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Fp India-china June2003

Fp India-china June2003

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74
Foreign Policy
What’s the fastest route to economic development? Welcome foreign direct investment (FDI), says China, and most policy experts agree. But a comparisonwith long-time laggard India suggests that FDIis not the only path to pros- perity. Indeed, India’s homegrown entrepreneurs may give it a long-termadvantage over a China hamstrung by inefficient banks and capital markets.
By Yasheng Huang and Tarun Khanna
   A   P   W   I   D   E   W   O   R   L   D
Over 
 
take China? Can IndiaOve
 
 rtake China? Can India
 
 July
|
August
2003
75
 W 
alk into any Wal-Mart and youwon’t be surprised to see the shelvessagging with Chinese-made goods—everything from shoes and garmentsto toys and electronics. But the ubiquitous “Made inChina” label obscures an important point: Few of these products are made by indigenous Chinese com-panies. In fact, you would be hard-pressed to find asingle homegrown Chinese firm that operates on aglobal scale and markets its own products abroad.
Yasheng Huang is an associate professor at the Sloan School of Management at the Massachusetts Institute of Technology.Tarun Khanna is a professor at Harvard Business School.
That is because China’s export-led manufactur-ing boom is largely a creation of foreign directinvestment (
fdi
), which effectively serves as a sub-stitute for domestic entrepreneurship. During thelast 20 years, the Chinese economy has taken off, butfew local firms have followed, leaving the country’sprivate sector with no world-class companies torival the big multinationals.India has not attracted anywhere near the amountof 
fdi
that China has. In part, this disparity reflectsthe confidence international investors have in China’sprospects and their skepticism about India’s commit-ment to free-market reforms. But the
fdi
gap is alsoa tale of two diasporas. China has a large and wealthydiaspora that has long been eager to help the moth-erland, and its money has been warmly received. Bycontrast, the Indian diaspora was, at least until recent-ly, resented for its success and much less willing toinvest back home. New Delhi took a dim view of Indians who had gone abroad, and of foreign invest-ment generally, and instead provided a more nurtur-ing environment for domestic entrepreneurs.In the process, India has managed to spawn anumber of companies that now compete interna-tionally with the best that Europe and the UnitedStates have to offer. Moreover, many of these firms arein the most cutting-edge, knowledge-based indus-tries—software giants Infosys and Wipro and phar-maceutical and biotechnology powerhouses Ranbaxyand Dr. Reddy’s Labs, to name just a few. Last year,the
Forbes
200, an annual ranking of the world’sbest small companies, included 13 Indian firms butjust four from mainland China.India has also developed much stronger infra-structure to support private enterprise. Its capital mar-kets operate with greater efficiency and transparencythan do China’s. Its legal system, while not withoutsubstantial flaws, is considerably more advanced.China and India are the world’s next major pow-ers. They also offer competing models of develop-ment. It has long been an article of faith that Chinais on the faster track, and the economic data bear thisout. The “Hindu rate of growth”—a pejorativephrase referring to India’s inability to match its eco-nomic growth with its population growth—may bea thing of the past, but when it comes to grossdomestic product (
gdp
) figures and other headlinenumbers, India is still no match for China.However, the statistics tell only part of thestory—the macroeconomic story. At the micro level,things look quite different. There, India displaysevery bit as much dynamism as China. Indeed, by
Stitching the future: Aweaverat a privately owned textilemill in Muradnagar, India,near New Delhi
 
relying primarily on organic growth, India is mak-ing fuller use of its resources and has chosen a paththat may well deliver more sustainable progressthan China’s
fdi
-driven approach. “Can India sur-pass China?” is no longer a silly question, and, if itturns out that India has indeed made the wiser bet,the implications—for China’s future growth andfor how policy experts think about economic devel-opment generally—could be enormous.
THE STIFLING STATE
The fact that India is increasingly building from theground up while China is still pursuing a top-downapproach reflects their contrasting political systems:India is a democracy, and China is not. But the dif-ferent strategies are also a function of history. China’sCommunist Party came to power in 1949 intent oneradicating private ownership, which it quickly did.Although the country is now in its third decade of free-market reforms, it continues to struggle with the legacyof that period—witness the controversy surround-ing the recent decision to officially allow capitalists tojoin the Communist Party.India, on the other hand, developed a softer brandof socialism, Fabian socialism, which aimed not todestroy capitalism but merely to mitigate the social illsit caused. It was considered essential that the publicsector occupy the economy’s “commanding heights,”to use a phrase coined by Russian revolutionaryVladimir Lenin but popularized by India’s first primeminister, Jawaharlal Nehru. However, that did not pre-vent entrepreneurship from flourishing where thelong arm of the state could not reach.Developments at the microeconomic level inChina reflect these historical and ideological differ-ences. China has been far bolder with externalreforms but has imposed substantial legal and reg-ulatory constraints on indigenous, private firms. Infact, only four years ago, domestic companies werefinally granted the same constitutional protectionsthat foreign businesses have enjoyed since the early1980s. As of the late 1990s, according to the Inter-national Finance Corporation, more than two dozenindustries, including some of the most important andlucrative sectors of the economy—banking, telecom-munications, highways, and railroads—were stilloff-limits to private local companies.These restrictions were designed not to keep Chi-nese entrepreneurs from competing with foreigners butto prevent private domestic businesses from chal-lenging China’s state-owned enterprises (
soe
s). Someprogress has been made in reforming the bloated,inefficient
soe
s during the last 20 years, but Beijingis still not willing to relinquish its control over thelargest ones, such as China Telecom.Instead, the government has ferociously pro-tected them from competition. In the 1990s, numer-ous Chinese entrepreneurs tried, and failed, to cir-cumvent the restrictions placed on their activities.Some registered their firms as nominal
soe
s (all thecapital came from private sources, and the compa-nies were privately managed), only to find themselvesensnared in title disputes when financially strappedgovernment agencies sought to seize their assets.More than a few promising businesses have beendestroyed this way.This bias against homegrown firms is widely
76
Foreign Policy
[
Can India Overtake China?
]
Competing Giants
Sources:
CIAWorld Factbook 2002
(Washington: CentralIntelligence Agency, 2002);
The Economist Pocket World  in Figures
(London: Profile Books, 2002); World DevelopmentIndicators CD-ROM (Washington: World Bank, 2002);
 Financial Times
ChinaIndia
Population
(2002)
1.28 billion1.05 billion
PopulationGrowth Rate
(2002)
0.87 percent1.51 percent
InfantMortality
(2002)
27
(per 1,000 live births)
61
(per 1,000 live births)
Average Annual RealGDPGrowth Rate
(1990–2000)
9.6 percent5.5 percent
Foreign DirectInvestment
(2001)
$44.2 billion$3.4 billion
 Yes, chairman:Workers at a government-owned shoe factory in Beijing 
   G   O   H   C   H   A   I   H   I   N   /   A   F   P

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