Five per cent growth: healthy and realistic

Presenting Ruchir Sharma to deliver the Palkhivala Memorial Lecture organised by the Palkhivala Foundation, Chennai, sounded doubly appropriate: the welcome opportunity to listen to this renowned analyst on global economies and his renown to provide copious data on global economies, characteristic of Palkhivala, of his famous analyses of annual budgets.

Ruchir Sharma has been known for his lucid discussions with NDTV’s Prannoy Roy and for his articles in the Times of India. There were great expectations on this expert’s views ahead of the budget on the prospects for economic growth for India in particular and the world in general. Sharma said that “anything in excess of 5 per cent growth should be considered a very significant achievement.”

The pick-up in the economy in the recent quarters, especially the significant jump in exports, has given rise to hopes on a high rate of economic growth. There were optimistic projections based on the high growth years of 2004-12.

Sharma explained with great logic the factors impacting economic growth that makes a 5 per cent growth as healthy and realistic. He explained the rationale on the basis of four trends – declining demographics, declining productivity, debt increasing and de-globalisation. Excerpts from his address:

DECLINING DEMOGRAPHICS

Demographics is a factor dramatically under-estimated in terms of how it influences the global economy. Look at the demographic trends of the world: for a thousand years until the 18th century, world population was increasing at a very slow pace, at a rate of less than ½ a per cent a year. In the 19th century we had the first industrial revolution. The world’s population growth picked up to around 1 per cent a year. After the Second World War, population growth truly exploded: it started growing at over 2 per cent a year and averaged around 2 per cent right up to the 2000s. This did matter from a global economic standpoint.

PRODUCTIVITY UNCONCERNS

There are two drivers of economic growth – the number of people who come to work and how productive people are at work. Global productivity rate is heavily influenced by the number of people coming to work which is influenced by the growth rate of the population.

After the Second World War, global economy grew at a pace of nearly 4 per cent a year. Never in the history of mankind has the growth phase had been this rapid.

In the 2000s the world’s working age population growth, the one that matters most in driving economic growth, began to fall. People thought this decline was all about the global financial crisis (2008). It is not so.

The baby boom which took place after the end of the Second World War came to an end. With better education and changes in lifestyle and habits, women were having fewer babies. The demographics of the world was changing! The economic miracles with countries growing very rapidly at 7or 8 per cent virtually disappeared in the 2010s.

DURING PANDEMIC BIRTH RATES DROPPED…

Then comes the pandemic. Most people would have thought intuitively that the pandemic having forced people to remain indoors would have ended up in increased birth rates. But data shows that birth rates in most countries have dropped significantly during the pandemic. The data is still being analysed.

The decline in birth rates impacts the working age population defined as people between the age of 15 and 64. In the next few years, the growth rate of the working age population is going to be even lower than today. This has very significant implications for economic growth.

Historically 75 per cent of the countries that were able to grow at a rate of more than 6 per cent a year for a decade had an increase in their working age population of at least 2 per cent a year. Thus, this rate of increase in the working age population was almost a necessary condition for high economic growth.

However, the opposite is not true: a country with a high working age population does not mean that it will automatically generate high economic growth. Many countries in the Middle East, Africa, Latin America, the Philippines and even India were not able to convert the massive increase in the demographics into a very high economic growth rate.

DEMOGRAPHIC SWEETSPOT OF 2 PER CENT OVER FOR INDIA

Two per cent growth in the working age population is a magical number for countries to grow at six per cent consistently. India had that number right until 2010. But after that the number has been coming down and currently it is just 1.5 per cent. So, the demographic sweet spot is over for India. Especially with the fall in birth rates, this is projected to keep declining. India’s population growth rate is no longer conducive for very high economic growth rates.

DECLINING PRODUCTIVITY

World’s productivity growth rate has been declining in the recent 2-3 decades. The reasons include: the technology we are developing now is much more consumer-friendly but not that productive. We have a lot of technology that helps you play games or watch videos. It’s much more entertainment and leisure, but not the cutting-edge kind of technology for business innovation.

During the pandemic we had much increased digitisation and new ways to work. One would have thought that there is an increase in productivity during the pandemic. But readings suggest no such evidence. In fact, surveys show that more people have been working from home, working longer, but the output has not changed. In fact, it has gone down a bit.

