Technology Enabled Services

Information-Technology-Enabled Services and India's Growth Prospects [with Comment and
Discussion]
Author(s): T. N. Srinivasan and Anne Krueger
Source: Brookings Trade Forum, , Offshoring White-Collar Work (2005), pp. 203-240
Published by: The Brookings Institution
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T. N. SRINIVASAN
Yale University
Information- Technology-Enabled
Services and India's Growth Prospects
the first three decades

(1950-80) of India's planned insular economic
During development, real GDP

grew at an annual average rate of around 3.75 per
cent. The 1980s saw a limited opening of the economy and hesitant reforms. The
growth rate accelerated to 5.7 percent, fueled by fiscal profligacy financed in part
by external borrowing at high interest rates. A severe macroeconomic and
balance-of-payments crisis in 1991 following the first Gulf War, the collapse of
the Soviet Union (which was not only India's model for planned economic
development but also its arms supplier, a partner for barter trade, and a supporter
of India's interests in the Security Council of the United Nations), and the fear
of being left behind by the rapid growth of China since its opening in 1978 led
Indian policymakers to break away from its inward-oriented, state-directed, and
controlled development strategy and open the economy to external competition
and investment.
After addressing the crisis with the assistance of the International Monetary
Fund and theWorld Bank, the policymakers launched a process of systemic eco
nomic reforms that is still in progress. The economy responded to the reforms and
quickly rebounded from the crisis-induced fall in growth of GDP to 1.3 percent
in 1991-92. The growth rate accelerated, peaking at 7.8 percent in 1996-97. Sub
sequently it has fluctuated, falling to a low of 4.0 percent in 2002-03, largely

because of a severe drought-induced decline in agricultural output, and rising to
a peak of 8.5 percent the very next year, in large part owing to the recovery of
agricultural output (MOF 2005, appendix table 1.6). The latest available data
show that in the fiscal year of 2004-05, GDP growth was estimated at 6.9 percent,
I thank Lael Brainard, Susan Collins, Kanwal Rekhi, AnnaLee Saxenian, and Nirvikar Singh
for their comments.
203
204 Brookings Trade Forum: 2005
and in fiscal year 2005-06 it is also expected to be around that level (RBI 2005a,
table 1).
India's growth since 1980 is second only to China's
record of sustained
among large economies, so that, in discussions
so much about global economic
prospects generally or about global demand for natural resources (including,
most important, fossil fuels), the impact of Chinese and Indian growth is explic
itly mentioned. However, India has succeeded only modestly in raising its share
of world merchandise trade to 0.8 percent in 2004 from a low of 0.5 percent in
1983, while China's share has more than quintupled, from 1.2 percent to 6.4 per
cent, during the same period. China ranked third from the top in the share of
world merchandise trade in 2004, while India ranked a distant thirty-first in 2003
(WTO 2005, appendix tables 1 and 3;WTO 2004, table 1.3). In global trade in
commercial services (in which trade in information-technology-enabled services
[ITES] and business process outsourcing [BPO] are included),1 India has done
relatively better, with a share of 1.5 percent and a rank of twenty-one in 2004 as
compared to China's 2.8 percent share and ninth rank (WTO 2005, appendix
tables 2 and 4). Both China and India are expected to gain a significant share of
the global market of textiles and apparel with the expiration of the infamous
Multifibre Arrangement. Apparel imports from China are already being targeted
for restrictions by the United States and the European Union, and China itself is
restraining exports in anticipation. Similar actions against Indian exports are
possible, although India as a founding member of theWorld Trade Organization
(WTO) is not subject to the special provisions of China's Agreement of Acces
sion to theWTO that have been used to restrict China's exports.
India's software services exports in 2003-04 amounted to $12.2 billion, or
nearly half the total services exports of $24.9 billion. Earnings from ITES and
BPO accounted for another $3.6 billion (RBI 2005b, p. S343; MOF 2005,
p. 111).2 A high-level strategy group set up by the All India Management Asso
ciation(AIMA), comprising leaders from industry, academia, and the govern
ment, deliberated on the opportunities for providers in India in the growing
global market for remote services (IT services such as software, ITES, telemed
1. As will be clear from my subsequent discussion, a range of services is included under the
umbrella of ITES. BPO is a significant enough category of ITES to be broken out separately; IT
services themselves, which are treated in a different category, are also inherently "IT enabled."
2. Data from Indian sources on India's exports of computer and information systems to the
United States and data on imports of the same services by the United States differ. On the reasons
for this difference and adjustments to narrow it, see WTO (2005, box 2, p. 280). There is a pre
sumption that Indian data on exports include the earnings of its nationals working in the United
States on a temporary basis. They are also apparently included in the total employment of the sec
tor in the Indian data.
T. N. Srinivasan 205
icine, and learning) and services sought by visitors to India such as conventional
tourism, health care, and education.3 The group consulted wide segments of
society and decisionmakers, and its findings were processed by a task force
comprising AIMA, the Confederation of Indian Industry, and the Boston Con
sulting Group to formulate an action program. The task force concluded that
lack of coordination among various stakeholders toward achieving a common
goal was why India had been relatively slow in availing itself of the emerging
opportunities (AIMA 2003). It views its report as a first step in a process of
bringing about coordination and aligned actions. For the purposes of this paper,
it is enough to note the growth and employment implications of the opportuni
ties that the task force identifies. It finds that, by 2020, India can hope to gener
ate $139 $365 billion of additional revenue from the supply of remote services
for foreign residents and in situ services for visitors, pushing up the GDP growth
rate by an additional 0.6-1.5 percent per year between 2002 and 2020. It esti
mates the direct and indirect employment generated by this additional growth to
be between 20 million and 72 million.4 To put these numbers in perspective,
India is targeting GDP growth of at least 8 percent per year in the next two
decades. Its labor force, estimated at 363 million persons in 1999-2000 (MOF
2004, table 10.7), is expected to grow by 1.5 percent per year in the next two
decades. If that happens, 125 million persons would be added to the labor force
during the period. IT job growth projected by AIMA could provide jobs for a
significant share of these additions to the labor force, assuming that each IT
worker is fully employed.
The methodology of projection by the task force is not explained by AIMA.
The possibility that the projections of revenues and employment are very opti
mistic cannot be ruled out. However, for the very near term, official projections
are also available (MOF 2005, box 6.2). The Ministry of Finance expects value
added by the IT sector (including ITES) to grow to 7 percent of GDP by 2008
from around 2.64 percent in 2003-04. Exports of this sector are expected to be
between $57 billion and $65 billion, accounting for 35 percent of total exports
3. The last category does not directly come under the umbrella of ITES, but just as the devel
opment of IT services created positive spillovers for ITES, the latter, by improving information
flows and infrastructure, support the development of tourism and health and education services for
nonresidents. Thus this third category is also discussed in this paper.
4. AIMA (2003, p. 16). WTO (2005, p. 283 and appendix table 8, p. 301) cites India's National
Association of Software Service Companies (NASSCOM) as its source for data on employment
in India's software industry. It reports employment of 813,000 in 2003-04 and employment
growth of 21 percent in that year alone. If this rate of growth is sustained over sixteen years,
employment would grow to 17.2 million, generating additional employment of 16.4 million in the
software industry alone between 2003-04 and 2019-20.
in 2009, a rise of 14 percent from 2003-04. ITES/BPO exports rose from

$0.57 billion in 1999-2000 to $3.6 billion in 2003-04 and are expected to rise
to $21-24 billion by 2008. The fact that India's share of world IT spending was
only 3.4 percent in 2003-04 suggests that there is still considerable potential for
significant further growth.

Services imports from and BPO to India have attracted and continue to attract
media attention in the United States. They have also evoked a protectionist
response: "State legislators have introduced at least 112 bills in 40 states to
restrict outsourcing till March 17 this year [2005].... The New Jersey bill,
which the governor's decision to sign or veto, would be the most far
awaits
reaching anti-outsourcing measure in the country by prohibiting all state contract
work from being performed overseas."5 All this is indicative of the fact that not
only within India, but also in the rest of the world, India is expected to be a
major player in the IT industry in general and in BPO in particular. The emerg
ing consensus is that India will continue to grow rapidly in the next several
decades, and that its IT sector, broadly speaking, will contribute significantly not
only to GDP growth but also to employment generation and poverty alleviation.
In what follows, I trace the development of India's IT sector and the contin
uing role of the Indian IT diaspora in the Silicon Valley in the United States. I
then briefly discuss the possible role of IT in the growth process and as a source
of dynamic comparative advantage and look in some detail at the prospects of
and possible constraints on India delivering the high expectations about its IT
sector.
The Development of India's IT Sector
Prima facie, it is a surprise that India has been able to achieve as much as it
has in IT development.6 India is still a low-income country with gross national
income per capita of $540 (ranked 159th from the top) using World Bank's Atlas
method of calculating exchange rates, or $2,880 at purchasing power parity
exchange rates in 2003 (146th from the top). Even the IT indicators for India are
not impressive: with 7.2 personal computers per 1,000 people in 2002, India is
5. Suman Guha Mozumdar, "BPO Scare Intact: 112 Anti-Outsourcing Bills Moved," India
Abroad, May 6, 2005, p. A26. The United States is among thirty or more members of theWTO
who are signatories to the plurilateral code on government procurement. The New Jersey meas
ure could be in violation of the code. However, since India is not a signatory to the code, it can
not avail itself of the provisions of the code to dispute the measure.
6. This section draws on Kapur (2002) and Saxenian (2002a).
at just about the average of 6.9 for low-income countries and one-quarter of
China's 27.6. Indian has 17 Internet users per 1,000 people, just about the aver
age of 16 for low-income countries, but still only one-quarter of China's 64.
India spent 3.7 percent of its GDP on IT in comparison with China's 5.3 percent
(World Bank 2005, tables 1.1 and 5.II).7 Given this apparent backwardness,
Kapur rightly asks why India emerged as a leader "in a leading edge industry
when, despite strenuous (and, in retrospect, misguided) policies, it failed to
achieve such leadership in any other technology-intensive sector" (2002, p. 93)
(with the possible exception of pharmaceuticals). He is again right in rejecting
as inadequate and incomplete the explanation that the onerous economic control
regime that was in place, certainly during 1950-80 and arguably until the
reforms of 1991, had not intervened in the software sector, and given India's
endowment of science and technology manpower, comparative advantage con
siderations would the development
have enabled of the IT sector anyway. At a
deeper level, why the state's

