According to the latest classification of countries released by the World Bank, as of July 1, 2016, countries with a GNI (Gross National Income) per capita, of $1,025 or less in 2015 are categorised as low-income economies; countries with a GNI per capita between $1,026 and $4,035 are classified as lower middle-income economies and upper middle-income economies are those with a GNI per capita between $4,036 and $12,475; countries with a GNI per capita exceeding $12,476 fall under the category of high-income economies. As per this new classification, India with a per capita GNI of around $1,500 is now classified as a lower middle-income country. Over the two and half decades of post-reform period, India has emerged as one of the most promising nations among emerging economies across the world and has shown tremendous potential for being considered as a global super power in future. But the new classification by the World Bank comes as a surprise to many and is a pressing concern to the policymakers.
Former RBI Governor Raghuram Rajan expressed his concern in a very candid manner: “India is still a $1,500 per capita economy. All the way from $1,500 per capita to $50,000, which is where Singapore is, there is a lot of things to do. We are still a relatively poor economy and to wipe the tear from every eye, one would at least want to be middle-income around $6,000-7,000 which, if reasonably distributed, will have dealt with extreme poverty.” By achieving the target of per capita GNI of $6,000-7,000 India will reach the upper middle-income country (as per the new classification). However, optimism is always followed by suspicion.
One relevant question is, given the present economic conditions, whether India would be able to pace up its growth process over the next few decades to achieve this target. On top of that, for an economy it becomes much harder to transcend to the next level after moving into middle income status and therefore it is worth pondering upon the risk of getting stuck in the ‘middle income trap’. Rising from a low-income to a middle-income economy is relatively easier task as compared with the transition process from a middle-income to a high-income economy. The low income countries can exploit poverty to their advantage. A low-income economy remains more competitive in labour-intensive manufacturing (apparel, shoes and toys, for example) sector because of cheap wages. Progressing to the high income stage is more difficult. As is evident in the history of economic development, only 13 of 101 middle-income economies in 1960 reached high-income status by 2008. Statistics show that Latin American countries, like Brazil and Argentina, Asian countries like China and Malaysia are stuck in the middle income group even if these economies started their transition with great fervour.
If we dig deeper into this issue we can find that countries which were able to reach to the middle-income level have followed fairly similar transition paths. The common set of strategies across these countries includes rapid rural to urban migration followed by urbanization, strengthening the manufacturing sector, increasing the production till the point when the advantage of surplus labour is completely exhausted. It becomes almost impossible at that point to enhance productivity by importing and imitating foreign technology only. Therefore, adoption of development strategies capable of accelerating productivity growth could be instrumental for an economy in avoiding the middle income trap and transcend to the higher level.
In the context of Indian economy, the key issue is what type of policy reforms must be designed and implemented to accelerate productivity growth and provide sufficient incentives to carry out research and development leading to innovation. Innovation is one of the most important steps towards achieving the objective. The time is ripe for the country to explore novel ways of doing things and its growth process should be primarily driven by innovation. Nonetheless, to get the maximum benefit out of innovation the economy must focus on investing on human capital as well. Even if adding to the stock of physical capital is one of the necessary conditions, we should not overlook the complementarity relation between physical and human capital. Improving the education system—the higher education as well as the elementary education—must be the priority for the policy makers of this country. In addition, this economy’s success in escaping the middle income trap is contingent on the ability in investing in advanced infrastructure which not only includes roads and power grids but also internet connectivity, improving contract enforcement and securing intellectual property rights, and improving access to the right type of finance to promote innovation. The reform programmes must be sufficiently motivated, by the breadth of and strong linkage between these policies, so as to enjoy the maximum benefit and generate the momentum required for the economy to escape the middle-income level.
The author is assistant professor, IMI, Delhi. Views are personal