The missing culture of global competitiveness in India's private sector

The US tariffs have sparked intense debates in India about the economic responses needed to address a challenging situation. 

On the one hand, it has reignited efforts to focus on self-reliance to insulate the economy from such future shocks, likely given the prevailing protectionist sentiments and the rising geopolitical uncertainties. On the other hand, some worry that this would mark a return to some form of the license-permit raj.

It has also sparked another debate between those who argue that India’s private sector’s lack of ambition, low risk appetite, weak ability to build, and general lack of global competitiveness are responsible for its economic dependence on others, and those who blame this failure on stifling government regulations and a lack of support. 

In this backdrop, it’s useful to step back and examine the problem using a simplified model to understand the contributors to economic competitiveness. It has four dependent variables:

1. Internal economic conditions (physical infrastructure, financial capital, human resource availability, etc.), 

2. Internal business conditions (regulatory environment, business creation and growth enablers, trade policy, market competition, etc.), 

3. Domestic demand (affordability, size of consumption class, price sensitivity, demand for quality, etc.), and 

4. Private sector culture 

While much has been written about the first two, and rightly so, the last two do not get anywhere near the attention they deserve. If anything, the last in particular is surprisingly and widely overlooked in public debates. 

I have blogged about the importance of domestic demand here, in that businesses need a large enough quality-conscious consumption class to be able to have the incentives to maintain quality and innovate. A mostly price-sensitive customer base, however large, that discounts quality for price, can be a significant deterrent to investments in quality and innovation. This is an important demand-side constraint. 

This can be significantly addressed if the businesses are exposed to global competition and pursue export markets. This is the point about export-competition (and letting go of the failing firms) that Joe Studwell and others have chronicled in the context of the high-performing Northeast Asian economies. All of them pursued protectionist policies but vigorously enforced export competition through public policies. 

It’s no exaggeration to say that the last variable, private sector culture, does not get any attention in mainstream debates. This is understandable given the difficulties with quantifying it and the limited research and studies that document the issue of business culture from the perspective of economic competitiveness.

In broad terms, we can evaluate business culture in terms of an innate quest for productivity, especially among the large firms. This has an economy-wide domino effect through multiple channels - suppliers, learning by doing, competition, etc. 

This culture is manifest in their R&D investments, attitudes towards innovation, focus on quality, the extent of scale manufacturing, intentions to invest for the long-term, and business dynamism in terms of ambition to continuously move up the value chain, expand business (scale manufacturing), pursue global markets, and so on, and generally aspire to be at the cutting-edge of the technology frontier and be a global leader in their industry. 

While, there’s some endogeneity between economic conditions and government policies and some of these attributes, it can also be argued that for the larger firms in an economy like India, many, if not most, of these attributes are within their control. 

Unfortunately, when evaluated against these metrics, Indian firms, especially the larger ones, fall woefully short. The low R&D investments are an egregious illustration, as also a lack of scale manufacturing, and a near total absence of global brands. Indian firms are conspicuously absent in the echelons of global business. This is generally true of the largest firms across sectors, and the software and pharmaceutical sectors in particular. In general, corporate India, across sectors, suffers from a lack of business dynamism. Even the country’s startups have struggled to imbibe this culture, preferring mostly to engage in copycat innovations. 

This disturbing deficit in the culture of private sector competitiveness also assumes significance given the history of global economic development. 

The figure below captures how domestic demand and corporate culture interact with each other. 

There are two broad economic growth trajectory choices available for countries like India that are transitioning to open economies. One, move from a relative autarky characterised by a poor competitiveness culture, to a liberalised regime without the private sector becoming competitive. In today’s world, this would be akin to becoming importers of (mainly) Chinese goods, allowing the existing manufacturing base to erode further and the private sector to remain uncompetitive. 

The second option is to build up private sector competitiveness by maintaining adequate protections and then gradually opening the economy as the private sector competitiveness rises. This strategy is especially relevant given Chinese import competition, which can quickly emasculate domestic manufacturing capabilities. Further, given the small size of the quality-conscious domestic consumer base, the only way for competitive domestic firms to emerge is by manufacturing for exports. This is essentially about Make in India for the World. 

This has been the trajectory followed by all the Northeast Asian economies recently, and the European economies long ago. Admittedly, there are strong headwinds that have emerged in recent years that come in the way of the pursuit of such growth. 

In conclusion, if India is to emulate the Northeast Asians, it’s essential to develop a competitive private sector. As discussed above, this is primarily a work for the private sector to pursue internally, with corporate India taking the lead.

More thoughts on corporate India

Over the years, I have blogged numerous times, highlighting corporate India’s singular failure to create world-class companies and products. This describes a scorecard of corporate India over the last three decades. 