indeed role eventually became more facilitative
than constraining in this sector remains to be answered.
Saxenian (2002a) points out that it is not entirely appropriate to conclude that
the self-sufficiency-oriented, insular development strategy of India since 1950
did not affect the development of the IT sector adversely; indeed it did, by
restricting imports of computer hardware (even if the importer committed to
exporting a certain amount of software) through high tariffs and limits on foreign
exchange allocations, and above all by insulating Indian industry from its global
counterparts. She notes that IBM was forced to depart from India in 1978, pri
marily because of its refusal to comply with the requirements of India's dracon
ian Foreign Exchange and Regulation Act.
Kapur (2002) suggests that the departure of IBM and heavy protection of
domestic hardware raised the relative costs of hardware and technology acqui
sition.8 The rising costs induced the industry to develop software skills in
7. According to UNDP's (2005) technology achievement index (a composite of disparate

indexes ranging from patents granted to residents to gross tertiary education enrollment ratio),
India ranked sixty-third, behind Trinidad and Tobago with a rank of forty-one and China with a
rank of forty-five! India, though included among the group of dynamic adopters, barely managed
to escape being included in the groups of marginalized countries (Nicaragua, ranked sixty-fourth,
leads the group of marginalized). This says more about the dubious value of this index and others
(such as the Human Development Index) put together by the UNDP than about the technological
achievement of the countries ranked and groups.
8. It is interesting that the Chinese prime minister started his April 2005 visit to India at Ban
galore, India's IT capital, and there were euphoric statements at official and unofficial levels of the
possibility of joint efforts to capture a large share of the global market by capitalizing on China's
capabilities in hardware and India's strength in software.

response. While this is plausible, until the disincentives of the autarkic system
were attenuated (and indeed reversed and turned into incentives), the skills so
developed would not have led to the spectacular growth of software exports in
particular, and of the IT sector in general. Both Kapur and Saxenian note that
there was a dramatic turning point in the policy environment for India's soft
ware and IT industries after Rajiv Gandhi became prime minister in 1984. The
major policy changes made by his regime included recognition in the Com
puter Policy announcement of November 1984 of software as an "industry"

entitled to the investment and other incentives available for domestic indus
tries; lowering of import tariffs (from 100 percent to 60 percent) on software
and personal computers; and the announcement in 1986 of the Computer Soft
ware, Development and Training Policy, which liberalized access to the latest
technologies and software tools for promoting the domestic software industry,
with the expectation of its becoming globally competitive, moving up the
value-added ladder, and capturing a significant share of global software
exports. The policy allowed import of software in any form, invited foreign
investment, and promised access to venture capital. There cannot be a more
dramatic departure than this policy from the strategy of technological self
reliance, import substitution across the board (from intermediates to capital
goods), and export pessimism. Another important event of the 1980s was the
visit to New Delhi in September 1989 by Jack Welch, then chairman of Gen
eral Electric (GE), and his breakfast meeting with Sam Pitroda, the chief tech
nology adviser to Prime Minister Rajiv Gandhi. It led to GE's technology part
nership with India, which began in 1991.9
The 1984 and 1986 policy initiatives were enabling in the sense of removing
policy-created barriers to the growth of the software sector, but the policies did
not become proactive until after the reforms of 1991. Saxenian quotes an indus
9. "India today earns more than $17 billion from corporations world-wide seeking low-cost
overseas talent to do everything from write software to collect debts to design semiconductors. GE
in large measure stoked the phenomenon, playing an unheralded role as the Johnny Appleseed on
India Inc. and reaping billions in savings for itself along the way.
But the strategy has been pivotal for GE. In 2000, it inaugurated a Jack F. Welch Technology
Centre in Bangalore that employs thousands of researchers working on everything from new
to jet engines. This year, the conglomerate plans to spend about $600 million on
refrigerators
computer-software development from Indian companies, according to a recent company report.
The company estimates that similar products would cost it as much as $1.2 billion in the US. GE
also recently unleashed a big new player in Indian outsourcing. In November, it sold a controlling
interest in GE Capital International Services, or Gecis, a company with about 17,000 employees
that GE started in 1997 to answer mail from its credit-card customers." Jay Solomon and Kathryn
Kranhold, "Early Investments Helped Fuel Tech and Service Sectors," Wall Street Journal, March
23, 2005.
try analyst: "Until 1991-92 there was virtually no policy support at all for the
software sector. Even the term 'benign neglect' would be too positive a phrase
to use in this connection" (2002a, p. 172). She notes the lack in the 1980s of
international communication links for software exports and cites the example of
Texas Instruments which, in setting up the first earth station in Bangalore in
1986, had to negotiate with the authorities for the removal or breaking of twenty
five different government rules relating to export of data via satellite links. The
absence of reliable telecommunications links forced Indian firms to be primarily
"body shoppers," who provided programming services on-site, typically in the
United States, to customers under contract.
All of this changed in the 1990s. Telecommunications reforms, which began
in the mid-1980s and included privatization and the creation of a regulatory
agency, were very successful, although the process was not smooth because of
the resistance of state-owned monopolies. Telephone calls within and from India
are perhaps the least expensive in the world. The Department of Electronics
introduced the scheme of Software Technology Parks (STPs) in the early 1990s.
An STP
is the analogue of an export-processing zone. Firms in STPs were
allowed tax exemptions, guaranteed access to high-speed satellite links, and pro
vided with reliable electric power and basic infrastructure, including core com
puter facilities, ready-to-use office space, and communications facilities. They
were allowed to import equipment duty-free and without import licenses. Full
(100 percent) foreign ownership was permitted in exchange for an export obli
gation. Firms were also allowed to repatriate capital investment, royalties, and
dividends freely once they paid the taxes due.10 The STPs played amajor role in
the development of the IT sector in the 1990s. The share of units located in STPs
in India's software exports rose dramatically, from 8 percent in 1992-93 to
81 percent ten years later (WTO 2005, box 1, p. 274). However, there is no hard
headed social cost-benefit analysis of the use of public resources in the creation
of STPs and the provision of other incentives.
There were also several somewhat fortuitous factors. First, as Kapur notes,
the restrictions on large business houses entering new fields under theMonopo
lies and Restrictive Trade Practices Act (which was repealed de facto only after
1991) prevented most of them from exploiting the newly emerging opportunities
in the IT sector. Only one of the very successful IT enterprises (namely, Tata
10. China provided all of these incentives and more (in particular, complete flexibility in hir
ing and firing) in its special economic zones (SEZs) to attract investment, particularly foreign
direct investment that was oriented toward export markets. But India's STPs focused only on soft
ware. India's later embrace of SEZs did not attract much FDI or lead to rapid growth of exports,
in contrast to what happened in China.
Consulting Services) belonged to a large industrial house. Although large houses

had substantial capital and other resources at their command, and precluding or
restricting them could have been crippling, this did not happen in the emerging
software and IT service industry since itwas not very capital-intensive. Besides,
small and medium-sized enterprises are usually the most innovative elsewhere in
the world, and the Indian IT enterprises were no exception. Second, India had
invested disproportionately in higher education in general and, in particular, had
established the elite Indian Institutes of Technology (IITs). Although IIT gradu
ates emigrated in significant proportions to the United States and accounted for
less than 5 percent of the engineering graduates in India, the impact of migr s
on the development of India's IT sector, particularly in the 1990s, was significant
(more on this in a later section).
As States, India's IT sector is also concentrated,
in the United located in
clusters in Bangalore, Chennai, Hyderabad, Mumbai, New Delhi, and Pune.
These cities also had the highest concentration of public sector R&D establish
ments (especially defense) as well as publicly funded engineering colleges.
Five of these (other than New Delhi) are in theWest and in South India. The
states in which the five are located, namely Maharashtra (Mumbai and Pune),
Karnataka (Bangalore), Tamil Nadu (Chennai), and Andhra Pradesh (Hyder
abad), together accounted for 64 percent of the annual intake of engineering
colleges in 2003, even though their share of India's population is only 27 per
cent (Forbes 2003, table 3). Indeed, these were the states that had the largest
expansion of engineering colleges since 1983 when, in a major liberalization,

privately funded institutions without state aid were encouraged. In Forbes's
view: "It is this expansion of engineering education that fueled India's software
boom, and it is no accident that the states with massive private expansion of
engineering education are precisely those where the software industry is
located" (Forbes 2003, p. 8).
The Y2K crisis brought prominent global attention to the skills of Indian soft
ware engineers. Indians had become good at converting old mainframe and
minicomputer applications toUnix applications in the 1980s and early 1990s. It

was essentially a tedious task that Americans were not willing to undertake.
However, it directly prepared Indians for Y2K by giving them expertise in appli
cations and also the reputation for reliable work. Y2K work accelerated the
process, but the previous application conversion work was the base on which the
whole thing was built.11 According to DataQuest,
11.1 thank Kanwal Rekhi for pointing this out in a private communication.
Y2K... triggered off a chain of events. Exports grew on the strength of