MASSIVE INCREASE IN ZOMBIE COMPANIES

One of the reasons is a massive increase in the number of so-called zombie companies in the world, which are eating away the heart of capitalism. Around the world the number of companies unable to earn enough profits to make interest payments in a particular year has been going up significantly. The United States is a classic example: back in the 1990s the number of zombie companies formed just two per cent of all listed companies in the US. Current estimates show nearly 20 per cent of all listed companies can be classified as zombies which had not earned enough profit to cover their interest for three years. They keep going to the market to borrow. This is facilitated by the very cheap money policies of Central banks and governments that keep supporting such companies. A lot of dead wood is alive out there!

WE KEEP ALIVE DEAD COMPANIES…

In India too, the number of zombie companies is very high; some data point to nearly one out of every three companies just does not earn enough profit to cover its interest expenses. Instead of allowing companies to fail and new companies to emerge at a rapid pace, we are keeping alive a lot of dead wood companies. We are concerned with the contagion effect and the political pressure to keep companies alive is quite considerable. The number of efficient companies has become smaller, but bigger.

So, we have seen a decline in productivity in such an incredible technological age.

SO MUCH DEBT!

Today there is so much debt in the system out there. The global economy has expanded, but the amount of debt that global economies carry has increased even faster.

Right until the 1980s the level of debt in the global economy and the size of the global economy were roughly similar and were increasing at the same pace for years. But from the 1980s we had much greater financial de-regulation, much greater inter-financial isolation of the economy, lower interest rates and facile central bank policies. The amount of debt in the global system increased significantly. Today it is more than four times the size of the global economy.

Today there are more than 25 countries, including the USA and China, whose debt to GDP ratio is more than 300 per cent. Countries rely more on debt to try and achieve high growth rates. The pandemic has only made the situation worse as the amount of debt taken by the global economy to tackle the pandemic is of a much higher magnitude.

There will also be a price to be paid for this debt, in a more insidious way through the decline in productivity of the economy. This favours the rich much more than the poor leading to more inequality.

In the case of India, the total debt is 170 per cent of the size of the economy. Though this is much lower than that of the US or China, with the much lower per capita income of around USD 3000, the rise is fairly high.

EXPORTING THE WAY TO PROSPERITY…

For much of the post-war period there was very intense globalisation. Trade in goods and services, capital flows and people flow among countries recorded explosive growth. improved connectivity helped increased trade in goods and services. Exporting your way to prosperity became a traditional model for very high economic growth. We ended up seeing significant increase in export growth in an era of globalisation. Data shows that typically when countries grow rapidly at more than 6-7 per cent a year more often than not it is led by export growth of more than 20 per cent.

DE-GLOBALISATION

After the global financial crisis, we saw a much greater increase in protectionism and the trade in goods and services stopped increasing. The share of trade in goods and services in the GDP of the global economy plateaued and started to decline. World’s export growth in the boom years of the 2000s was more than 20 per cent a year. During the 2010s that collapsed virtually to zero. Obviously, that made it much harder for the global economy and for countries to record rapid growth. Something very similar happened to capital flows that were growing around 14-15 per cent a year during the boom years of 2003-07 and declined to low single digits during the 2010s. Likewise, large scale migration stopped.

EXPLOSIVE GROWTH IN DATA FLOWS

The only place where there was a big explosion in terms of cross border flows was in data flows thanks to digitisation.

At least the one good story is what India has been able to do in terms of data flows and digitisation. India has done really well over the last two years. In digital revenues as a share of the economy, India ranks around 12. The only other emerging market which is within the top 15 is China. China clearly showed the way how to digitise very rapidly and grow very rapidly.

Digital revenues are growing by more than 30 per cent a year in India, far higher than that in most other countries thanks to e-commerce and e-services. The increase in these services in India is far higher than in other countries.

Given the change in demographics and other global headwinds, no country in the world will be able to achieve high rates of economic growth of the order of 8-9 per cent and more. India has been doing relatively better with its export share in the global economy inching a bit higher. There is room for this to benefit from China’s decline from the peak as an export powerhouse as do Vietnam, Bangladesh…

India needs to focus much more on productivity increase.