This failure is now being ventilated by government officials and corporate leaders themselves. See this, this, and this. 

Nothing manifests this failure more starkly than the IT industry. There’s a compelling argument that, despite all its acclaimed successes, India’s software industry will also be seen in economic history as a canonical example of stagnation and failure to move up the value chain. Thanks to a fortuitous confluence of factors, India gained a head-start in the software industry, an industry at the cutting edge of technology innovation. It even had large multinational companies with the finances and talent to become global leaders in the industry. Further, in the last two decades, the industry has spawned technologies with transformative potential - SaaS, IoT, cloud computing, automation and robotics, data analytics, and now a general-purpose technology, AI.

The industry could have become the springboard and platform for innovation and productivity growth, and for taking the economy to the next frontier. It could have become the anchor for the mass flowering of an ecosystem of technology startups that would be pursuing cutting-edge innovation. 

Unfortunately, India’s large software firms have foregone all these opportunities and preferred to stay attached to low-value, manpower-intensive services. They could have capitalised on their industry headstart to move up the value chain and become innovative product companies. They could have provided India with the invaluable anchor around which R&D and innovation could have flourished. Instead of breaking out and leading the way for the rest of corporate India, they have fallen prey to the country’s dominant corporate culture. 

Anuj Bhatia has a very good article on where India’s software firms lost their way and failed to capitalise on their head-start and contribute more meaningfully to national economic 

Take a look at India’s biggest tech companies. They are all ‘services’ companies, like Tata Consultancy Services, Infosys, and Wipro, and have nothing to do with the creation of IP. They essentially acquire clients and do coding for them at a cheaper cost, primarily handling maintenance work. They are not developing software or platforms that they sell to consumers or enterprises. Ask anyone who works for TCS, and they will tell you the difference between working for a services company and a product-facing company like Google. A lie has been sold for years that TCS and Infosys are software companies. However, in reality, US tech companies lead in software, including the likes of Microsoft, Oracle, Salesforce, Adobe, and Google. While India’s services companies may create jobs, they don’t drive innovation, and they certainly don’t position India as a tech powerhouse in the future.

And this is about the importance of IP

It all comes down to intellectual property, and India certainly isn’t an IP-based economy. Intellectual property is the most prized possession a tech company or startup could have… IP can protect you from competitors using your tech, giving you a competitive edge, securing funding, and even safeguarding you from being acquired by a large company. Take Apple’s iPhone, for example. The iPhone’s design, software, product name, concepts, patents, copyrights, trademarks, and trade secrets all fall under IP. Some may say the iPhone is a smartphone, but Apple never calls the iPhone a smartphone, and the reason is… well, the iPhone is a platform. That means Apple has exclusive rights to the platform and can expand it, create new products, develop solutions, tweak software algorithms, or make changes to the manufacturing processes whenever it feels. Hence, Apple protects its intellectual property, which is why the company’s top lawyer, Kate Adams, Apple’s General Counsel, earned a compensation of $27.2 million last year.

Similarly, Android is a trademark of Google, and that’s how the company controls the smartphone market being the owner of Android and Play Store. While Apple follows a closed model with iOS, the software powering the iPhone, Google gives Android for free to any company but charges a licensing fee to use the “Google Mobile Services” suite of apps, which includes the Google Play Store. Nintendo, too, is sensitive about its IP, which includes the characters, franchises, game titles, logos, and designs associated with its video games, such as Mario, Zelda, Pokémon, and Animal Crossing, among others… The point is, without intellectual property, patents (for example, Apple filed 5,000 patents for the technologies that contributed to the development of its Vision Pro headset), and a mechanism to protect your IP, it is hard to create a tech company with a foundation based on original ideas and creativity. And these are areas where India lacks in both aspects. This is why we have not seen an AI research lab like OpenAI in Bengaluru or a product like the iPhone emerge from India. All of this is because we never tried to develop the technology or take risks.

The article also makes a point about claims of India attracting tech companies.

We always talk about how big the market is and why tech companies are setting up shop in India. Of course, any major tech company would like to come to India: a) to access the large talent pool, and b) because there is little competition from local tech companies. However, the same tech companies face a lot of competition in China, where they are barred from doing business and have often failed to compete with local companies. But China itself has created its own unique tech ecosystem (take WeChat, TikTok, and how Huawei has finally ditched the Android mobile operating system for its own proprietary, HarmonyOS, for example), and that has helped it gain technological know-how to power its economy and challenge the geopolitical order…

Until we own platforms—be it on the hardware side, software, or cloud—and build the ecosystem, our tech companies and startups won’t be able to transform into tech giants. India Inc. may be keen on collaborating with US tech giants (and that has been the case for years), but that doesn’t change India’s position in the tech world. No tech company (or country, for that matter) would want to share its trade secrets with others—think of formulas, IPs, research and data, and algorithms.

