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"US - India Economic Relations and the Evolving World Economy" excerpts from 2005 Trumbull Lecture by P.Chidambaram Finance Minister of India

Sheffield-Sterling-Strathcona Hall
Yale University
September 22, 2005

The United States and India are, in their own ways, unique countries. The two countries share many common characteristics but also face many different challenges. The U.S. has a short history but is an old nation; India is a relatively young nation although it can trace its history to nearly 4000 years. The U.S. is the world’s most powerful economy; India has just joined the frontline of emerging economies. The U.S. invests its financial resources in India; India invests its human resources in the U.S. Both are democracies, and the average American, I believe, is as argumentative as the average Indian. Both countries have sworn allegiance to the rule of law, and have complex procedures for the selection of judges. Both countries are victims of terror and both have pledged to fight terrorism. What is important is that both have declared their belief in an open society and an open economy. And for my purpose today, I am gratified that both countries are committed to work towards the achievement of the Millennium Development Goals (MDGs).

What is the economic backdrop to the challenges facing the world in general and the U.S. and India in particular? Global economic activity continues to remain robust. Between 1997 and 2003, World GDP grew at an annual average growth rate of 3.5 per cent. The US economy was a major engine of growth for the world economy by contributing 40 percent of world growth. China contributed 6.7 percent. India’s contribution was marginal in this period. However, India is now coming to a point where its contribution to world output growth will be significant. With a GDP of nearly $800 billion, each 10 per cent rise in India's GDP will contribute $80 billion to world output.

Developing economies are growing faster than advanced economies, and this is to be expected in the process of convergence in a globalizing world. The US share in world GDP increased from 20.7 per cent in 1996 to 21.4 per cent in 2001 but declined to 20.9 per cent in 2004. The share of China has gone up from 11.1 per cent in 1996 to 12.1 per cent in 2001 and further to 13.2 per cent in 2004. India’s share has increased from 4.1 per cent in 1996 to 4.7 per cent in 2001 and further to 5.9 per cent in 2004. While the relative contributions are likely to change, there is no doubt that these three economies will remain three major players in the world in the near to medium term. How these economies will perform and how they will interact have become even more important because of the ‘soft patch’ that appears imminent due to high oil prices, slackening growth of international trade, and weakening economic indicators in the US. 

Review of Indian Developments

I would like to start by summarizing where India stands in the process of economic development.


India now has a roughly 25-year track record of an average annual growth of 5.8 per cent. This has brought millions of people out of the depths of poverty to a better situation. The nominal GDP is now about US $800 billion. With a little more than a billion people, this translates to a per capita income of approximately US $750 a year. Measured in terms of purchasing power parity, the five biggest economies of the world are the US, China, Japan, India and Germany. There is, of course, a long way to go before every Indian is pulled out of poverty and deprivation.

How far has India come? Just a few weeks ago, the Fraser Institute, in Canada, released the Economic Freedom of the World 2005 report, which has data as of 2003. This report measures economic freedom in 127 countries and ranks them. The measurement for India was done by the Centre for Civil Society, a think tank in New Delhi. 

The US is at third rank. India is at 66th rank. India is closer to a country like Italy, at 54th rank, or Israel at rank 50, than to China or Brazil which are at the 86th and 88th ranks respectively. This may give you an intuitive flavour about the kind of economy that we now have -- freer than China or Brazil, but less so when compared with Israel or Italy, though closer to the latter pair.

This measurement of economic freedom also shows that India has improved steadily, from a score of 4.9 in 1990 to a score of 6.4 in 2002 and 2003. If we take this measure seriously, then it suggests that China or Brazil today (with a score of 5.9 or 6.0) is roughly where India was in 1997.

Multi-cultural, Multi-ethnic, Multi-religious Society

India's greatest achievement, of course, lies in the political arena. Every tenet of political science argues that poor countries succumb to violence, fanaticism, civil wars and dictatorship. India is the exception.

I may hence say with some pride that India is the best functioning multi-cultural, multi-ethnic, multi-religious country in the world. You will agree that having mastered the complexities of such a society is a great asset for India. Looking forward, individuals and firms, both domestic and foreign, can feel confident about India, including its political and social stability, over the next 50 years.

As Prime Minister Manmohan Singh has said, India stands for the values of an open society and an open economy. There is an obvious fit between India’s values and those of the mature industrial economies. The question that all of us need to apply our mind to is: how can the stable, mature societies of the world work together, to best achieve shared goals in the complex and daunting global situation? Today, I would like to ask, can the United States and India set an example in this behalf?

The Interdependence between India and the US

Economic interdependence between India and the US is growing at an astonishing rate. Bilateral merchandise trade has grown from US$ 12.3 billion in 2000-01 to US$ 19.6 billion in 2004-05. The US ranks second in terms of foreign direct investment in India, and there has been a heightened interest in portfolio investment in Indian equities from US institutional investors. 

