Summary

The rise of China, and more recently of India, is one of the most important events in the development of the world economy in the late 20th and early 21st centuries. The main reason is that they are both demographic giants and, should the trend continue into the coming decades, it will significantly change the economic map of the planet. This paper deals, first, with the general shape of the economic boom in China and India in recent decades (factors such as GDP growth, foreign trade, the consumption of energy and raw materials, foreign currency reserves and tourism). It also examines the medium-term outlook for these countries, highlighting their strengths and weaknesses in terms of sustained economic development. Finally, the article briefly lists some of the possible implications of the rise of China and India, both now and in the future, for the Spanish economy. [*]

Introduction

The economic rise of China, and more recently of India, is one of the most significant events of the late 20th and early 21st centuries. The main reason is that they are both demographic giants (with 1.35 billion people in China and 1.13 billion in India, adding up to two-fifths of the world’s population) and, should the trend continue into the coming decades, it will significantly change the economic map of the planet.

China’s GDP has grown at a rate of about 10% a year since the early eighties, while India’s grew at about 6% a year in the eighties and nineties, then accelerated to 7% in 2000-05 and to 9% in 2006.

This rapid growth, which has far exceeded the 3% registered in high-income countries over the past quarter century, has had two main consequences. First, it has increased the weight of China and India in the world economy. Between 1980 and 2005 the two countries’ combined share of the world’s gross output (measured in purchasing power parity, PPP) trebled from 6.7% to 21.3%. Secondly, China and India account for a very large part of the growth of this product (in PPP). Between 1995 and 2005, China was responsible for one-fifth of this growth –a proportion similar to that contributed by the US–. India, meanwhile, accounted for 8% of the increase, a percentage greater than Japan’s (5%).

In fact, more than the emergence of these two Asian giants, it is appropriate to speak of their re-emergence. The statistics compiled by Maddison (2003) show that China and India had a significant weight in the world economy around the year 1870 (17.1% in the case of China and 12.1% for India). Forecasts suggest that China will once again have this relative weight around 2015, while India will have to wait until at least 2030.

This paper deals, first, with the general shape of the economic boom in China and India, and the prospects for these two countries in the medium term. Secondly, it briefly lists some of the possible implications of the rise of China and India for the Spanish economy.

1. The Rise of China and India: Dimensions and Prospects

Despite their similarities (population, ancient civilisations, diasporas, etc), China and India have significantly different economies (comparative studies include Srinivasan, 2006, and Tseng & Gupta, 2006).

Although China’s population is not much larger than India’s (1.35 billion versus 1.13 billion), its GDP is three times greater (US$2.2 trillion versus US$770 billion in 2005). Chinese foreign trade was five times larger than India’s in 2005: US$1.4 trillion versus US$230 billion. Recent GDP growth has been considerably higher in China than in India: in 2000-06 the average annual rate was 9.4% in China and 6.5% in India.

The combination of higher GDP and stronger growth has made China’s contribution to the growth of world gross output much higher than India’s: between 2000 and 2005 China accounted for 22% of the increase, while India was responsible for 8%.

Other differences are less apparent: the structure of demand in China is biased in favour of investment and net exports, while in India it is based on domestic consumption (Table 1); production is strongly focused on exports in China, while this is much less the case in India (Table 2); China’s GDP structure is clearly based on the manufacturing sector while India’s is based on services (Table 3); infrastructures are considerably more modern (and improving more rapidly) in China than in India; by contrast, the banking sector is more solid in India (which has a major stock exchange) than in China (whose stock exchanges in Shenzhen and Shanghai are at an early stage).

Table 1. Structure of Demand in China and India, 1990 and 2004

China 1990China 2004India 1990India 2004LMIC (1) 1990LMIC (1) 2004
Private consumption504966686160
Public consumption12912121313
Gross capital formation353924242526
Net exports33-2-411
Total100100100100100100

(1) LMIC: low- and medium-income countries.
Source: World Bank WDI 2006, table 4.8.

Table 2. Exports of Good and Services, 1980-2005 (% of GDP)

198019851990199520002005
China10.79.919.223.123.337.3
India6.35.47.111.013.218.7

Source: World Bank, WDI online, IMF and WTO.

Table 3. GDP Structure, 1990 and 2004

China 1990China 2004India 1990India 2004LMIC (1) 1990LMIC (1) 2004
Agriculture271331211812
Industry424628273736
(Manufactured goods)(33)(no data)(17)(16)(23)(18)
Services314146664552

(1) LMIC: low- and medium-income countries.
Source: World Bank WDI 2006, table 4.2.