In this context, it’s not surprising that India’s share of global granted AI patents was an abysmally low 0.22%, far below even countries like Australia, South Korea, Cananda, and Taiwan. 

Of the $43 bn worth of AI investments globally in 2024, India got just $179.3 million. The Indian technology majors’ investments in AI pale into insignificance before the US Big Tech and Chinese firms. 

On similar lines, I have written earlier on our disappointing startup landscape. Forget cutting-edge innovation, they have struggled to meet any of the several development problems that a country like India faces. 

It remains to be seen how the much hyped Edtech unicorns will go beyond marginally improving the learning environment of a tiny sliver of students from middle-class families to helping improve the massive problem of poor learning levels that affect more than 90% of Indian students. Or whether Agtech firms will address any of India's several agriculture sector problems. Or the biotech and medtech companies will address the problem of access to affordable and good quality health care for more than 80% of Indians. Or whether the fintech companies will help address the problem of improving financing intermediation by increasing access to mass-market financial products and increasing India's financial savings, besides making formal finance mainstream for the 80% of the labour force working in the informal sector. Or ensuring access to finance simple for businesses in the informal sector. Or whether, like Alibaba's rural Taobao's, India's e-commerce sector has significantly improved market access and incomes in the aggregate to small manufacturers and traders.

It’s difficult to identify startups that have managed to break into the top echelons or have the promise to do so in areas like cloud computing, IoT, AI, data analytics, robotics, quantum computing, chip design, etc. 

Instead, India’s startups appear content to follow the footsteps of the IT firms and focus on the simple, low-hanging fruit of copying consumer-facing services like e-commerce and media. 

Just 5% of Indian startup funding went into DeepTech sectors, compared to China’s 35%. Semiconductor chip design, for example, has attracted just about Rs 200 Cr each in the last two years. 

Of the $2-3 bn or so of VC capital raised from India-based investors (data is very difficult to get, and most likely is even lower), very little went into these risky and innovative areas. This low level of funding of riskier areas like deep-tech belies the optimism that the first generation founders and investors from the large and growing number of unicorns and decacorns would plough risk capital into these cutting-edge areas as in Silicon Valley. They have instead preferred primarily public markets and secondarily only the derisked and safer areas like consumer technology, healthcare, real estate and infrastructure. 

This is also reflected in the aggregate corporate expenditures on R&D, a topic on which I have blogged here recently. India’s gross expenditure on R&D is less than 1% of GDP, far behind the US (3.5%) and China (3.4%). Further, it has been falling continuously since peaking at 0.86% of GDP in 2008 and stood at a long-term low of 0.65% in 2020. The cumulative funding that went in AI startups in India in the 2022-25 period was just $1.09 bn, compared to $7.89 bn for China and $103.21 bn for the US. 

This disappointing reality is also reflected across sectors. Take the example of consumer durables manufacturing. 

The Ken has an article exploring the air conditioner manufacturing industry in India. With rising temperatures, ACs, once considered a luxury product, are now a necessity. Reflecting this, AC sales have been growing at around 20%, double that of other home appliances, and are estimated to be 12 to 12.5 million units. The Rs 27,500 Cr ($3.3 bn) industry is expected to double. 

The market leader is Tata-owned Voltas, followed by others like Blue Star, Daikin, Lloyd, LG, Godrej etc. Despite the PLI scheme for white goods launched in 2021, more than 60% of the AC components are imported. In fact, 65% of the compressors, which makes up 30% of the product cost, are imported from China. 

The three main domestic contract manufacturers are Blue Star, Amber Enterprises, and PGEL. Compressors are manufactured by just four companies - Guangdong Meizhi Compressor Co. (GMCC, a Midea Group company), Highly India, Daikin, and LG Electronics. The first two are Chinese and the others are Japanese and South Korean. 

The uptake in PLI for compressor manufacturing was confined to just two companies - Daikin and LG. Voltas joined only in the third round with a Rs 256 Cr investment. Godrej and Havells, the other big domestic brands, skipped PLI completely. Others focused on the cheaper, lower-value components like heat exchangers and plastic moulding.

Like with most others, the unsatisfactory response to domestic manufacturing of compressors and components has to do with the Chinese competition. Even with higher import duties (it has gone up by 19% over the decade), importing them from China is still cheaper than making them in India. In particular, high-value components are not incentivised by small sales incentives. The article mentions that “localising production would be at least 25% more expensive than relying on Chinese imports.”

