Business Week International Cover Story
INDIA SHAKES OFF ITS SHACKLES (int'l edition)
Old portraits of Marx, Lenin, and Stalin are common on the streets in India's lush southern state of Kerala, once a Communist Party stronghold. Yet as India moves away from decades of socialist planning toward more market-oriented capitalism, the pictures are fading from neglect--and Kerala's business scene is brightening. "Industries are popping up all over the place," says M.C. Mycle, branch manager of state-owned Canara Bank in the Kerala city of Ernakulam, as he sips tea with local businessmen in his office. "Money is really flowing now."
For foreigners and locals alike, the business climate in India is looking up. After nearly four rocky years of deregulation and market reforms, Prime Minister P.V. Narasimha Rao's policies are starting to pay off: Industrial output is rising at a healthy 8% annual clip, economic growth is likely to hit 7% this year, and foreign investment is expected to rise sharply.
At a time when Western investors are skittish about emerging markets from Mexico to Malaysia, India looks attractive. Unlike Mexico or China, the country has a full-throated democracy that should make it more stable as it faces the challenges of reform. Despite recent election losses for Rao's Congress (I) Party, a consensus in favor of most reforms exists across the political spectrum.
Other advantages include a middle class of some 300 million people, larger than most countries' entire populations. And unlike other Asian countries, which have to deal with overheated economies, India's growth has been more moderate and is in an earlier stage. "India is just now on the upside of its cycle, while every East Asian country is at the top or beyond," says Jim Rohwer, chief economist for Asia at CS First Boston.
India could even begin to gain ground against rival China. While dozens of major power projects in China have recently been stalled by Beijing bureaucrats, India is about to close deals worth $5 billion for eight privately financed power plants. "A year ago, U.S. companies were all over China," says U.S. Assistant Energy Secretary Susan F. Tierney, who has made several trips to India to advise New Delhi on its new power plants. "Now the momentum has shifted to India."
That was clear during Commerce Secretary Ronald H. Brown's mid-January trip. Chief executives from 25 companies accompanied Brown to three Indian cities. According to a Commerce spokeswoman, executives from nearly 200 companies clamored to be included on the trip.
HOMEWARD BOUND. Contracts and tentative deals worth more than $4 billion were announced. Among the biggest projects, California's Mission Energy Co. signed an agreement with Tata Group, one of India's largest industrial concerns, for a $400 million power plant. U S West Inc. announced a $100 million investment to provide a pilot project for India's first privately operated telecommunications service.
Investors from Europe and Asia are also eager to get into India. Japanese trading giant Marubeni Corp. has earmarked nearly $1 billion for 10 ventures in everything from oil exploration to steel. A consortium of Singapore companies is building a high-tech park in the southern city of Bangalore, while South Korea's Daewoo Motor Co. has invested $100 million in an auto plant due to open this spring. In April, Daimler Benz will start making Mercedes-Benz luxury cars. Daimler also hopes to make smaller cars, photovoltaic cells, and aircraft parts.
Another potent investor force is the large body of Indian emigres living in the U.S., Europe, and elsewhere in Asia. Sensing that India has turned an important corner, the nonresident Indians are flocking back to their native land, bringing technology, capital, and management expertise. Take Nari C. Pohani in New York, who is a director of Indosind Bank Ltd. in Bombay. With $300 million in assets, the bank is majority-controlled by Indians abroad. Pohani expects a wave of such deals as Indians who emigrated in the 1960s and 1970s become more successful. "Only now are they coming of age," he says.
American companies, however, seem to be leading the charge. The government has approved $7 billion in direct foreign investment since 1991, compared to a paltry $250 million in the preceding four years. Nearly one-third of the new investment has been from American multinationals such as Hewlett-Packard, General Electric, Wrigley, and Kellogg. Moreover, companies such as Ford Motor Co. and insurer American International Group Inc., which haven't yet cracked this market of 900 million people, are banging on the doors.