Y2K and never looked back. The local training industry boomed partially
because of it.... Locally, full-page government ads in leading dailies, ask
ing companies to become "Y2K-compliant," helped the paranoia along.
By the end of 1999, the industry was on an all-time high. IPOs of software
companies were getting oversubscribed several times.... This gave rise to
a minor scandal that rose and fell
fly-by-night operators who often had
no businessat all started putting IT in their names and entering the IPO
market. They made money; a lot of investors lost theirs.12
Whether or not itwas

fortuitous, the 1986 report of the Rangarajan Committee
on Modernization of India's largely state-owned banking sector recommended
"standardizing banking systems on Unix, then an unperfected operating system
when compared with MS-DOS. The government floated a tender for 400 Unix
systems and set off a scramble among Indian companies to come up with a Unix
platform. Though the local part of the contract eventually went to Sunray Com
puters, the report led local vendors into the Unix arena and eventually India's
transformation into a 'Unix country.'"13 It is possible that Unix would have been
attractive to a developing country such as India even had the committee not rec
ommended it: it was a semi-open source developedfor larger, more powerful
computers than PCs, for which the totally proprietary MS-DOS was developed.
Other competitors for Unix were also totally proprietary. Later, in the 1990s,
Unix turned out to be ideal for networkedcomputing, and Unix-based systems
still dominate the Internet server realm.14
The sources of the spectacular development of India's IT sector are diverse.
There is no doubt that the foundation of a skill base existed for its development in
the 1980s, in large part due to public investment in higher education and the cre
ation of elite engineering schools. The public policy regime mattered, both nega
tively in restricting the potential development of the sector until the mid-1980s,
and positively when it changed gradually from enabling its development before the
reforms of 1991 to proactively supporting its growth thereafter. Fortuitous or
serendipitous factors, depending on one's point of view, contributed as well. From
its beginning in body-shopping and routine programming, the industry has grown
12. DataQuest, "The Hot Verticals: The Great Indian Software Revolution," December 23,
2002, p. 5 (www.dqindia.com/content/20years/102122306.asp [September 13, 2005]).
13. DataQuest, "The Hot Verticals," p. 3.
14.1 thank Nirvikar Singh for pointing this out.
Table 1. The Indian IT Industry, 2003-04
Domestic
Growth, 2003-04
2003-04 (percent) Exports
Value, Growth
Units Value7" Units Value 2003-04* (percent)
Hardware
Systems: Servers
Total non-PC servers 4,393 1,170 14 13
Total PC servers 52,609 912 50 34
Total servers 57,002 2,082 46 21
Systems: Workstations
Personal workstations 12,078 99 73 13
Traditional workstations 3,100 122 29 44
Total workstations 15,178 221 61 28
Systems: Single-user systems

Desktops 2,691,823 8,014 21
Notebooks 90,680 736 88 80
Total PCs 2,782,503 8,750 22 12
Total systems 2,854,683 11,053 23 14 -100
Peripherals
Total printers/MFD 1,382,993 1,333 21 33
Other peripherals 3,163 54 2,200 72
Total peripherals 4,496 47
Networking 2,978 32
Total hardware 18,527 23 2,300 59
Total hardware services 3,142 39 10 -67
(continued)
in depth and scope. I conclude this section with a description of the industry as of
2003-04.
The hardware component of the industry is still small, accounting for a little
over one-fifth of the total value of output (see table 1). Exports accounted for
nearly two-thirds of total output, of which software and BPO services had shares
of 67 percent and 28 percent, respectively. It employs fewer than amillion work
ers out of a labor force of 363 million. According to India Today, "Still, the
buoyant BPO sector is absorbing English-speaking graduates in the thousands.

In 2005, IT & ITES will be the biggest job generator, creating more than
2.75 lakh [275,000] jobs. India's huge cost advantages with quality assurances
and large pool of skilled manpower will keep the going smooth. More than 250
of the Fortune 500 firms outsource their IT needs to India. There ismore growth
Table 1. The Indian IT Industry, 2003-04 (Continued)
Domestic
Growth, 2003-04
2003-04 (percent) Exports
Value, Growth
Units Value* Units Value 2003-04* (percent)
Software Services
Customized software 1,710 -10 27,755 18
Turnkey projects 3,300 30 1,586

Consulting/others 1,951 69 10,309 11
Total software services 6,961 24 39,650 15
Business process
outsourcing (BPO) 1,450 53 16,380 45
Training Services
Total training services 992 -12 110 29
Total services 12,545 26 56,150 22
Grand total 33,374 24 59,550 24.5
Source:DataQuest, "IntellectualProperty: India:Sleeping IPGiant" (www.dqindia.com/dqtop20/2004 [December2005]).
a. Rupees Crore (107 rupees);US$1 = 48 Rs.
in store" {India Today, March 2,2005, p. 14). The same story reports that the top
five IT and ITES firms pay an annual salary of $4,500-$6,250 for an engineer
ing graduate, roughly ten to twelve times the per capita income of the country,
one-sixth of the annual average U.S. salary in 2000, but less than that of an
employee of the occupations at risk of being off shored in the United States (see
also Bardhan and Kroll 2003, table 4).
The Indian industry is no longer confined to producing and exporting low-end
software products and services. Several multinational companies (MNCs),
including many leading ones, have established software development centers in
India. DataQuest reports that such MNC centers are filing for patents in large
numbers (1,108 in 2002-03).15 It suggests that intellectual property revenues
would constitute a major chunk of a software company's revenue in the future,
and Indian companies (other than MNCs), including some of the large ones,
have not yet started preparing for it. Leading Indian IT firms, such as Infosys and
Wipro, are multinational with offices around the world and employ nationals in
these countries. Infosys has alliances with the world's leading firms, including
15. DataQuest, "Intellectual Property: India: Sleeping IP Giant" (www.dqindia.com/dqtop20/

2004 [December 7, 2005]).
IBM, Intel, Microsoft, and Oracle, and also has made strategic acquisitions of
foreign firms. The story is similar forWipro; it is aggressively looking at com

panies to acquire in the enterprise, finance, and consulting areas.
NASSCOM (2004, p. 9) documents the increasing maturity of the industry
following a large number of mergers and acquisitions in 2002. It noted that tra
ditional IT service players have added ITES-BPO portfolios to their existing
offerings in order to provide a complete umbrella of end-to-end services. Multi

vendor and build-operate-transfer (BOT) contracts that offer customers advan
tages such as low risk, scalability, and competitive pricing have increased. Indian
vendors are expanding the spectrum of their service offerings in client locations
and even setting up facilities in other low-cost ITES-BPO destinations such as
China and the Philippines in order to tap those markets. They are also moving up
the value-added ladder to offer high-end services such as equity research and
analytics, as well as insurance and technology support and development.
Moreover, Indian vendors have moved far beyond call centers into financial
services, telecom, retailing, and automotive segments of the ITES-BPO sector.
In financial services, Indian companies are offering customers services centered
on accounting, billing and payment services, and transaction processing. Over
the past few years, some Indian service providers have also been offering higher
value services to customers in the areas of insurance
claims processing and
equity research support. They expect to gain from offshore outsourcing of cus
tomer and technical support and product development by the global telecom
industry; transaction processing, billing, telemarketing, and inventory manage
ment for large retailers; and engineering activities, such as computer-aided prod
uct and tool design, claims processing, and accounting processes for the auto
mobile industry (NASSCOM 2004, p. 10). The report also benchmarked the
performance of Indian industry on keyoperational issues with global bench
marks. It found that Indian industry is able to deliver at levels comparable to
their international counterparts on parameters such as quality, customer satis
faction, and between quality and customer satisfaction.
Finally, letme turn to some relatively recent developments in the provision of
services to tourists and visitors to India. As the home of an ancient civilization
and of several ethnic and religious groups (Hindus, Buddhists, Jains, Sikhs,
Muslims, Christians, Jews, and Zoroastrians) over millennia, India has many
ancient monuments, including churches, mosques, synagogues, and temples
besides the Taj Mahal.Of course, the diversity of its flora and fauna, the peaks
of the Himalayas, and other natural beauty also attract tourists. However,
because of the inadequacy of affordable quality hotel rooms, transport, and
communications, India failed to attract as many tourists as even much smaller
countries of the region. This is changing: tourist arrivals grew by 24 percent in

2004, and India is fast emerging as one of the top ten tourist destinations in the
world, according to the Reserve Bank of India (RBI 2005a, p. 80). However, un
conventional tourism is also on the rise. In particular, medical tourism is grow
ing. According to several recent newspaper reports, the availability of world
class treatment at a fraction of the cost in the United States or Europe is
attracting up to 100,000 to 150,000 foreign patients to quality hospitals across
India, representing a tenfold increase over just five years ago. Many of these hos
pitals were established and are staffed by Indian doctors who had emigrated to
and practiced for a long time in the United States and Europe. Another uncon
ventional service is education institutions of higher education are attracting
students from other South Asian countries. Recently, two premier institutions,
the Indian Institute of Management at Bangalore and IIT in Mumbai, have
started programs in Singapore in collaboration with the National University of
Singapore. Also, drug trials and sponsored research in the pharmaceutical indus
try are being outsourced to India.16
The Indian Diaspora and ITES Sector
The IT revolution, particularly the development of the Internet, has spawned

networks of engineers and scientists who are transferring technology, skill, and
know-how between distant locations, and more flexibly than most corpora
tions.17 Among foreigners in the United States, Indians were second only to
South Koreans as recipients of U.S. Ph.D.'s in engineering and science in 2003.
Indian engineers were at the helm of a significant and growing number of Sili
con Valley-based technology companies. The proportion of companies run by
Indians has grown from 3 percent of those started between 1980 and 1984 to
10 percent of those started between 1995 and 2000, and is probably even higher
16. India's success in producing generic equivalents of patented drugs is owed in part to India's
decision since 1970 to grant only process and not product patents in the pharmaceutical industry.
This success became internationally visible when Indian companies became able to supply generic
antiretroviral drugs to treat AIDS far more cheaply than the multinational companies. With India
becoming a signatory of the TRIPS (Trade Related Aspects of Intellectual Property Rights) agree
ment, Indian patent law had to be amended inMarch 2005 to grant product patents as well. There
is a real danger that the generic industry will be destroyed by this amendment (see Abbott,
Kapczynski, and Srinivasan 2005). On the other hand, because the Indian pharmaceutical indus
try has built a reputation for quality, drug trials and sponsored research are being outsourced to
India.
17. This section draws on Saxenian (2002b).
among those started after 2000. Further, data from the U.S. Bureau of the Cen
sus show that the Indian share of Silicon Valley's science and engineering grew
from 2 percent (400 workers) in 1970 to a significant 13 percent (20,000 work
ers) in 2000, most of the increase having taken place in the 1990s.18 Members of
the two professional associations of Silicon Valley, The Indus Entrepreneur
(TIE) and Silicon Valley Indian Professionals, and those who held senior posi
tions in U.S. companies, were instrumental in convincing their senior manage
ment to establish operations in India. As India built a reputation as a supplier of
software, most Silicon Valley technology companies established their own
development centers in India. The dot.com bust resulted in some Silicon
Valley-based Indians returning to India and setting up enterprises of their own.
Saxenian (2002b) rightly stresses the growing influence of the Silicon Valley
Indian community in Indian policymaking. One of the doyens of the community,
often called the "sage of Silicon Valley," Kanwal Rekhi, former chief technology
officer at Novell, has been a vocal advocate of policy change in India. In his reg
ular visitsto India, he has met with senior policymakers at the central and state
levels. He deserves much of the credit for the breathtaking scope of India's
telecommunications reform and its success. But for his very public attack on the
entrenched bureaucracy of the Department of Telecommunications (DOT), it is
unlikely that the reform would have proceeded very far.19
K. B. Chandrasekhar, another Silicon Valley entrepreneur, led a committee in
1999 on venture capital (VC) for the Securities and Exchange Board of India.
The committee's report provided a comprehensive vision of the growth of
India's VC industry. The industry has had remarkable growth since the report. In
2004 nonresident Indian (NRI) entrepreneurs led by the Silicon Valley giants
prepared an action plan for attracting substantial foreign direct investment (FDI)
to India and presented it to the government in January 2005. It has been well
received and some of its recommendations have already been implemented.
There is no doubt that their success in the global market is the main, if not the
only, reason for their not only being heard with respect but actively sought after
by policymakers.
Three prominent Silicon Valley entrepreneurs, Vinod Khosla (of Sun Micro
systems fame), Kumar Malavalli (of Brocade Communications Systems), and
Kanwal Rekhi, realized that to change policy successfully, three ingredients are
essential: sound, policy-oriented research from academics to provide the foun
18.1 thank AnnaLee Saxenian for drawing my attention to these data.