In this context, an oped in The Indian Express by Anand P Krishnan compares the private sectors of India and China and points to how they have taken the lead in the latter in national economic growth. 

According to China’s State Administration of Market Regulation, as of 2024, there are over 55 million private companies in the country. The private sector accounts for over 50 per cent of tax revenue, over 60 per cent of GDP, over 70 per cent of technological innovation, over 80 per cent of urban employment, and over 90 per cent of the total number of enterprises (in comparison, India’s private sector has a share of 36 per cent in tax revenue, 91 per cent of GDP, 36 per cent in technological innovation, 11 per cent in employment, and over 95 per cent of the total number of registered enterprises).

He writes about how the Chinese firms have leveraged their strategic advantages to strngthen their roles. 

Chinese private companies, with their sleek and sophisticated products, have been able to connect with global consumers and are pivotal entities in building an ‘industrial diplomacy’ – to borrow the phrase from sociologist Kyle Chan – to reshape global production networks and make them centred around Beijing. This is visible in a range of modern sectors and industries, that are qualitatively superior and critical in a technologically interconnected world, such as Electric Vehicles, consumer electronics and digital gadgets, lithium batteries, and solar panels. Chinese private companies form vital nodes in global supply chains in these industries, and their inextricability is used by Beijing for competitive advantage. Through these companies, China has remained attentive to building backward and forward industrial linkages – making components and specialised machinery, along with developing skilled personnel with the technical know-how – and holistically dominates the wider ecosystem while also guarding against the sharing of technology. The ability of Chinese smartphone companies to endure and build a loyal consumer base in a country like India (given the hostile geopolitical equation) is a testament to their adaptive capabilities.

All this necessitates deep introspection within corporate India about its role in economic growth.

Lowering US merchandise deficits and restoring manufacturing

As President Trump wages war on trade deficits and flaunts tariffs indiscriminately, some proposals are on the table to address the problem. Three in particular are getting attention. 

Robert E Lighthizer, the US Trade Representative in the first Trump administration, and arguably the ideological godfather of the Trump administration’s push against China and embrace of tariffs, has advocated a new trade regime among countries with democratic governments and mostly free economies. The main underlying principle behind this regime would be long-term trade balance. 

The regime would have a two-tier tariff structure. The countries outside the regime will pay a higher tariff while those within would pay lower tariffs, which, however, could be adjusted over time to ensure balance. If a country runs large and persistent surpluses, others would raise tariffs on it so as to bring it down over a reasonable time. This would ensure balance within the entire group over time, and not across country pairs or smaller groups every year.

Another proposal, published in November 2024 by Stephen Miran, the current chair of the Council of Economic Advisers in the Trump administration (and then at Hudson Bay Capital), points to the work of Belgian economist Robert Triffin from the early 1960s in the context of the Bretton Woods system of fixed but adjustable exchange rates. The Triffin Paradox highlighted the dilemma, faced by a country whose currency serves as the global reserve currency, between maintaining its own economic stability and ensuring global liquidity. 

The global demand for dollars can be met only with persistent deficits. America must supply dollars to enable foreigners to buy its Treasury Bonds. This keeps the dollar overvalued for some time and erodes America’s manufacturing and export competitiveness. However, in the long run, persistent deficits must weaken the dollar and erode its credibility as a reserve currency. 

In Triffin world, the reserve asset producer must run persistent current account deficits as the flip side of exporting reserve assets. USTs become exported products which fuel the global trade system. In exporting USTs, America receives foreign currency, which is then spent, usually on imported goods. America runs large current account deficits not because it imports too much, but it imports too much because it must export USTs to provide reserve assets and facilitate global growth.

Since President Trump wants to lower the deficit without diminishing the dollar’s global influence, unilateral actions like devaluation or monetary loosening are risky and unlikely to work. Even tariffs have their limitations. Miran, therefore, proposes that the US offer its trade partners a deal. The economic side of the deal will involve the maturity transformation of US Treasuries by “persuading” foreign holders to switch from short-term to perpetual dollar bonds. In return, the US could offer a political alliance and its defence umbrella. 

This is a monetization of the American role in the post-War Western alliance. In fact, Martin Wolf describes this proposed global exchange rate management mechanism as a form of “protection racket”. Miran writes

America provides a global defense shield to liberal democracies, and in exchange, America receives the benefits of reserve status—and, as we are grappling with today, the burdens. This connection helps explain why President Trump views other nations as taking advantage of America in both defense and trade simultaneously: the defense umbrella and our trade deficits are linked, through the currency… Such an architecture would mark a shift in global markets as big as Bretton Woods or its end. It would see our trading partners bear an increased share of the burden of financing global security, and the financing means would be via a weaker dollar reallocating aggregate demand to the United States and a reallocation of interest rate risk from U.S. taxpayers to foreign taxpayers. It would also more clearly demarcate the lines of the American defense umbrella, removing some uncertainty around who is or is not eligible for protection.