Producing goods and services in India makes goods and services cheaper in the US. A county or state which is able to produce public goods in the US by outsourcing to India is a county or state which is able to cut taxes. When US corporations are able to produce goods or services in India, it makes them more competitive in the global marketplace, and be able to offer a better deal to their consumers. Outsourcing, however, has been wrongly interpreted as exporting jobs – making it controversial, which is unfortunate for all sides. In a highly competitive world, with intense competition among companies to cut costs, any hesitation to outsource spares, intermediate inputs and some processing requirements or services from the most cost-competitive corners of the world may result in a total loss of business for the company and an even greater loss of jobs. Furthermore, if you look ahead in time, the ageing demographic profile of many developed economies means they will have the choice of either importing people or outsourcing work.

The last, though little-noticed, kind of inter-dependence is based on financial markets. Net capital flows into India have been at a level of $12 billion per quarter for the last two quarters of data. US institutional investors are increasingly invested in India. All kinds of investors are participating in this, ranging from pension funds to university endowment funds to mutual funds to insurance companies. They are entering into every aspect of India's economy, through venture capital, listed equity, corporate bonds and government bonds. Foreign investors are trading on India-related instruments, both spot and derivatives, in India and on offshore markets. Conversely, Indian multinational corporations are increasingly buying companies in the US and setting up operations in the US. Two-way financial flow is thus an important aspect of our interdependence.

There has been considerable interest on the part of US corporations in the Indian financial sector, and rightly so. The financial sector is where the United States’ comparative advantage seems to lie in the present day. India’s response is to open the financial sector gradually, after putting in place appropriate laws and appointing regulators. We have taken measured steps in banking, insurance, capital markets, securities markets and the debt markets. It is our intention to move forward, but at every step the watchword will be caution and placing suitable instruments to prevent financial shocks. U.S. banks, insurance companies and other financial intermediaries seem to have realized the opportunities that lie ahead and accepted the wisdom of India’s policy to ‘hasten slowly’.

The debate on whether the world is flat (Thomas Freidman) or round (Robert Samuelson) need not detain us for too long. The fact is that the world is there. It is an unequal world. It is a world divided into nation-states. It is a world that carries the scars of two world wars and the baggage of the cold war. Language, race, culture and religion are still the dominant factors that determine nationhood, although multi-cultural societies have learned to accommodate differences. The U.S., for example, has gained tremendously -- in economic terms alone, even if we ignore others – from its multi-cultural and multi-ethnic society. The developed countries with a share of 14 per cent of the world’s population account for 78 per cent of the world’s GDP. Recognizing these inequalities, the time has come to ask if the mature nation-states, like the U.S., do not owe an obligation to the less fortunate countries that are invariably victims of a cruel history forced upon them – including wars, colonization and economic exploitation. If the poor of the world remain poor, neglected and deprived, a flat world or a round world would have to pay a heavy price. It is, I believe, in our common interest that the world is in good -- than in a particular -- shape. Thankfully, it is the sense of collective responsibility that brought the world together to agree upon the Millennium Development Goals, and it is in the mutual interest of the U.S. and India to recognize the opportunities and threats that lie ahead. 

Problems faced by the global community today

I would like to end by focusing upon four major problems faced by the global community: delays in completing the Doha round, terrorism, international financial architecture and global warming. In my view, the three large countries – the U.S., China and India – would do well to collaborate in solving these problems.

I believe the persistence of these problems points to failures of global public goods and to the deficiencies of international institutional arrangements created in 1945 including the United Nations, the IMF and the World Bank and, more recently, the WTO. The world has changed enormously since 1945. There is a need to commence a far-reaching examination of the mandate, governance, management and behaviour of these organizations, in order to make them relevant in 2005.

The mandate of these organizations is outdated in the context of the present problems. As an example, the United Nations was conceived at a time when no State actively pursued a policy of support to cross-border terrorism. The governance of these organizations is not aligned with present realities. The five biggest economies of the world are US, China, Japan, India and Germany. However, the present organization of the UN, the IMF and the World Bank disempowers China, Japan, India and Germany in various ways. The management of these organizations is dominated by the US and, to a lesser extent, by Europe. This contaminates the behaviour of the organizations, and the extent to which other countries see the UN, the IMF and the World Bank as neutral bodies which seek to solve the problems of global public goods.

All of us need to apply our minds to reinventing the UN, the IMF and the World Bank, and endowing them with a new mandate, new governance, new management and thus new kinds of behaviour, which will help solve the problems that challenge, and that will continue to challenge, the global economy during 2005 to 2050.