1.1. International Dimensions of the Rise of China and India

The global dimensions of the rise of China and India are highly diverse. Numerous recent studies have analysed this (see, for example, for both countries, Srinivasan, 2006, and Winters & Yusuf, 2006; for China, Brandt et al., 2006, and Eichengreen & Tong, 2006; and for India, Panagariya, 2006a, and Schiff, 2006). The following sections deal with six of these dimensions: GDP growth, foreign trade, energy and other raw materials, foreign investment, currency reserves and tourism.

Economic Growth
Since the 1980s, China has recorded substantially higher annual economic growth on average than India, as shown in Table 4, despite a trend towards convergence in 2000-05.

Table 4. Average Annual GDP Growth, 1980-2005 (in %)

1980-901990-20002000-05
China10.210.69.6
India5.86.06.9
Brazil2.82.92.2
Russia2.8-4.76.2
USA2.93.52.8
Japan4.01.31.3
Germany3.22.63.1
Spain3.22.63.1
Low and medium income countries3.03.95.3
– East Asia and Pacific7.88.58.3
– Latin America and Caribbean1.83.32.3
– Central Asia5.75.66.4
High income countries3.22.72.2
World3.12.92.8

Source: World Bank, various World Development reports.

In fact, growth in India has been accelerating since 2003, when it first exceeded the 7% mark (Graph 1).

In any case, GDP growth in China and India has been much higher than in the rest of the world, as shown in Table 4. In 2000-05, China grew at an average rate of almost 10% and India at 7%, while average GDP growth was 5% in low- and medium-income countries and 2% in high-income countries.

As a result of this growth differential, the combined relative weight of China and India in world output measured in PPP rose from 6.7% in 1980 to 21.3% in 2005 (Table 5). In 1980 the combined weight of China and India was less than that of Japan, but in 2005 it was three times greater. China’s share rose from 3.4% in 1980 (a percentage similar to the UK’s) to 15.4% in 2005 (five times greater than the UK).

Graph 1. GDP Growth Rates in China and India, 1998-2006


Source: IMF and S&P.

It should be borne in mind that the rise of China and India in the past quarter century is more of a re-emergence than anything else. According to data from Angus Maddison, obtained in Maddison (2003) and at his website, China is close to reaching the relative weight it had in 1870, while India is still far from the share it had in the last third of the 19th century (Table 6).

Table 5. Relative Weight in Gross World Output, in PPP (in %)

19802005
China3.415.4
India3.35.9
China + India6.721.3
France4.23.0
UK3.73.0
Germany5.94.1
Japan8.26.4
US21.320.1
EU20.121.0
Latin America9.67.7
NAIE (1)1.63.2

(1) NAIE: New Asian industrial economies (South Korea, Taiwan, Hong Kong and Singapore).
Source: IMF, WEO database (September 2006).

Table 6. Relative Weight in the World Economy (in PPP), 1870, 1950, 1980 and 2003 (in %)

1870195019802003
China17.14.55.214.6
India12.14.23.25.6
Japan2.33.07.86.6
USA8.927.321.120.7
Western Europe33.126.224.219.3

Source: A. Maddison.

Foreign Trade
The growth of exports of goods and services from China and India has been very high since 1990, at over 12% per year on average; most outstandingly, in 2000-04, China posted an impressive 24% growth (Table 7).

China has greatly increased its share in the international goods market, from 2.5% in 1993 to 7.5% in 2005. China has exported more than Japan since 2004, while doubling Latin America and reaching nearly half the US level. India, meanwhile, has a far lower relative weight (0.9% in 2005) and has grown much less (from 0.6% in 1993), as shown in Table 8. As for the weight of international imports of goods, two important factors should be borne in mind: first, China’s share of imports rose from 2.8% in 1993 to 6.3% in 2005; and, secondly, India’s imports have grown considerably and it now has a significant share of international imports (1.3% in 2005).

Table 7. Average Annual Growth of Exports of Goods and Services, 1990-2004 (in %)

1990-20002000-04
China13.024.2
India12.312.0
LMIC (1)7.310.1
World7.05.0

(1) LMIC: low- and medium-income countries.
Source: World Bank WDI 2006, table 4.9.

Table 8. Relative Weight in World Exports and Imports, 1993 and 2005 (in %)

Exports 1993Exports 2005Imports 1993Imports 2005
China2.57.52.86.3
India0.60.90.61.3
China + India3.18.43.47.6
Japan9.95.96.44.9
US18.014.516.016.5
Latin America3.03.53.32.8
Europe45.443.044.843.2

Source: WTO.