Coming from two of the most influential and credible insiders, these must be taken seriously. 

However, without getting into the details of either, the biggest challenge with both proposals is their implementability. Both assume an alliance led by the US, where allies accept some form of explicitly acknowledged US suzerainty and also bear the costs of maintaining that protection umbrella. 

Lighthizer proposes to create a new trade regime among allies. Thanks to its several moving parts, its operationalization will be very complicated. The biggest challenge would be in getting countries to exercise voluntary self-restraint and raise tariffs. The distortions arising from such complex forced incentives can be unpredictable and self-defeating.

Given the events since President Trump’s inauguration and his track record, it’s unlikely that any country will be “persuaded” into the arrangements proposed by Miran. So, it looks dead on arrival. In theory, too, its assumption of a causal link between the US manufacturing decline and the dollar’s role as a reserve is questionable. The former is a long-term secular trend.^.

Besides, it’s also shared by the US with other advanced countries. The US neither has the highest nor lowest decline in the share of manufacturing employment.

As Wolf writes, for all of Miran’s argument about the long-term erosion of the credibility of the reserve currency, the USD exchange rate has been remarkably stable.

A third proposal is that espoused by Michael Pettis, who points to a link between persistent trade deficits and capital inflows. Pettis argues that capital inflows and deficits are two sides of the same coin, with the former boosting the dollar’s value, misallocating resources through excessive financialisation, and eroding the country’s industrial base. So, he advocates taxing capital inflows. 

Gillian Tett writes about this idea gaining currency. 

Six years ago, Democratic senator Tammy Baldwin and Josh Hawley, her Republican counterpart, issued a congressional bill, the Competitive Dollar for Jobs and Prosperity Act, which called for taxes on capital inflows and a Federal Reserve weak-dollar policy. The bill seemed to die. But last month American Compass, a conservative think-tank close to vice-president JD Vance, declared that taxes on capital inflows could raise $2tn over the next decade. Then the White House issued an “America First Investment Policy” executive order that pledged to “review whether to suspend or terminate” a 1984 treaty that, among other things, removed a prior 30 per cent tax on Chinese capital inflows… And Pettis’s ideas seem to be influential among some advisers, such as Treasury secretary Scott Bessent, Stephen Miran, the chair of the Council of Economic Advisers, and Vance. 

While Lighthizer proposes the use of tariffs directly and Miran’s preferred instrument is the US Treasuries, Pettis advocates taxing capital flows. As I have written in my co-authored book, financialization has gone too far with adverse consequences and it’s essential to throw sand in the wheels of cross-border finance. However, given the scale and interconnectedness of cross-border flows, only the US can restrain such financialisation. Pettis's suggestion is therefore a step in the right direction. 

But it too, like the others is unlikely to do much in reversing the US trade deficits and manufacturing. 

The central problem that Trump wants to solve is the persistent US merchandise deficit, and tariffs are his primary weapon. The underlying premise is that tariffs will discourage imports and encourage domestic manufacturing. Unfortunately, such single-instrument approaches to complex problems are not only blunt but also likely to detract from focusing on the deeper underlying causes. 

Apart from reversing the long-term trend of manufacturing decline, there are several problems to be overcome like declining business dynamism, productivity growth, excessive financialisation, and high levels of business concentration. 

Fortunately, thanks to the policies initiated by President Trump in his first tenure, the US has made a good start in its endeavour to redress the imbalances and restore its manufacturing competitiveness. The tariffs and restrictions on China had reversed the course of US deficits with that country. Others too had realised that the Chinese subsidies and industrial policy since the pandemic and the bursting of its real estate bubble had unleashed excess capacity and dumping, which was shutting their local manufacturing and eliminating jobs. They were retaliating and putting up restrictions in various forms. 

The momentum on all these must be maintained and hastened, especially by stopping Chinese exports from finding their way through “connector” countries. Addressing the world economy’s China problem is a challenging task that requires the US to coordinate and carry together its allies and other major economies. Unfortunately, the current policies of the Trump administration run the risk of hurting progress on all these fronts. 

The wave of industrial policy actions, especially the large schemes announced by the Biden administration in the US, are also steps in the right direction. There are clear signatures of a spike in US manufacturing investments and reshoring of supply chains. This momentum too must be kept up. Here too, there’s a risk that the Trump administration may not only take the foot off the pedal but even reverse course on industrial policy. 

