, India has lowered the average tariff from 56% in 1990 to 28% in 2004, while China has dropped from 32% to 6% in the same period. A huge difference in any regard.

Demographics

China’s demographic is not so much different than those leading developing countries. Aging population with little young people observed commonly in Germany and Japan is also commonplace in China, due to its one-child policy. India on the other hand has a much younger population which translates to a window of opportunity for a few decades that its labor force will accelerate in growth. This depends crucially on the economic flexibility to allow for the creation of millions of new jobs.

China also has a more literature population: 15% of China’s population aged 18-23 is enrolled in college while 7% is in India. 91% of Chinese adults are literate versus 61% of India. Among females, the numbers are 87% and 45% respectively. In China, there are 18 students per teacher versus 24 in India. China also spends more money on R&D, has greater ubiquity of computers and internet users, and publishes more articles in scientific and technical journals.

On the other hand, India has a great advantage when it comes to exporting services. That is the high number of fluent English speakers. Yet China’s government has decreed that all students must study English after the age of five.

Manufacturing

The average monthly wages in manufacturing in India is $28 while China is $110. Combining a more skilled workforce and a much higher wages in manufacturing, the production of low-value-added goods is likely to become prohibitive for China. On the other hand, India is likely to move toward the direction of becoming a manufacturing hub.

The Future of China and India

* Both will grow rapidly, taking a much larger share of global GDP. Yet for the foreseeable future, China is likely to grow much faster.

* The division of labor between India and China will become blurred as both countries excel in services and manufacturing.

* Trade between the two will expand, enabling companies in both countries to achieve critical mass. For global companies selling in these countries, this means more local competition.

* Both countries, while remaining relatively poor, will experience rapid growth of the middle class, creating vast new opportunities for Western companies to sell in those markets.