19. He coined the Hindi slogan "DOT Hatao-Desh Bachao," which means "Curb the DOT and
Save the Nation!"
dation for policy advice; discussion and debate of the proposed policy advice in
a forum consisting of academic researchers, prominent politicians, bureaucrats,
and media representatives; and monitoring of the implementation of the advice.
The three took the initiative to provide significant resources to Stanford Univer
sity's Center for International Development for sponsoring and undertaking pol
icy research on India's economic reform and organizing a conference at which

research findings and policy recommendations following from them are pre
sented. Five annual conferences have been held since 2000; two conference vol
umes have been published, and a third is in press. The sixth conference was held
in June 2005. Besides supporting research at U.S. universities, the Silicon Val
ley community has also been active in upgrading Indian institutions, starting
from the HTs, of which many of them are alumni, and also creating new institu
tions, such as a business school inHyderabad whose faculty includes regular vis
itors from top U.S. business schools. Some Silicon Valley entrepreneurs, hailing
from different states in India, are realizing that policy reforms are urgently
needed at the state level in India. A group of TIE members interested in Kerala
have formed a Kerala Support Group. Others are likely to follow. Finally, at the
request of India's prime minister a group of entrepreneurs and business persons
in the Indian diaspora, including veterans of Silicon Valley, got together in fall
2004 and came up with practical suggestions for improving FDI flows to India.
Their proposals were presented to the prime minister and the Planning Com
mission in January 2005. The subsequent removal of some dysfunctional restric
tions on FDI and the legal action creating special economic zones were in part
the result of these proposals.
It is clear that the influence of the Indian IT diaspora
is spreading beyond the
narrow confines of the Indian IT industry to influence India's economic devel
opment and growth more broadly. The demonstrable success of India's IT and
software sector in the global market is having a profound impact on Indian
industry and also, importantly, on the educated youth. From a fear of competi
tion, as evidenced, for example, by the demand for antidumping measures
(ADMs) against cheap imports, particularly from China (a demand that the gov
ernment was too willing to agree to, making India the largest user of ADMs
among members of theWTO in the last couple of years), there is now a grow
ing sense of confidence among Indian industries of being able to compete and a
desire to view China as a large and growing market to export to, with the result
that trade with China has grown rapidly. An important aspect of achieving and
maintaining global competitiveness is attention to product and service quality.
Again, the reputation for quality that IT vendors have built has not gone unno
ticed. India is now poised to become a major destination for outsourcing of
manufactured products, as China is already. This is already happening in auto

components Indian suppliers, like the Chinese, are competitive both in cost
and quality (Sutton 2005). Indian automakers have recently begun exporting
passenger cars: from 25,000 cars in 1998-99, exports grew to 121,000 in nine
months of 2004-05 (MOF 2005, table 7.5). Last, there is a sense of confidence
among the educated youth about the future and in their ability to compete suc
cessfully with the best of their cohort from anywhere in the world, a confidence
that was noticeably absent not so long ago. These intangible effects are no less
important than their tangible ones on the growth of exports, GDP, and employ
ment. Among the most important intangible effects of India's perceived eco
nomic success broadly, and in high-technology sectors including IT and the
pharmaceutical sectors in particular (both achieved without in any way compro
mising its vibrant democratic political system), one must include a vast improve
ment standing. There is a recognition that India is amajor
in India's international
Asian power, along with China and Japan. It is no coincidence that, in a short
span of six weeks in March and April of 2005, high-level visitors to India
included the Chinese prime minister, the U.S. secretary of state, the president of
Pakistan, and the UN secretary general. India is a serious contender for perma
nent membership on the UN Security Council if the proposed expansion of the
council comes about, though this seems unlikely in the foreseeable future.
The Analytics of the IT Sector in the Growth Process
There are many

possible channels through which IT could affect an econ
omy's output (its level and possibly rate of growth in a steady state). Singh
(2004) focuses on one, namely the reduction of transaction costs through the use
of information technology.20 In his model, a reduction in transaction costs
increases the number of intermediate goods that are produced and in turn influ
ences growth. A representative household supplies labor inelastically and has a
logarithmic instantaneous utility function for a single consumption good pro
duced by identical competitive firms with constant returns to scale technology
using labor and a symmetric composite of differentiated varieties of intermedi
ate goods best viewed as perishable producer services. The composite is a con
20. Information technology can reduce transaction costs in several ways, for example, by
reducing search and matching costs, by speeding up and making more reliable the completion of
transactions, by substituting long-distance communications for physical transportation, and by
improving tracking and logistics of delivery. These benefits can be obtained in transactions for
intermediate or final goods and services.
stant elasticity of substitution (CES) aggregate of available varieties at each

point in time, with an elasticity of substitution greater than one. This implies that
aggregate production must be increasing in the number of varieties of interme
diates (in a symmetric monopolistically competitive equilibrium in which all
the available varieties cost the same and are used in the same amount).
All varieties are produced with the same technology with a fixed start-up cost
and a constant variable cost, both in units of labor. Finally, transaction costs are
modeled la Samuelson's iceberg transportation costs: intermediate goods pro
ducers receive only an exogenously set fraction of what the producers of the con
sumer goods pay them; the remaining fraction melts away as a transaction cost.
Thus any fall in this exogenous fraction is a reduction in transaction cost.
There are no forces in thismodel that can generate sustained growth, since the
labor force is given, and in contrast to Helpman's (1990) model, there is no
learning effect that continuously reduces the fixed cost of producing a variety of
intermediates as their cumulative output grows. Thus Singh focuses on the prop
erties of a steady state, if it exists. It turns out that the relative value of the elas
ticity of substitution 6 between labor and the intermediates aggregate in the pro
duction of the consumption good and that between different varieties in the
intermediate aggregate, a, is what matters. Both are assumed to exceed one. If
0 < cr, there is a unique value n for the number of intermediates n, such that if
the economy starts with n0 < n*, it converges to n over time, and if it starts with
n0 > n*, it stays at n0. Thus initial conditions do not matter too much, in the sense
that any economy starting from n0 below n converges to it. However, n is a
decreasing function of the transaction cost.
If 9 > a, there are three possibilities depending on other parameters, including
the utility discount rate and transaction costs: (i) n stays at n0, so that any initial
n0, is also a steady state; (ii) there are two values n *L
and n *H
with nL<nH such that
if n0< n*L,it stays at n0\ if n*H>n0>n*L, n converges to nH\ and if n0 > n*H, n stays
at n0. Thus any initial n0 in the interval (0, n*L]or [ n*H, ) is a possible steady state.
However, for an initial n0 in(n*L,n*H) the steady state is n*H\ and (iii) again, there
are two values nL and nH as in (ii), but in this case, even if n0 < n*L, the n can con
verge to nH so that for any initial n0 in (0, n*H] including the value n*L, the steady
state is n*H.Summarizing, transaction costs have three impacts: first, the standard
deadweight loss; second, with higher transaction costs, few intermediates are
produced, leading to lower output of the consumer good and hence lower welfare;
and third, they may arrest the process of change in the sense of keeping the num
ber of varieties of intermediates at their initial level and/or reduce their long-run
level. Although the model in illustrating the possible cost of high trans
is useful
action costs, as noted earlier, its structure precludes the analysis of growth effects.
The model (2002), though not as fully worked out as the above,
in Singh
addresses the growth impacts of IT (including nondigital methods of storing and
communicating information) through an extension of a model of recombinant
growth developed by Weitzman (1998). The Weitzman model captures the sim
ple concept that new ideas are formed through combinations of old ideas. Singh
follows Weitzman in focusing on this concept to the case in which ideas can be
combined in pairs. Given the possible combinations of pairings, the number of
ideas grows exponentially. By decomposing the total stock of knowledge or
ideas into the stock of IT knowledge and non-IT knowledge, Singh captures the
special role of IT knowledge. He specifies that the stock of IT knowledge affects
the growth in stocks of both types of knowledge in the same manner, so that IT
stock gives the growth process an "extra kick" even beyond the exponential
growth that theWeitzman model produces.21 Singh conjectures that the model
has a steady-state growth rate, but its comparative statics with respect to the
parameters of the "extra kick" term are yet to be worked out.
Let me this section by listing the mechanisms
conclude through which IT
could affect the level and growth of output. First, as in the Singh models, IT ser
vices are in effect universal intermediates (like energy) that are essential to any
production activity and possibly most, if not all, consumption activities. Thus
any technical progress in the IT sector reflects itself first in productivity gains (or
cost reductions) in the IT sector. Then, as the changes in the IT technology dif
fuse, as the rest of the economy makes the appropriate investments in equipment
and processes to take advantage of the new lower-cost IT technology, other sec
tors of the economy will experience productivity gains. Because the diffusion
process is likely to be gradual, the total factor productivity (TFP) gains will be
spread over time. The debate in the United States about the contribution of com
puters and IT to productivity growth is in large part about this diffusion effect
(see Jorgenson 2005; Gordon 2000). In India also, the diffusion that has begun
would yield TFP gains over an extended period of time.
The mechanisms through which IT affects the level and growth of output are
essentially aspects of the diffusion process. First, as IT diffuses, improvements
in the efficiency of resource use would affect the level of output growth both sec
21. The justification of this special role for IT comes from the importance of being able to
store, process, and communicate information effectively: without writing, without telephones,
without the Internet, the success rate of converting potential new ideas into actual additions to the
stock of knowledge would be lower. As an illustration, the use of IT makes the IT sector itself
more efficient and innovative using software for automated
(for example, testing during software
development) as well as providing this benefit to other sectors (for example, using IT to improve
the workings of call centers, or to reduce mistakes in medical transcription).
torally and, even more important, intersectorally, as gainful transactions (market