Finally, the dominance of the plutocrats from Wall Street and Big Tech in the Trump administration poses considerable risks in taking action in important areas like anti-trust and financialisation. Ultimately, it may be too much to expect a businessman to free America from the clutches of plutocracy. 

Achieving industrial transformation

How do regions attract manufacturing firms and industrialise? How do manufacturing clusters develop? What are the requirements to achieve industrialisation? 

Even with examples of success, explaining the HOW of industrialisation has remained a mystery. I blogged here in the context of the success of Silicon Fen in Cambridge. All that can be said is that industrialisation just happens.

Much of the mainstream debates and literature is focused on the role of infrastructure provision, industrial policy and industrial promotion activities. But, for areas and regions seeking to find a foothold in the industrial landscape, is this sufficient? 

I want to point to two aspects of this issue which are less discussed - the importance of personalised engagement with investors, and the multi-layered nature of industrialisation. 

While the mainstream issues like enabling policies and infrastructure are important, a less discussed but equally important area is the need for personalised and continuous engagement. In fact, this may perhaps be the difference between success and failure in industrial transformations. 

Conditional on an enabling policy environment, what's required is continuous and high-level engagement all through down to commissioning of the project and its initial years. This is a deeply personalized play involving the political leadership and the top bureaucrats. In simple terms, it's about intense schmoozing to court the investor and then continuous handholding support to help them establish and operate the enterprise. It's about the unsexy and diffused art of long-drawn and persistent backroom implementation.

Given its personalised nature, this approach is clearly something only a few politicians and bureaucrats can pull off. And given the political economy of India, where such schmoozing is scorned upon, it's also an immensely challenging task. For example, a bureaucrat found to be dining and wining investors and businesses, even with the best of intentions, is most likely to attract the negative attention of media and commentariat and become the target of allegations and insinuations. I blogged here highlighting the contrast between India and China. 

This requirement for personalised engagement should be seen as a means to overcome the unpredictability and difficulties of doing business in India, especially for foreigners. The personal connections give confidence to the investors that they'll have a helpful ear when they face problems in the ground. 

However, these are only necessary conditions. Even with these, success is by no means certain. It's a long haul, require persistent effort, and lucky breaks. Once some big investors come in, the repeat game dynamics help reinforce investor confidence and bring more. At some point, it tips over. 

It's not for nothing that there are just a handful of examples of regions/countries having made this manufacturing breakout. Successful structural transformation is very rare. 

Now let's come to the second issue of multi-layered nature of industrialisation. 

There are perhaps three levels of industrialisation. The first, and most salient one, involves investments by large global companies - contractor manufacturers like Foxconn with their large plants or factories by large companies themselves. Their arrival most often is accompanied by the emergence of an eco-system of suppliers and ancillaries. The second level involves the medium scale enterprises, mostly domestic ones, which employ a few tens or hundreds of workers and have a smaller footprint than the large global companies. The final level constitutes the numerous small enterprises who provide the major share of job creation in a country as a whole. 

These three levels form an eco-system and are connected by a complex web of endogeniety in their respective growths. The first level provides the trigger for productivity growth through technology transfers and learning by doing spillovers, which cascade across levels. The third level provides the soil for growth of a business culture within the area and the basis for further expansion and growth of attendant infrastructure and support mechanisms. It can be argued that the strength of the middle level is one of the most important contributors to the aggregate productivity and competitiveness of the region or country. 

Successful industrialisations are likely to combine a mix of all three levels. How it emerges can, in theory, be top-down or bottom-up in terms of the levels. But both will take time. 

Superstar effects in industries, firms, and cities

Good MGI analysis of the prevalence of superstar effects in firms, sectors, and cities.

For firms,

For firms, we analyze nearly 6,000 of the world’s largest public and private firms, each with annual revenues greater than $1 billion, that together make up 65 percent of global corporate pretax earnings. In this group, economic profit is distributed along a power curve, with the top 10 percent of firms capturing 80 percent of economic profit among companies with annual revenues greater than $1 billion. We label companies in this top 10 percent as superstar firms. The middle 80 percent of firms record near-zero economic profit in aggregate, while the bottom 10 percent destroys as much value as the top 10 percent creates. The top 1 percent by economic profit, the highest economic-value- creating firms in our sample, account for 36 percent of all economic profit for companies with annual revenues greater than $1 billion... Today’s superstar firms have 1.6 times more economic profit on average than superstar firms 20 years ago. Today’s bottom-decile firms have 1.5 times more economic loss on average than their counterparts 20 years ago, with one-fifth of them (a growing share) unable to generate enough pretax earnings to sustain interest payments on their debt... In each of the past two decades (corresponding to a business cycle), nearly 50 percent of all superstar firms fell out of the top 10 percent during the business cycle and when they fell, 40 percent fell to the bottom 10 percent. The top 1 percent is also contestable, with two-thirds being new entrants to this top rank in the last cycle... Superstar firms from emerging economies, for instance, have a higher churn rate of 60 percent compared with 40 percent for firms from developed economies. Overall, after adjusting for the growth of M&A activity since the 1990s, we find no evidence of an economy- wide reduction in churn over time; in other words, contestability has remained about the same... The sector and geographic diversity of firms in the top 10 percent and the top 1 percent by economic profit is greater today than 20 years ago. The 575 superstar firms in our analysis exhibit widely acknowledged markers of successful firms: they include 315 of the world’s 500 largest firms by market capitalization, 230 of the world’s 500 most valuable brands, 188 of the world’s 500 best employers (as rated by their employees), and 53 of the world’s 100 most innovative companies.