Not surprisingly, India is starting to loom larger for Washington policymakers after decades of icy relations. Reflecting its new emphasis on big emerging markets, the Clinton Administration has recently sent several Cabinet members to India. A few weeks before Brown's trip, Defense Secretary William J. Perry was in New Delhi to sign a historic military-cooperation pact, including joint training and collaboration on weapons production. Signaling Washington's desire to patch up relations with New Delhi, Perry soft-pedaled concern about the nuclear rivalry between India and Pakistan.
EASING THE PAIN. All this attention is coming even though Prime Minister Rao is facing one of the worst political fights of his tenure. In local elections in December, populist critics of reforms dealt a stunning defeat to his party in state elections. While Rao may fall from power if his party fares no better in state elections coming up in February and March, most Indian executives are confident that reforms will continue.
Any Indian government will have to walk a tightrope. Wary of provoking a populist backlash, Rao's government is likely to pull back on a handful of the reforms that are most threatening to India's huge agricultural workforce or to workers in inefficient factories. To curb double-digit inflation and win back support of factory workers, the government is likely to postpone such painful measures as eliminating subsidies on food and electricity (table).
But confidence is high among many Indians that the fundamentals of Rao's free-market push will remain intact--no matter who is in power. In crucial sectors such as technology and infrastructure, foreigners have never been more welcome. India's elites, of whatever political persuasion, appear to support that opening. "The reforms have become institutionalized," maintains Urjit R. Patel, the International Monetary Fund's India representative.
Evidence of the government's new, open attitude can be seen throughout the country. The onerous industrial licensing system has been largely dismantled. Delivery trucks loaded with once banned foreign products such as Ruffles potato chips and Nestle Crunch bars rumble over potholed highways across the subcontinent. Advertisements for AT&T's "communications solutions" are plastered on New Delhi streets, signs of upcoming liberalization in the telecom industry. And some 280 foreign institutions have crowded into India's financial industry, closed to outsiders until 1992.
To be sure, there are limits on how far foreign investors can go. Bureaucrats are still reluctant to allow foreigners 100% equity. Some projects approved in New Delhi bog down at the state level, "where you still have to go through the same old socialist rigmarole," says Subramaniam Swamy, chairman of India's Commission on Labor Standards & International Trade.
EMPIRE-BUILDING. Nevertheless, the contrast with the old days is stark. Prior to 1991, getting a project through the bureaucracy "was like peeling an onion," recalls Suresh C. Rajpal, president of Hewlett-Packard India Ltd. "With every layer you peeled, your eyes watered." Now, clearing components through customs takes two days instead of three weeks. Duties on imported computers have plunged from 250% to 90% in three years and will drop to 75% this year. HP's joint venture with Hindustan Computers Ltd., which it formed in 1992, leads the domestic industry in sales with $130 million. The market, while small now, is expected to grow 40% annually for several years. HP also has begun assembling medical equipment in Bangalore.
For domestic industrialists, the past few years have been even more revolutionary. Under the old system, derisively dubbed the License Raj, companies waited months for government approval of routine business such as expanding production or hiring a director. Diversifying into a new product could take years. As a result, heavily protected manufacturers turned out shoddy, outmoded goods--and few attempted to export.
Now, established corporate powers are restructuring, finding foreign partners, and devising export strategies. Many old, family-dominated empires such as the Tata, Birla, and Godgrej groups are taking advantage of new opportunities. For example, the 139-year-old J.K. Organization, a $2 billion textile, cement, and paper group based in New Delhi and controlled by the Singhania family, is expanding capacity in its core industries. At the same time, it is venturing into petrochemicals and packaged foods.
RULE OF LAW. The group's top concern is surviving the coming onslaught of competitors. Its J.K. Synthetics Ltd. unit is India's largest maker of wool fabrics and a major producer of nylon, polyester, and acrylic. Under recently signed pacts with the U.S. and the European Union, India will lower its duties on textiles from 65% to 22% by 1998. "Competition will become very fierce," predicts Govind Hari Singhania, the group's director.
One of the biggest obstacles for India's companies and the country's economic takeoff as a whole remains its backward infrastructure. The country has just 9 million phone lines--one for every 100 people--and has one of the world's lowest per-capita consumption rates of electricity. Compared with China, Indonesia, or Vietnam, India's push to build highways, seaports, or industrial zones is still in an embryonic stage.