and nonmarket) that were previously unavailable became available. Already, im
provement in market price information, and hence higher revenues, are being
realized in some parts of rural India. Another area that positively affects both the
level and growth of output is IT-based delivery of education at all levels.22
In principle, an extensive and effective use of IT in public administration
could enhance transparency, as well as reduce avoidable time lags and transac
tion costs. It is also possible that increased transparency in itself could reduce
administrative corruption and malfeasance. It is too early to judge from several
ongoing e-governance pilot projects whether these expected beneficial effects
are being realized (Singh 2002, p. 18). However, it is early enough to recognize
the existence and rapid growth of several private (profit-oriented as well as non
profit) initiatives in addition to publicly funded schemes in India. Singh men
tions several of them. There is reason to hope that the diffusion of IT will gather
steam and contribute significantly to accelerating growth in the not too distant
future.
Because IT goods and services are tradable internationally, productivity gains

from their diffusion to the entire economy should occur regardless of whether
such goods and services are locally produced. Obviously, whether a country
produces an intermediate good domestically or imports it is the aggregate out

come of the decisions of its producers of final products to buy the good from
local or foreign suppliers. Indeed, these decisions are related to the organization
of firms in the sense that a vertically integrated firm producing a final product
produces the intermediate products it needs, whereas less integrated firms would
purchase some of the intermediates they need from others (in particular from
suppliers who specialize in the production of intermediates); that is, they would
outsource such intermediates. When such outsourcing leads to offshoring, the
intermediates be imported. The offshore producer could also be a sub
would
sidiary of the offshoring multinational firm, so the purchase transaction would be
internal to the firm. Thus, in general the problem of whether to outsource or off
shore has to be embedded in an analysis in which the organization of firms
(whether to be vertically integrated, or whether to become multinational that
is, to engage in FDI) is endogenous.
In a series of papers Grossman and Helpman model the determinants of the
location of subcontracted (that is, outsourced) activity in a general equilibrium
model of outsourcing as trade, integration versus outsourcing in the equilibrium
22. Singh (2002) cites the projects "e-choupal," linking the Indian farmer with national and
international markets, and TARAhaat as examples.
organizational structure of industries, and outsourcing versus FDI (2002a,

2002b, and 2003). An essential feature of these models is that outsourcing of an
intermediate requires searching for a partner and making relation-specific invest
ments that are governed by incomplete contracts. Naturally, finding a suitable
partner is easier if the market for intermediates is thick (and thickness can differ
between domestic and foreign markets). Also, whether the intermediate has to be
customized to the specification of a single user (in which case, once it is pro
duced, the supplier has no other user for it than the one for whom it was cus
tomized) or is usable by many, matters for contracting, since the possibility of
the supplier, once he has produced the customized intermediate, being "held up"
by the user can arise.
IT products, such as some software, have characteristics that often involve
customization. Moreover, such characteristics are at best observable by the sup
plier and purchasers, but not verifiable by third parties, thus precluding contracts
between suppliers and purchasers that stipulate a given price for an agreed quan
tity to be purchased. For a closed economy Grossman and Helpman (2002b)
analyze domestic outsourcing in such a context, based on the tradeoff between
costs of running a larger and less specialized organization in a vertically inte
grated firm and the costs arising from the search for a suitable partner to out
source and imperfect contracting, were it to outsource.
Turning to FDI, Grossman and Helpman (2003) set forth three possible equi
libria. In one, all firms choose to invest in a subsidiary abroad to produce their
intermediates there. In another, all choose to purchase them from independent
suppliers in the foreign country. In the third, some firms opt to engage in FDI and
others in purchase. Which of the three is relevant depends on the values of three
parameters representing, respectively, the price elasticity of demand for any vari
ety of the differentiated final product (assumed to be greater than one), the mar
ginal cost of producing the substitute in a subsidiary abroad, and the difficulty of
contracting with an independent foreign supplier. With marginal cost sufficiently
low, elasticity of demand sufficiently low (that is, close to one), and the difficulty
of contracting sufficiently great, in equilibrium all firms engage in FDI. By con
trast, with marginal costs neither too low nor too high, elasticity of demand
above 1 but by not too much, and a moderate difficulty in contracting, in equi
librium some firms do engage in FDI and others purchase. It is conceivable that
the search and contracting costs will be lower if both supplier and purchaser
happen to be national firms. If this is the case, the gains from having domestic
firms supplying and other domestic firms purchasing IT products could be large
in comparison with domestic purchasers buying and contracting with foreign
firms. For this reason, it is likely that firms in non-IT sectors in India would pur
chase their IT services and products from existing domestic IT firms rather than
import them. Also, if contracting difficulties are relatively fewer and marginal
cost of production relatively higher in India than in China, the Grossman and
Helpman (2003) model would predict more FDI in China than in India.
Future Prospects of the Indian IT Sector: Conclusions
The spectacular growth of software exports as well as ITES-BPO has been

underpinned both by the relative abundance of skilled workers and by their rel
atively low cost. NASSCOM (2004, p. 15) points out that the success of the
Indian ITES industry is in large part due to the country's immense pool of
English-speaking skilled workers. NASSCOM (2005) estimates the stock of
graduates (engineering degree and diploma holders, degree holders in the arts,
commerce, and science) at 22 million in 2003, with approximately 2.5 million
graduates in 2004 from about 275 universities and 14,000 colleges in the coun
try.Of course, those numbers do not adjust for differences in the quality of skills
and are not broken down by the skills required for working in different segments
of the IT sector. For example, the skills required to be employed in a call center
are surely different from those for developing software. NASSCOM (2005)
estimates that 250,000 engineering degree and diploma holders entered the
workforce during 2003-04, with a large segment believed to have joined the IT
industry. The industry is estimated to have employed 841,500 professionals in

2003-04, of which 270,000 worked in the export sector and 253,000 in the BPO
sector. Still, if one assumes that the share of the stock that is employed in the
industry does not change, the implied annual growth rate of the stock at 11.3 per
cent (the ratio of graduates to stock) is far below the growth of 35 percent that
NASSCOM (2004, p. 15) projects for the value of India's ITES/IT services out
put for the period 2003-12. Thus, unless the ITES/IT sector's share of the stock
grows or the stock itself grows more rapidly, there could be excess demand for
labor in the sector, and the wages and salaries of ITES/IT workers would have
to increase to wipe out the excess demand:
While demographic studies have suggested that India could be one of the
few countries with a surplus of personnel within the employable age group
by 2020, there is a possibility of a shortage in terms of availability of
skilled personnel for ITES/IT, even in the medium term.
This gap could be to the tune of 235,000 for IT services and 262,000
for IT-enabled services and could increase in 2012 in the absence of any
Special efforts tomeet the manpower requirements. (Government of India

2003, p. 6)
Any increase in emoluments of ITES/IT workers in India with no change in

their productivity would cut into the cost competitiveness of India. It is not easy
to obtain reliable and well-documented unit costs of IT sources and products for
Indian suppliers relative to their competitors in other countries. The following
data from reports of Evalueserve, a full-service business intelligence, market
research, and intellectual property services firm, are suggestive: the costs
reported do not include profit margins, which run around 10-15 percent in India,
but do include marketing and sales costs:
For IT services, costs range from $11 per hour to $19 per hour for work
being done in India. $11 per hour essentially corresponds to the lower end
IT work that is being done by a college graduate (with a bachelor's in
computer architecture) or a graduate engineer. On the other hand, $19 per
hour is for higher-end work being done by people with four or five years
of experience.
For ITES the costs range from $9 per hour to $22 per hour (for work
being done in India); $9 per hour is essentially credit card processing and
other low-end, nonvoice work. For low-end voice work (such as call cen
ters), this goes up to $11 per hour. On the other hand, $22 per hour is for
higher-end work like investment banking research, intellectual property
research, etc.
In either case, Indian companies typically charge for 2,050 to 2,100 working
hours per year per full-time-equivalent (FTE), although an average FTE in India
is currently working 2,300 hours, which is the same as in South Korea (Alok
Aggarwal of Evalueserve, private communication with the author, August 15,

2005). A significant component of unit cost is labor. Table 2 puts labor cost dif
ferences in perspective. At the low end of the skill spectrum (the first three rows
of occupations in table 2), India is likely to remain competitive for the foresee
able future. At the higher end of the spectrum (the last three rows), India's com
petitive edge is likely to be eroded, with Indian wages rising relative to the U.S.
wage. On the other hand, productivity and quality improvements that will miti
gate, if not completely offset, cost increases are also taking place. Saxenian, in
a private communication of May 5,2005, points out that in interviews Indian IT
professionals informed her of "the process and quality improvement in the
largest Indian firms (TCS, Wipro, Infosys, etc.), especially in the period since
Table 2. Hourly Wages for Selected Occupations, United States and India, 2002-03
U.S. dollars
Hourly wage, Hourly wage,

Occupation United States India
Telephone operator 12.57 Under 1.00

Health record technologists/medical transcriptionists 13.17 1.50-2.00
Payroll clerk 15.17 1.50-2.00