About sectors,

For sectors, we analyze 24 sectors of the global economy that encompass all private- sector business establishments. We find that 70 percent of gains in gross value added and gross operating surplus have accrued to establishments in just a handful of sectors over the past 20 years. This is in contrast to previous decades, in which gains were spread over a wider range of sectors. While the superstar effect is not as strong for sectors as it is for firms, what we have identified as superstar sectors over the past 20 years include financial services, professional services, real estate, and two smaller (in gross value-added and gross operating-surplus terms) but rapidly gaining sectors: pharmaceuticals and medical products, and internet, media, and software. The shift in global surplus to today’s superstar sectors amounted to nearly $3 trillion in 2017 alone across the G-20 countries... In addition to global superstar sectors, we also identify regional superstar sectors where the dynamics are more localized: for example, regional superstar sectors include automobile and machinery production in China, Germany, Japan, and Korea; construction in China, India, and the United States; hospitality services in France, Italy, and the United Kingdom; and recently, natural resource production in the United States and Canada. Today’s superstar sectors share one or more of the following attributes: fewer fixed capital and labor inputs, more intangible inputs, and higher levels of digital adoption and regulatory oversight than other sectors. With the exception of real estate, superstar sectors are two to three times more skill-intensive than sectors declining in share of income in the G-20 countries. In addition, superstar sectors tend to have relatively higher R&D intensity and lower capital and labor intensity than other sectors. The higher returns in superstar sectors accrue more to corporate surplus rather than labor, flowing to intangible capital such as software, patents, and brands. 

And cities,

For cities, we analyze 3,000 of the world’s largest cities, each with a population of at least 150,000 and $125 million GDP (adjusted for purchasing power parity), that together account for 67 percent of world GDP. Fifty cities are superstars by our definition, among them Boston, Frankfurt, London, Manila, Mexico City, Mumbai, New York, Sydney, Sao Paulo, Tianjin, and Wuhan. The 50 cities account for 8 percent of global population, 21 percent of world GDP, 37 percent of urban high-income households, and 45 percent of headquarters of firms with more than $1 billion in annual revenue. The average GDP per capita in these cities is 45 percent higher than that of peers in the same region and income group, and the gap has grown over the past decade. Emerging-market superstar cities have increased their contribution to global GDP by 30 to 40 percent in the past decade while advanced-economy superstar cities have increased their share of global GDP by 20 to 30 percent. Over the past decade, we find a 25 percent churn rate among superstar cities... Of the 50 superstar cities, 31 are ranked among the most globally integrated cities, 27 among the world’s 50 most innovative cities, 26 among the world’s top 50 financial centers, and 23 among the world’s 50 “digitally smartest” cities. Twenty-two are national and regional capitals, while 22 are among the world’s largest container ports.

And the interaction among the three,

We find linkages between firms, sectors, and cities that may be reinforcing superstar status and that raise the question of whether a “superstar ecosystem” exists. For example, superstar sectors generate surplus mostly to corporations rather than to labor, driving a geographically concentrated wealth effect in superstar cities with a disproportionate share of asset management activity and high-income-household investors. Labor gains from superstar sectors are also concentrated in narrow geographic footprints within countries, often in superstar cities and accrue mostly to high-skill workers. 

Weekend Reading Links

1. The property price story in China is more nuanced now, with surging prices in certain areas of the Southern Coast and other major cities, and stagnating or declining prices elsewhere. There is a shortage in the former and excess supply among the latter. A Bloomberg news report summed it up,

At the heart of China’s property malaise is an imbalance between supply and demand -- the new building is taking place where there’s less demand, while supply is short in the most popular, largest cities. Last year, 61 percent of new-home building starts were in third- and four-tier regions, while only 5 percent were in first-tier hubs

The parallels with India's housing market are striking. Here, 95% of the supply is for the 5% of the market at the top, with acute scarcity in the affordable housing space and negligible supply in the LIG and MIG. 