Rao's government is responding by opening its telecom and power sectors to private investors. On Jan. 16, India invited bids for franchises to offer cellular and basic telephone services. Already, AT&T, U S West, and British Telecommunications have each formed ventures with local partners. In the deal announced during Brown's trip, U S West said it would spend $100 million to install a phone system serving 40,000 customers.
In power, India needs to raise some $200 billion to meet its goal of adding 142,000 megawatts of capacity over the next 15 years. Financing has already been lined up for the first three plants, all involving U.S. companies. The projects include a $920 million plant by Enron Inc. The Finance Ministry has agreed to provide guarantees to five more deals, including one signed by Electricite de France.
The dealmaking is expected to continue, despite higher interest rates worldwide. Last year, 42 Indian companies raised $3.4 billion in global depositary receipts, according to Baring Securities Ltd. Overall, however, India is still well behind China in attracting outside capital. That may be changing. Foreign financiers point out that India has many assets that China lacks--a base of veteran entrepreneurs, an English-speaking elite, well-established capital markets, and a rule of law. "For an American, it's easier to understand how things work in India," says Charles Frank, manager of GE Capital Services Inc.'s Energy Project Finance Group in Stamford, Conn.
PRICE PRESSURE. India has a long way to go before it can match East Asia's investment climate, however. The biggest challenge is to mesh reforms with the tremendous needs of India's impoverished millions. Most analysts agree that while Rao's government has done a good job selling their policies to foreign investors and India's business elite, it has failed to explain what's in it for farmers, workers, and the poor. Since 1991, grain prices have risen 54%, while meat and egg prices have jumped more than 75%. "Inflation is why Congress lost the elections," says S.L. Rao, director general of the National Council of Applied Economic Research. If inflows of capital get too big, that could aggravate inflation, now running at an average 10%.
The potential for unrest can be seen in Bombay, where mill owners have slashed thousands of textile jobs and closed factories to make way for office and apartment complexes. Outside the Shivram Textile Mill, five workers in mid-January staged a hunger strike to protest management's decision to close the factory's 510-worker weaving department. Workers don't believe assurances they will be retrained and given other jobs, since the mill already has let go nearly three-quarters of its 4,000-person workforce. "It's just a prelude to retrenchment," says Bhumanandam Venkatatayya, 42, who can barely speak after five days of fasting.
To head off unrest among farmers and workers, the new budget to be unveiled in mid-February by Finance Minister Manhohan Singh is expected to boost subsidies for agriculture, increase pension payments, and provide more aid to the unemployed. The budget deficit is likely to grow from around 4.5% of gross domestic product to more than 6%. A go-slow approach to privatization of railroads, airports, and insurance companies will probably prevail until the next national elections, expected in early 1996. Likewise, the financial-services market is unlikely to be opened soon.
SPARE CASH. With $20 billion in foreign exchange reserves, vs. $1 billion in 1991, India can afford a little social spending. And few in India believe there will be much backsliding if Rao's party loses power. Even his top foes don't talk about bringing back the License Raj. The opposition Bharatiya Janata Party, for instance, distrusts foreign consumer-goods companies such as Coca-Cola Co. but has long advocated a greater role for the private sector. That's why even though there may be fits and starts, the momentum of India's reforms will continue to push the world's second-largest country into the global economy.
ALTHOUGH SOME REFORMS WILL STAY ON HOLD...THE HEART OF THE PROGRAM IS ON TRACK
-- Reforming labor laws that make it extremely difficult to lay off workers
-- Privatizing money-losing state-owned enterprises in transportation and financial services
-- Eliminating subsidies for commodities such as rice, wheat, and corn
-- Allowing 100% foreign ownership of companies in consumer goods, telecoms, and autos
-- Opening power and telecommunications projects to foreigners
-- Speeding approval of manufacturing investments by foreign and domestic investors
-- Reducing import barriers on everything from garments to computers
-- Allowing private sector to compete with national monopolies in railroads and postal servicesBy Sharon Moshavi and Pete Engardio in New Delhi, with Shekhar Hattangadi in Bombay, Dave Lindorff in Hong Kong, and bureau reports