Legal assistant/paralegal 17.86 6.00-8.00
Accountant 23.35 6.00-15.00
Financial researcher/analyst 33.00-35.00 6.00-15.00
Source:BardhanandKroll (2003, table3).
2000 when substantially more work was shifted to India from the U.S., allowing
for the accumulation of skill and learning on the job." Her own research found
that there are a "surprisingly large number of Indian firms that are CMM [capa
bility maturity model, developed by the Software Engineering Institute at
Carnegie Mellon University] Level 5 certified. There are none in China at Level
5 yet, and few even in the U.S."
Another interesting set of cost comparisons relates to medical tourism. Jay
Solomon reported in the Wall Street Journal (April 26, 2004) that India's
"Apollo [hospital] offers cardiac surgery for about $4,000, compared with at
least $30,000 in the U.S. Apollo's orthopedic surgeries cost $4,500, less than
one-fourth the U.S. price." John Lancaster reported in the Washington Post
(October 21, 2004, p. A01) on a patient with a life-threatening heart condition
who would have had to undergo surgery at a cost in the United States of
$200,000; instead he flew to New Delhi and had it done at Escorts Heart Insti
tute and Research Centre. It cost him $10,000, including airfare and a side trip
to the Taj Mahal. Not only are costs lower, but quality may be higher as well at
India's private centers of excellence, such as Escorts. Lancaster quotes Naresh
Trehan (a former assistant professor at New York University's Medical School)
of the Escorts Centre as saying that the "death rate for coronary bypass patients
at Escorts is 0.8 percent. By contrast, the 1999 death rate for the same procedure
at New York-Presbyterian Hospital, where former president Bill Clinton recently
underwent bypass surgery, was 2.35 percent, according to a 2002 study by the
New York State Health Department."
A third report, by Saritha Rai (New York Times, April 7, 2005) speaks of a
patient from England who needed a coronary bypass operation but would have
had to wait six months to get it from British National Health Services. He trav
eled toWockhardt Hospital in Bangalore for the surgery following a chance
meeting with a businessman who had gone to India for surgery. His surgeon
there had trained in London, and the surgery cost $8,400, including travel. More
over, according to the patient, his surgeon gave him his cell phone number and
was available twenty-four hours a day. He concluded that in the British Health
System "you are just a number, but here you are a person."
Such stories are frequently reported in the U.S. media. As I noted earlier,
100,000-150,000 foreigners currently visit India for medical treatment annually.
A report by McKinsey & Co. projects a revenue of $2.3 billion by 2012 from
medical tourism to India. It is not out of the realm of possibility that India could
go beyond offering inexpensive but high-quality surgery at hospitals and develop
as a destination for the elderly to live out their retirement years in a warmer cli
mate and with better health care than they could obtain in the United States or
Europe.
Although the prospects for substantial growth in the ITES/IT sector, as well
as in in situ services such as medical tourism, are very bright, realistically speak
ing there are several constraints besides a potential manpower shortage that
could preclude their full realization. Reliable electric power, efficient and inex
pensive telecommunications, and access to venture capital are essential infra
structures for the IT sector. Although telecommunications infrastructure has
vastly improved, as noted earlier, there are still some unresolved issues relating
to the authority of the regulatory agency (Telecommunications Authority of
India, TRAI) vis- -vis the Department of Telecommunications and the state
owned providers. The electric power situation continues to be abysmal. In fact,
the large IT firms, like other large enterprises, have had to invest in their own
captive power generation facilities. To the extent that the unit cost of power from
small-scale captiveplants is much higher than it would be from an efficient
large-scale utility, the failure of India's public power system adds an avoidable
cost to doing business and dampens the competitiveness of its IT sector.
Narayana Murthy, the CEO of India's leading IT firm, Infosys, and Sandeep
Raju of the same firm pointed out in 2002:
Efficient commercialization of cutting-edge output from research labs,

entrepreneurship forums at universities, highly efficient alumni networks,
close links between leaders in academia and business, risk appetites of
venture capitalists, synergies between science/engineering schools and
business schools, collaborative research among universities, keiretsus
bringing together businesses and venture capitalists, angels with the will
ingness to nurture talent, the abundance of forums where youngsters may
put forth their ideas and interact with industry leaders, opportunities for
collective learning all these are differentiators that put the Valley several
notches above other hi-tech habitats. In sum, Silicon Valley operates in a
vibrant market economy that reveres innovation.
That Bangalore entrepreneur, on the other hand, does not have easy ac
cess to all these resources. However, it must be borne in mind that the
information revolution is a fairly recent phenomenon in Bangalore.
(Murthy and Raju 2002, p. 201).
Things have improved substantially since they wrote. The venture capital supply
has increased, and some of the networks they mention are beginning to emerge.
But significant close links between academia and business are yet to be forged.
Young workers in the IT industry are conscious of their market value, so
much so that turnover of workers in the ITES sector, particularly in smaller firms
operating at the lower end of the quality spectrum, is high. In call centers, annual
turnover is reported "to exceed 50 percent. High staff turnover is reported even
among the more established, employee-friendly IT companies, some of whom
offer stock options and residential accommodations to entice employees to stay
on" (Chithelen 2004, p. 1023). High turnover indicates an excess demand and
makes itmore expensive for Indian firms to maintain and improve their com
petitiveness and quality of service.23 Although India's labor force is very large,
and more workers would like to acquire the skills to enter the IT sector, setting
up training facilities would be costly and involve years of planning and imple
mentation. Chithelen notes that the explosive growth in BPO demand has
attracted new entrants to the business, and the resulting competition is reported
to have bid down fees from $20 per programming hour for U.S. entrants cur
rently from over $60 in 2000. He fears that greater competition among vendors,
some of whom are aggressive but inexperienced new entrants, coming on top of
labor supply constraints, could compound the decline in quality of service.
India's labor and bankruptcy laws could be counterproductive in the IT sec
tor, as they are in other sectors of the economy. A report in 2000 by the Subject
Group of Knowledge-Based Industries in the Prime Minister's Council recom
mended exempting the IT sector from some of the draconian provisions of labor
laws. Whether it is wise to exempt one sector from a dysfunctional law rather
than repealing it is arguable. In any case, political support for a repeal is not there
23. Kanwal points out in his private communication

Rekhi that the high turnover in the ITES
sector is in the nature
of the beast. This industry essentially employs youngsters who do not con
sider it a career. Many of them go on to higher learning. He cites the increase of Indian students
in U.S. universities over the past several years as evidence of that.
yet. However, some de facto exemptions do exist. For example, in ITES, states
often exempt call centers from working-hour restrictions, allowing women to
work at night. Also, it is likely that programmers in large firms are not subject to
the same provisions as industrial workers.24
Moving away from domestic to external constraints, I have already men
tioned the protectionist backlash against outsourcing in the United States and
elsewhere. Apart from this, the outcome of negotiations on services in the Doha
Round of world trade talks is also important. In the parlance of the General
Agreement on Trade in Services (GATS), there are four modes of services trade.
From the perspective of outsourcing and trade in ITES/IT services more gener
ally, the two modes that are particularly relevant for India are mode 1, which
covers outsourcing that is, the supply of a service from the territory of one
member of theWTO to the territory of another member without movement of
the use and provider of the service from where they are located; and mode A
that is, trade by a service supplier of one member, through the presence of nat
ural persons of a member in the territory of any other member. In plain lan
guage, mode 4 involves temporary migration of labor from the territory of one
member to that of another. Members undertake commitments under each mode
of supply. Thus far, members have made most cross-border commitments for
mode 3, relating to foreign establishment. Commitments for mode 1 are much
narrower and more limited, with a range of restrictions involving nationality,
residency, authorization, and local authentication requirements. Commitments
on mode 4, perhaps the most relevant mode for most developing countries, are
the fewest and most restrictive. Many of the IT professionals from India in the
United States have been admitted States as temporary immigrants
to the United
under H-1B visas. The annual number of such visas to be issued is determined
by Congress, in part on the basis of market conditions for labor with the requi
site skills and in response to lobbying. It is to be hoped that before theWTO
ministerial meeting inHong Kong inDecember 2005 the lacunae in GATS will
be addressed.
India is not the only country with a pool of English-speaking workers avail
able for employment in the ITES/IT sector. Other countries with such popula
tions include Bangladesh, Ireland, Pakistan, Sri Lanka, and the Philippines.
Except in Bangladesh, the wage costs are higher than India's in the other coun
tries. The ability to speak English can, of course, be acquired, and as such, poten
tial future competition for India from countries currently without a significant
pool of English-speaking workers cannot be ruled out. Prominent among such
24.1 thank Nirvikar Singh for pointing this out.