Such market failures demand differentiated policy responses, instead of one-size-fits-all prudential ratios for all housing. In China's case, it would need to be geographically focused, whereas it has to be unit-size focused in India. 

2. From a Bloomberg report on India's limited success with promoting exploration and mining of gold, whose imports stood at $35 bn in 2015 and formed 43% of the current account deficit for the last quarter of the year,

Deccan Gold Mines, which hasn't dug up an ounce in 13 years because of the difficulty of obtaining permits from state governments... has no incentive to explore for gold after laws passed last year forced miners to bid for the right to mine the deposits they find. Finding mineral deposits is risky, cost-intensive business. As with pharmaceuticals, movies or venture capital, there are a long tail of failed investments behind every blockbuster... The only reason companies risk this capital is because they hope to get first refusal on the right to dig up what they've found.

India has long-standing problems with corruption around the free allocation of mining leases, which helps explain the desire to change the law. But doctors need to be careful they don't administer medicine that's more harmful than the disease itself. If a country can only stop corruption in mining by removing the industry's incentive to develop new mines, it's guaranteeing a future of rising import dependence.

The backlash from the spate of resource allocation scandals and the activism around it by various agencies of the state have left governments with limited space to manoeuvre. They are forced to view any resource allocation through the lens of public revenues maximization through auctions. This, as we know, is not always the right strategy. 

3. Highlighting the difficulties of protectionist policies like raising tariffs on Chinese imports in a world with globally integrated supply chains, Upshot writes,

A study by the Federal Reserve Bank of San Francisco figured that 55 cents of every $1 spent by an American shopper on a “Made in China” product goes to the Americans selling, transporting and marketing that product. Suppressing Chinese imports would harm shopkeepers and truck drivers. In fact, making Chinese-made goods more expensive would ripple through American shopping malls. An extra $20 for, say, children’s clothing from China is $20 not spent on a new baseball glove for a child, or a birthday gift for a grandmother. A tariff on China would dent the sales of all kinds of products, even those made in the United States. It seems likely that such a tariff would burden American consumers while doing little to create jobs for them. Gary Clyde Hufbauer and Sean Lowry at the Peterson Institute for International Economics, studying the impact of a 35 percent tariff imposed on Chinese tire imports by Washington in 2009, found that American consumers had to spend an extra $1.1 billion on tires, while the tariff protected no more than 1,200 jobs. About $900,000 for every job saved, in other words.

4. Livemint points to India's poor performance in inter-generational mobility, even compared to its neighbours, with education attainment of children being more dependent on that of their parents (higher score indicates lower inter-generational mobility). 

The causal chains may be running in all directions - poor people are more likely to suffer from poor quality schooling (in public schools) and/or unaffordable good quality schooling; are more likely to drop out of school for financial reasons; face far less domestic pressures to learn and stay enrolled; and good quality schooling is an increasingly important determinant of life incomes. 

5. Germany is the latest to suffer from the slowdown in China, with nine of the country's top 10 exports to China declining in 2015. 

6. Interesting findings from a very exhaustive JETRO survey in 2015 of 4635 Japanese affiliated (with Japanese investment of atleast 10%) manufacturing sector firms across 20 countries in Asia. Indian firms are among those with the most optimistic business expectations in terms of expansion and profitability. Indian firms do not enjoy much competitive advantage in terms of local production costs (as compared to their Japanese counterparts) among its main export competitors. 

Indian firms no longer have a competitive advantage with labor costs when compared to its direct competitors like Vietnam and Bangladesh, or even Indonesia.  

Indian firms are the least export-focused among all countries.

7. On the issue of manufacturing, NYT points to a BCG study which finds that Indian firms' manufacturing costs have remained the same in real terms between 2004-14. Note the contrasting fortunes of Mexico and Brazil, with the latter's cost competiveness taking a massive hit. Australia is another country which suffered, a possible reflection of the Dutch disease. 

More fascinatingly, the cost of making a pound of yarn is lower in the US than in India or China. Its success has been in controlling input costs. And this has lessons for other areas of manufacturing. 

8. Very informative slide deck on the Chinese economy from RBS Research. For an economy whose engine has been construction and infrastructure investments, the declining electricity, steel, and cement production is stark.

Investments as a share of GDP may have peaked and may be on its downward path.

Economic rebalancing between consumption and investment is happening at a very slow pace.

The biggest immediate worry is the massive pile of accumulated public (especially local governments) and corporate debt, which has risen at a staggering $6.5 bn a day since the 2008 crisis broke out.