China doubled its share of the world services market between 1995 and 2005, from 1.6% to 3.1%, while India, as a result of its specialisation in the export of information technology services, quadrupled its share from 0.6% to 2.4% (Table 9). The Table also shows that the relative weight of China and India in international services imports has increased very considerably, from 2.9% in 1995 to 5.7% in 2005.

As regards the breakdown by product category of the goods exported (see Panagariya, 2006b), between 2001 and 2004 China’s main export categories were: office machinery and data processing equipment (SITC 75), garments and clothing accessories (SITC 84), devices and equipment for telecommunications and sound recording and reproduction (SITC 76) and electric machinery (SITC 77). For India, meanwhile, the main categories were manufactured goods made of non-metallic minerals (SITC 66, especially gems and jewellery), yarns, fabrics and articles made of textiles (SITC 65), garments and clothing accessories (SITC 84) and oil and petroleum derivatives (SITC 33).

Table 9. Relative Weight in World Exports and Imports of Services, 1993 and 2005 (in %)

Exports 1995Exports 2005Imports 1995Imports 2005
China1.63.12.13.5
India0.62.30.82.2
China + India2.25.42.95.7
Japan5.84.510.15.6
US16.714.710.812.0
Latin America2.92.83.83.0
Europe50.451.646.747.7

Source: WTO.

These figures lead to two main conclusions. First, China no longer specialises exclusively in textiles, garment making, toys, footwear, and travel and sports articles, although its presence in these markets remains considerable. Thanks to the growth of foreign sales of high-tech electronic products, electrical machinery, office machinery, telecommunications and sound equipment, China’s exports are more sophisticated than could be expected of a country at its level of development (Rodrik, 2006). This rapid change in China’s specialisation suggests that in coming years the country will surely move into products such as automobiles and car parts, naval construction, construction machinery, and products for high-tech telecommunications and biotechnology (Edmonds et al., 2006).

The second conclusion is that India’s specialisation in international trade is following a pattern that is much less dynamic and coherent than China’s (Panagariya, 2006b).

Table 10 shows the breakdown (by sector) of the export of services by both countries. Exports of Indian services grew considerably between 1995 and 2005. Also, two thirds of these exports were information technology services (ITS). By contrast, Chinese exported an equal volume of services in the tourism and travel sector and in the STI sector (40% in each case).

Table 10. Value and Percentage of Services Exports from China and India, 1990 and 2004

19902004
China (US$ million)5,74862,056
Transport (%)47.119.5
Travel (%)30.241.5
Insurance and financial (%)4.00.8
Computer and communications (%)18.738.3
India (US$ million)4,61039,638
Transport (%)20.813.3
Travel (%)33.816.8
Insurance and financial (%)2.73.5
Computer and communications (%)42.766.4

Source: World Bank WDI 2006, table 4.6.

Energy and Raw Materials
In a very short time China has become a major consumer of energy. Between 1990 and 2005, its energy consumption increased by a factor of 2.3 and, in terms of world consumption, its share rose from 8.4% to 14.7%. Its coal consumption doubled, while its oil consumption trebled. Meanwhile, India’s consumption of energy, coal and oil doubled during the same period, with its share of world energy consumption rising from 2.4% to 4.7% between 1990 and 2005 (Table 11).

Three factors must be considered. First, during those 15 years, the world consumption of energy, coal and oil rose by 20%-30%. Secondly, the relative weight of China and India in the world consumption of primary energy, coal and oil is much higher than their share of GDP in gross world output in current US dollars: 5% for China and 1.7% for India (Graph 2). Third, increased demand in China was responsible for 36% of the increase in world energy demand between 1990 and 2005 (and 79% of the demand for coal, and 29% of the demand for oil). For the purposes of comparison, China’s contribution to the increase in gross world output (in current US dollars) was 8.5% in 1990-2005.

Table 11. Consumption of Primary Energy, Coal and Oil, 1990 and 2005

1990%2005%
Consumption of primary energy
(Mtoe: million tons of oil equivalent)
China684.98.41,554.014.7
India193.42.4387.33.7
World8,120.3100.010,537.1100.0
China + India878.310.81,941.318.4
Coal consumption (Mtoe)
China529.923.71,081.936.9
India107.84.8212.97.3
World2,233.7100.02,929.8100.0
China + India637.728.51,294.844.2
Oil consumption
(Mbd: million barrels per day)
China2.323.56.988.5
India1.211.82.483.0
World66.39100.082.46100.0
China + India3.535.39.4611.5

Source: BP (2006) and the author.