countries is China. Yahya (2002) notes that there are two competing schools of
thought among Indian policymakers about China's efforts to expand its software
sector: "One school believes that China is a serious competitor and that India
should not assist its progress in any way.... The other school argues that India
has a lead of two to three years over China and notes that India should use China
as a market and collaborate with it" (Yahya 2002, pp. 114-15). I have already
noted the various agreements
that, given signed and the press releases during
Chinese premier Wen Jiabao's visit to India inApril 2005, the collaborationist
school seems to have won. In fact, as Yahya points out, China's former premier,
Zhu Rongji, during his visit to India in January 2002, also expressed the view
that China and India could dominatethe world IT market if they combined
forces. The report of the India-China Joint Study Group on Comprehensive
Trade and Economic Cooperation, presented to the prime ministers of the two
countries by their commerce and industries ministers during Wen Jiabao's visit,
recommended the following:
Companies from India and China should continue to explore each other's
markets. The two countries can use their core competencies in hardware
and software to increase their share of [the] world's trade and gain greater
access in third country markets.
Industry association such as NASSCOM may closely interact with its
counterpart organization in China to promote co-operation in this sector.
Both countries should work together to enforce copyright and reduce
piracy. Moreover, the software enterprises of both countries can easily
adapt to the ever changing high-tech market and strengthen their status in
[the] global market by having more joint research projects, enhancing the
exchange of technological personnel and cooperation in training.25
The report also noted significant scope for collaboration between the two coun
tries in themarket for services in several areas, including health, accounting and
auditing, education, finance, and advertising.
India's IT and ITES-BPO sectors have firmly established a global reputation,
and the potential for sustaining their rapid growth is bright. The success of the
industry's premier organization, the National Association of Software and Ser
vice Companies (NASSCOM), is being emulated by associations in the phar
maceutical, computer hardware, and auto parts manufacturing industries and
25. "Report of the India-China Joint Study Group on Comprehensive Trade and Economic Co
operation" (www.hindu.com/thehindu/nic/0041/report.pdf [May 4, 2005]).
others. Importantly, like NASSCOM, they are succeeding not only in lobbying
but also in raising standards and quality.26 The growth of the IT sector could con
tribute significantly to accelerating GDP growth and add a large number of well
paid jobs. Faster GDP growth and the indirect employment created by IT sector
growth would also contribute to poverty reduction. There are, however, some
serious domestic and external constraints that, if left unaddressed, could sub
stantially diminish the realization of the potential growth.
Conclusion
The visible success of the IT sector raises two important questions. First, can
India's future growth be IT-led, in the sense that the IT sector would not only be
the prime engine of growth but also, because of its increasing share of GDP,
compensate for slower growth in the nonservice sectors such as agriculture and
large-scale manufacturing? Second, to the extent that the success of the IT sec
tor could be linked to policy reforms in telecommunications, for example
would it broaden and strengthen political support for reforms in other sectors?
In attempting to answer the first question it is useful to think about the back
ward and forward linkages in IT sector growth. Its backward linkages arise from
the growth in demand for inputs of goods, services, and factors. In particular, the
demand will rise rapidly for labor with appropriate skills, for institutions that can
educate and train workers for employment in the IT sector, and for telecommu
nication services and power. Its forward linkages could be significant as well, if
other sectors of the economy invest in hardware and software to reap the pro
ductivity advantages of using IT services in their operations. Itwas noted earlier
that theMinistry of Finance projects that value added by the IT sector will reach
7 percent by 2008, and at that rate a share of 25 percent is likely by 2020. Taken
together, the prospects for the IT sector's becoming the leading sector of the
economy in the next decade or so are bright.
However, accelerating the rate of GDP growth to 8 percent or more per year
and sustaining it for several decades is a necessary, though not sufficient, condi
tion for achieving the overarching objective of India's development, namely, the
eradication of poverty. As is well known, a large majority of India's population
is rural, and more that half of the country's labor force still depends on agricul
ture and informal sector employment for a livelihood. And among the states
26. Kanwal Rekhi points this out and rightly emphasizes that such quality consciousness bodes
well for the future of Indian industry.
there is a significant variation since 1980 in economic performance, as measured

by growth of state domestic product. The IT sector is concentrated in the cities
of only a few states. Although the IT sector's spectacular past and likely future
growth will almost surely help to accelerate aggregate growth, translating faster
growth into more rapid eradication of poverty would require widening, deepen
ing, and accelerating economic reforms and liberalization.
The response to the second question, whether the prospects for bringing about
the required reforms are likely to be enhanced by the contribution of past
reforms to the visible success of the IT sector, is a qualified yes. The reasons for
qualification are many. First, the link between reforms and success of the IT
sector is not clearly seen even by reform-minded politicians. Second, a vast
majority of the population, particularly those rural areas, has yet to experience
the benefits of efficient and inexpensive IT services in production and con
sumption activities, in part because IT services have not yet reached this popu
lation. Although this is changing, it is not changing rapidly enough to affect a
large share of the population. Third, although there is no political pressure to
reverse the reforms enacted thus far, it is evident that the remaining items of the
reform agenda to be adopted would require persuasion of and bargaining with
the parties not in the ruling coalition and its allies. Unlike in China, with its
authoritarian, single-party government, success in this effort of persuasion in
the competitive democratic polity of India requires foresighted leadership and
the commitment of all parties. Just as the evident success of early agricultural
reforms in China and the participation of a large share of the population in the
fruits of its success created a constituency for later reforms, one can expect a
similar effect in India once the benefits of IT success, and reforms more broadly,
diffuse to the larger Indian population. It is encouraging and augurs well for the
future that no political party (except perhaps the unreconstructed Stalinist ele
ments of the left) is demanding a reversal of the reforms already enacted, and the
differences among parties are more on the pace and sequencing of further
reforms than on their content.
Comment
and Discussion
Anne Krueger: As always, T. N. Srinivasan has provided an excellent analysis

of the Indian economy's performance this time of the role of ITES (informa
tion-technology-enabled services) in past and prospective economic growth.
His analysis of the growth of the IT sector ismasterly, and I have only a few
comments on it. I will then focus on the insights that the experience of the IT
sector provides for Indian economic policy and growth more broadly.
Turning first to the IT sector, its performance has been spectacular by any
standard, especially in contrast to the rather sluggish performance of many
Indian economic activities. But it should be noted that there are several unique
characteristicsof the IT sector thatmay have enabled it to grow so rapidly. First
and foremost, IT is less heavily dependent on infrastructure than most industries
are. Srinivasan notes that twenty-five different government rules had to be
changed or removed in order to set up the first earth station in Bangalore in
1986. But the fact is that the industry could rely on an earth link and avoid many
of the cumbersome aspects of Indian infrastructure: it hardly needed Indian
roads or railroads, telecommunications (minimal as they then were), or Indian
ports. For many other industries, rules would have had to be altered and infra
structure and other bottlenecks removed. While the IT sector had to live with the
same constraints regarding other aspects of infrastructure as other industries, the
effect on their cost was arguably considerably less.
A significant feature of the IT sector is that most of the major firms have
campuses in Bangalore and a few other cities, and these campuses are virtually
self-sufficient. They have their own generators and do not depend on public pro
vision of power. Company-owned buses even take people to and from work so
232
they don't have to rely on public transportation. Indeed, in Bangalore, some of

the large firms are concerned that they may be unable to sustain their rapid
growth because, as their employment increases, road congestion will be too
great to absorb additional buses. The IT firms perceive the need to fight with the
local authorities for capacity expansion for virtually every publicly provided
urban service for which private investment cannot substitute.
Infrastructure was less of a constraint for IT, but another factor was important
as well. The IT sector was "encouraged," as Srinivasan notes, but mostly
by
removing the disadvantages that other industries have. The sector was "discrim
inated for" in the sense that it did not suffer the disadvantages the government
imposes. For one thing, the industry was new, and in a sense it outran the gov
ernment by growing rapidly before regulations could be put in place.
But, as Srinivasan also notes (all too modestly, since he had a significant role
in it), the telecommunications reforms of the 1990s and later were highly sig
nificant. The IT sector probably could not have grown as rapidly as it did in the
absence of those changes. One can only wonder what industry or industries
would experience comparably rapid growth if the transport, or the labor market,
or the power, bottlenecks, and regulations were removed for other sectors of the
economy.
One final comment on the IT sector's growth prospects. Srinivasan has a table
on wage differentials and notes that wages are very low by international stan
dards. The relevant comparison should, of course, be unit labor costs, and a com
parison there would be highly worthwhile. During the NAFTA debate in the
early 1990s, for example, much was made of the fact that average factory wages
in the United States were some ten times the average Mexican factory wage. But
once the calculation of unit labor costs was undertaken, itwas found not sur
prisingly that unit labor costs were quite similar, and indeed several percent
age points lower in the United States than inMexico. Clearly, there is great
scope for productivity improvement in India, in IT and elsewhere, and that can
enable rising wages and sustained economic growth. Moreover, one would have
to guess that in many IT services (where the physical capital input is very low)
unit labor costs are significantly lower in India than in themajor industrial coun
tries and that, for that reason, there is some scope for real compensation
increases in India in the context of rapid IT expansion.
But Iwant to focus on overall Indian growth. A first point relates to the excel
lent Indian Institutes of Technology, which have provided a steady flow of
world-class engineers since they were first set up in the late 1950s. When they
were established, it was in the belief that India had a "shortage" of engineers.
The number of student places in the institutes was determined by estimating the
number of "needed" engineers and providing sufficient places to generate the
"needed" stock in a fairly short time.
Not surprisingly, before too long there was an excess supply of highly quali
fied engineers. That is a partial explanation for the large diaspora of Indian engi
neers in Silicon Valley and elsewhere, as well as of the advantage the IT sector
had in recruiting its personnel. A strong case can be made that India overin
vested in higher education for engineers and that overall growth may have been
significantly more rapid had some of those resources been allocated to increas
ing places in primary, secondary, and technical education.
This brings me tomy second point. India remains a country with a very large
quantity of unskilled labor. No matter how successful the IT industry is, India is
going to have to use its abundant supply of unskilled labor more productively
and provide primary and secondary education and training for an increasing
fraction of its labor force. To achieve rising living standards, that will be essen
tial, especially in light of the fact that 70 percent of India's population is still
located in rural areas.
To utilize its unskilled labor more productively, innumerable further policy
reforms are needed. There are considerable labor market rigidities, which
undoubtedly serve as a disincentive for firms to hire unskilled labor: in the
"organized sector," as it is called, firing workers is illegal (although some busi

nesses have learned that if they do not pay their electric bills their electricity is
shut off and they are forced to close, thus solving their labor problems). There
are requirements for training workers, for provision of housing, and for other
services. There was a "small-scale reservation" (SSR) policy, under which more
than 800 small, labor-intensive industries were identified as eligible for privi
leges (such as tax exemptions) provided that they did not grow large. They
engaged in activities such as candle-making, radio assembly, and production of

batteries, and large firms were forbidden to enter these activities. Interestingly,
these industries, and exports from them, grew much more slowly than would
have been expected.1 Logically, though, small-scale firms cannot be expected to
have the resources or the capacity to develop international markets. While enter
prising businessmen were able to have many "companies" owned by various

relatives side by side in one building, and thus circumvent the small-scale
to some extent, itwas still amajor barrier and disincentive to expan
requirement
sion and exporting.
1. See Mohan (2002).