In terms of other raw materials, China also carries significant international weight as a large net importer of iron, zinc, lead, copper and nickel. China accounts for between 15% and 33% of the world consumption of these five metals. India’s percentages are far more modest, as shown in Table 12. China’s share in the world consumption of cotton, rice, soy oil and rubber is above 20%. Except for rice and cotton, India’s share is much smaller.

Graph 2. Geographical Distribution of Gross World Output (in current US$), 2005


Source: IMF, WEO Database, and the author.

Table 12. Percentage of World Consumption of Selected Metals (2005) and Agricultural Products (2003)

ChinaIndia
Iron29.04.8
Zinc28.63.1
Tin33.32.2
Lead25.71.3
Aluminium22.53.0
Copper21.62.3
Nickel15.20.9
Cotton31.212.8
Rubber23.58.4
Soy oil24.56.4
Rice29.721.4
Sugar6.615.2
Tea14.417.5
Coffee0.40.8

Source: Streifel, 2006, table 1.

As Streifel (2006) indicates, China was responsible for two-thirds of the increase in the world consumption of the main metals between 1999 and 2005; there is, therefore, a relationship between the increase in Chinese demand and the rise in the prices of these metals. China is a significant net importer of vegetable oils, cotton and rubber, while India is a net importer of wheat and vegetable oils, so that an increase in their demand also affects the prices of these raw agricultural materials.

In fact, the increase in China’s demand for energy and non-energy raw materials, together with its exports of low-cost industrial consumer goods, has led to an increase, since 2001, in the real terms of trade for many of the countries that export these raw materials in Africa, Asia and Latin America (Kaplinsky, 2006).

Foreign Investment

It is a well-known fact that China and, to a lesser extent, India have become major recipients of foreign direct investment (FDI). Between 1990 and 2005, the FDI received by China rose from US$3.5 billion to US$72.4 billion (8% of the world total). During the same period, the FDI received by India started to reach significant levels after 2000, rising from almost nil in 1990 to US$6.6 billion in 2005.

The process by which businesses in the two countries make their foreign investments is less well known. As shown in Table 13, China, which invested barely US$830 million abroad in 1990 (0.3% of the world total), made foreign investments in 2005 worth over US$11 billion (1.5% of the world total). China made greater investments outside its borders than Austria, Denmark, Taiwan, Singapore or Brazil.

At present, Chinese foreign investment is in the hands of a small group of companies that are starting to gain international recognition (Lenovo, Haier, Huawei, TCL, ZTE, CNOOC, Sinopec, etc). Although highly diversified geographically, 40% of this investment is in Asia (India, Hong Kong, Vietnam, etc.) and 30% in Europe (the UK, Germany, etc.), while Africa, Brazil and Russia are minor recipients. The main sectors involved are information and communications technologies (ICT), heavy industry and electronics.

Table 13. Foreign Direct Investment, 1990 and 2005 (US$ million and %)

1990%2005%
China8300.311,3061.5
India30.01,3640.2
Hong Kong2,3771.032,5604.2
Singapore1,5700.65,5190.7
Japan48,12419.845,7815.9
Latin America4,5081.932,8254.2
EU135,66855.8554,80271.2
US27,17511.2-12,714-1.6
World243,186100.0778,725100.0

Source: UNCTAD, World Investment Report 2006.

Chinese companies (state-owned or private) invest abroad for many different reasons. Apart from the desire to become big multinational companies, many of them aim to:

  • Circumvent trade barriers in markets to which they find it difficult to export (in the case of investments by Haier and ZTE in wealthy countries, and by Huawei in Africa and in Russia).
  • Acquire well-known trademarks (for example, through the acquisition of: Thomson TV and RCA by TCL; IBM’s computer division by Lenovo; Rover and Ssangyong by SAIC; MG by Nanjing Automobile, etc).
  • Gain access to high technology and modern management know-how (for example, in the case of Lenova and IBM).
  • Control sources of energy and non-energy raw materials (mines in Australia and oil fields in central Asia and North America, for instance, CNPC’s investment in PetroKazakhstan and Sinopec’s investment in FIOC and in Northern Lights, etc).

It cannot be ruled out that Chinese foreign investment will increase considerably in the coming years. Some estimates put this investment at US$60 billion in 2010. It is also likely that new investment companies will appear, along the lines of Chery and Geely (automobiles), Wanxiang (automotive parts), Lifan (motorcycles), Cosco (logistics), Midea (home appliances), Hisense and Skyworth (consumer electronics), Ningbo Bird (mobile phones), etc.