Ironically, when China began its rapid industrial expansion, based largely on
unskilled labor-intensive goods, Chinese firms were able to penetrate the Indian
market inmany of the SSR industries. In the past several years, the government
of India has begun to remove industries from the SSR list, but it still includes
about 350 reserved industries.
I have already noted the poor quality of Indian infrastructure. Itwould prob
ably be absolutely insane to plan a business without including provision for the
costs of generators. And transport costs are high; port delays are long; and there
is still excess demand for airplane flights and services, though they have greatly
improved in recent years.2
And the government of India has invested in education, there are
although
many problems. Teachers are not in school; they are absent and tutoring for
higher pay than they could obtain in the schools (but still collecting their pay
from the school). In a recent survey, the state with the lowest rate of teacher
absenteeism, Maharashtra, had an absentee rate of 15 percent. In some states, it
was more than 40 percent. With rates such as those, of course, parents may
decide to have their children work at home, or in the field, since even if they go
to school, they might simply have to return home.3
The litany of ills could continue, but I will stop after mentioning two more.
The first is the regulatory environment that still exists (despite improvements)
and that is surely a major productivity-reducing block for most private sector
activities.4 Bureaucratic red tape and delays constitute a major obstacle and
deterrent to efficient production and expansion.5
The second is the very large fiscal deficit of the general government (almost
10 percent of GDP in 2004) with India's debt-to-GDP ratio already above
80 percent. Yet the fiscal deficit must be addressed at the same time that the
Indian government finds means for improving infrastructure. That is in part
because much of the existing pattern of expenditures is inefficient, with untar
geted subsidies intended to benefit the poor going largely to the rich, and the
need for thorough-going tax reforms.6
In my judgment, India has tremendous growth potential. Reforms have pro
ceeded, albeit much more slowly than might have been desirable to attain sig
nificantly higher growth rates. They have been undertaken in a functioning
2. See Forbes (2002).

3. See Kremer and others (2005).
4. See World Bank (2006), p. 129.
5. See Shourie (2004).
6. See Srinivasan (2000).
democracy, which is certainly a huge plus for India. But much more is needed
by way of reform, and soon. While the IT sector will surely continue to con
tribute to growth, it cannot absorb the greater part of India's abundant labor
force. IT can increase growth somewhat over the coming decades, but the rapid
increase India needs will depend on the success of other reforms.
Certainly, Indian economic prospects for the coming decade or two are
brighter than they were around 1990. A growth rate of around 6 percent is prob
ably sustainable if reforms continue at their present rate. But with more reforms,
the 8 or 9 percent growth that India needs would become attainable. The IT sec
tor's development is not only a major success story; it is also an indication of
what could be achieved.
General Discussion: Anne Krueger's comments stimulated an animated dis

cussion on the pros and cons of the enclave-driven growth strategy taken by
India relative to the counterfactual of a broader-based growth path. Robert Litan
pointed out that India's growth story might not be deemed a success if the full
opportunity cost of broader policy reform and social investment were taken into
consideration. For instance, the significant resources allocated to the engineer
ing schools and elite education might have had higher social returns if directed
instead to broader education or more infrastructure. But Litan also allowed that
this is not altogether evident, owing to the considerable waste that is likely to
accompany broad social spending because of Okun's leaky bucket.
Alan Deardorff wondered whether we should credit India's "awful policies"
for having created a comparative advantage in software that would not have
existed in a more benign overall economic policy environment.
In a similar vein, Kimberly Clausing noted that she was struck by the evi
dence presented in T. N. Srinivasan's paper of beneficial growth effects from a
significant concentration of engineering graduates, against the backdrop of sig
nificant illiteracy in the overall population. This circumstance diverges sharply
from the general emphasis in development economics on investing first in uni
versal access to primary education and working up the education ladder only as
a country gets richer.
Lael Brainard asked whether the apparent economic spillovers from enclave
driven growth in this case were also apparent in the domain of political economy.
India's certainly did not appear to confirm that the IT sector had
last election
spawned a strong political voice for broader economic reform.
Rafiq Dossani endorsed Anne Krueger's notion that policy reforms had had a
redemptive effect, noting that many of the reforms starting in the mid-1980s
were mainly redeeming bad preexisting laws and policies. He cited a recent
change to a 1952 law that prohibited women from working at night the activ
ity that is the mainstay of the entire call center industry.
Robert Feenstra questioned the potential magnitude of economic spillover
effects from the IT industry's success into the critical agricultural sector still
the main source of employment in India. He cited a discussion with India's sec
retary of agriculture, who mentioned that certain parts of the country could grow
three crops a year, but were prevented from doing so by constraints on the water
supply.
Attention then shifted to the role of the diaspora and elite educational institu
tions in the success of India's software industry. Rafiq Dossani raised doubts
about the significance of graduates of the elite Indian technology and manage
ment as well as the Indian diaspora in the rise of India's software
institutes
industry. He said that none of the top ten IT companies in 1970,1980, 1990, or
2000 were started by someone who did his undergraduate degree at one of the
Indian Institutes of Technology or by amember of the diaspora. Dossani refuted
the notion that Silicon Valley Indians played a large role in India's IT boom, not
ing that they invested little in India's IT industry. Indeed, he said, it appeared Sil
icon Valley Indians did not have the right expertise, since success in the Valley
depended on developingtechnology products, while the India IT industry ini
tially prospered by delivering customized software to the financial services
industry. As the Indian industry is becoming more technology oriented, however,
the involvement of the diaspora is increasing.
Martha Laboissiere largely agreed. She pointed out that the Indian diaspora
is found mainly in senior positions in the United States or Europe, and has con
tributed to India's software industry by elevating India as the location of choice
for offshoring, rather than through direct participation in the Indian industry.
This contrasts with members of the Chinese diaspora, who are more likely to
return home as middle managers.
Laboissiere also underscored concerns about demand outstripping the supply
of suitable engineers in India. Despite a high number of engineering graduates
each year in India, headhunters consider only about 15 to 20 percent of these
suitable for recruitment by offshore service providers. As a consequence, she
predicted that demand would outstrip supply in India sooner than the 2012 time
frame predicted by NASSCOM, and that the crunch would come as early as
2008 in some places, such as Hyderabad. Moreover, Laboissiere emphasized
that middle managers are in particularly tight supply in India, in part because of
recruitment in India by eastern European companies.
Srinivasan responded by reiterating his preference for broad-based over
enclave-driven growth for making all of India a zone for economic development
rather than relying on special economic zones. Nonetheless, he reasserted his opti
mism that the IT sector might be driving growth through important indirect as
well as direct effects because of its role as an essential intermediate input. He
noted that India probably should prefer South Korea's path 6 to 7 percent growth
for several decades followed by a short but sharp financial crisis to the path it
actually took: no financial crises and three decades of 3.5 percent growth only
recently giving way to growth above 5 percent.
Srinivasan observed that India's investment in engineering education had
been driven by Nehru following the Soviet dictum that investing in engineer
ing and electricity would solve the problems of development rather than by
any rational cost-benefit analysis. He agreed with Rafiq Dossani that the elite
engineering and management schools were quantitatively small, and he believed
they produce no more than 5 percent of the 250,000 engineers joining India's
labor market each year. But he contended that they have much greater impact on
policymaking and the highest levels of business than at the managerial or entre
preneurial levels.
Finally, Srinivasan agreed with Feenstra's concerns about agriculture, noting
that credit constraints and lack of domestic market integration are important
impediments, along with policy distortions that lead to inefficient water use.
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Information-Technology-Enabled Services and India's Growth Prospects [with Comment and

the first three decades

During development, real GDP

by external borrowing at high interest rates. A severe macroeconomic and

sequently it has fluctuated, falling to a low of 4.0 percent in 2002-03, largely

in 2009, a rise of 14 percent from 2003-04. ITES/BPO exports rose from

significant further growth.

The Development of India's IT Sector

deeper level, why the state's

restricting imports of computer hardware (even if the importer committed to

7. According to UNDP's (2005) technology achievement index (a composite of disparate

capabilities in hardware and India's strength in software.

puter Policy announcement of November 1984 of software as an "industry"

Consulting Services) belonged to a large industrial house. Although large houses

expansion of engineering colleges since 1983 when, in a major liberalization,

minicomputer applications toUnix applications in the 1980s and early 1990s. It

Y2K... triggered off a chain of events. Exports grew on the strength of

Whether or not itwas

Table 1. The Indian IT Industry, 2003-04

Systems: Single-user systems

Total systems 2,854,683 11,053 23 14 -100

buoyant BPO sector is absorbing English-speaking graduates in the thousands.

Table 1. The Indian IT Industry, 2003-04 (Continued)

Turnkey projects 3,300 30 1,586

15. DataQuest, "Intellectual Property: India: Sleeping IP Giant" (www.dqindia.com/dqtop20/

foreign firms. The story is similar forWipro; it is aggressively looking at com

offerings in order to provide a complete umbrella of end-to-end services. Multi

countries of the region. This is changing: tourist arrivals grew by 24 percent in

The Indian Diaspora and ITES Sector

The IT revolution, particularly the development of the Internet, has spawned

18.1 thank AnnaLee Saxenian for drawing my attention to these data.

icy research on India's economic reform and organizing a conference at which

manufactured products, as China is already. This is already happening in auto

The Analytics of the IT Sector in the Growth Process

There are many

stant elasticity of substitution (CES) aggregate of available varieties at each

torally and, even more important, intersectorally, as gainful transactions (market

Because IT goods and services are tradable internationally, productivity gains

produces an intermediate good domestically or imports it is the aggregate out

organizational structure of industries, and outsourcing versus FDI (2002a,

Future Prospects of the Indian IT Sector: Conclusions

The spectacular growth of software exports as well as ITES-BPO has been

English-speaking skilled workers. NASSCOM (2005) estimates the stock of

industry. The industry is estimated to have employed 841,500 professionals in

Special efforts tomeet the manpower requirements. (Government of India

Any increase in emoluments of ITES/IT workers in India with no change in

Aggarwal of Evalueserve, private communication with the author, August 15,

professionals informed her of "the process and quality improvement in the

Hourly wage, Hourly wage,

Telephone operator 12.57 Under 1.00

Payroll clerk 15.17 1.50-2.00

Source:BardhanandKroll (2003, table3).

Efficient commercialization of cutting-edge output from research labs,

23. Kanwal points out in his private communication

24.1 thank Nirvikar Singh for pointing this out.

there is a significant variation since 1980 in economic performance, as measured

Anne Krueger: As always, T. N. Srinivasan has provided an excellent analysis

they don't have to rely on public transportation. Indeed, in Bangalore, some of

undoubtedly serve as a disincentive for firms to hire unskilled labor: in the

"organized sector," as it is called, firing workers is illegal (although some busi

engaged in activities such as candle-making, radio assembly, and production of

prising businessmen were able to have many "companies" owned by various

1. See Mohan (2002).