Foreign investment by Indian companies is still much more limited, although it has grown considerably in recent years. Provisional data indicate that it may have been around US$8 billion in 2006. As shown in Table 13, Indian investment in 2005 was little more than one tenth the size of Chinese investment.

Unlike China, 70% of India’s investments go to the EU and the US. The main sectors are software (with investments by Infosys, Tata Consulting Services and Wipro), pharmaceuticals (the acquisition of the German company Betapharm by Dr Reddy, the US company Glaceau by Tata Group and the Romanian company Terapia by Ranbaxy) and automotive components (Tata Motors, Mahindra & Mahindra, Bharat Forge, etc). To date, energy and other raw materials have been relatively minor sectors, though there have been some significant investments: by ONGC in Brazil and by Tata Steel in the European company Corus, among others. The growing competition between India and China to acquire foreign companies and energy resources should be highlighted.

Financial Resources
China and India have become major holders of foreign currency reserves. In mid-2006, China held US$943.6 billion and India US$156.8 billion, putting them in first and sixth place in the world, respectively (Table 14).

Both countries accumulated an impressive amount of reserves in the first years of this decade. Between 2000 and the end of 2006, China’s foreign currency reserves rose from US$165 billion to more than US$1 trillion, while India’s increased from US$42.3 billion to US$170 billion. In the case of China, the increase was due to the surplus in its current account balance and to the net inflow of foreign capital, while in India it was due only to capital inflows.

The reasons why China and India –and by extension other Asian countries– have accumulated reserves are well known. One reason is the sterilisation of the current account surplus and/or capital inflows through the acquisition of foreign currency to offset the increase in the demand for domestic currency and, therefore, its appreciation. Another reason has been to create a buffer against the risk of a balance-of-payments crisis. It should be borne in mind that India went through a serious crisis of this kind in 1991 and that China was very concerned by the Asian crises of 1997-98.

Table 14. Main Holders of Reserves –Not Counting Gold– (US$ million)

June 2006% Increase since June 2002
1. China943,600283
2. Japan849,80094
3. Taiwan262,00077
4. Russia243,200510
5. South Korea225,600101
6. India156,800183
7. Singapore127,30059
8. Hong Kong126,60013
9. Mexico84,90086
10. Malaysia78,400143

Source: IMF.

The huge reserves held by China and other Asian countries have helped finance the US foreign trade and public deficits. In October 2006, China was the second-largest foreign holder –after Japan– of US treasury bonds, with US$641.1 billion. This amount was equivalent to 25% of the bonds in foreign hands and to 7.5% of the entire US public debt.

Tourism
Finally, we offer a brief note on the current weight of China and India in terms of outbound international tourism and their prospects in this area.

Chinese tourism abroad increased from 4.5 million persons in 1995 to 31 million in 2005. It trebled between 2000 and 2005. According to the World Tourism Organisation, this figure could rise to 100 million in 2020, which would make China the world’s fourth-largest source of outbound tourism, behind Germany, Japan and the US (WTO, 2001).

India’s outbound tourists increased from 4.4 million in 2000 to 7 million in 2006, and could rise to 16 million in 2010.

1.2. Challenges and Prospects

Therefore, all the indications are that China and India will continue to grow at a fast pace, at least during the next few decades and barring major disruptions (various scenarios are being explored by SAMI Consulting and Oxford Analytica, 2006).

According to the now classic ‘BRIC’ study by Goldman Sachs (2003), China’s GDP, in current US dollars, will overtake Germany’s in 2007, Japan’s in 2016 and the US’s in 2041, while India’s will be greater than Italy’s in 2016, France’s in 2023 and Germany’s in 2032, making it the world’s third-largest economy. However, this is a highly optimistic scenario, with average annual growth rates of 9.9% in 2000-20 and 7.7% in 2000-50 in China, and rates of 7.8% in 2000-20 and 8.5% in 2000-50 in India.

According to the report by the Economist Intelligence Unit (EIU, 2006), China’s GDP in PPP could reach 19.4% of world output in 2020 (a higher proportion than that of the US or the EU), while India’s could reach 8.8% that same year (a larger percentage than all of Latin America). This report forecasts an average annual GDP growth rate of 6% in 2006-20 for China and of 5.9% for India, compared with 3.5% for the world as a whole.

A report by CEPII (Poncet, 2006) predicts that, given certain changes in productivity, investment and education, China’s share of gross world output in current US dollars and at current relative prices could reach 21.8% in 2050 (and 4.8% for India). The combined figure (26.6%) would be similar to that of the US (26.9%). India’s GDP will be larger than France’s in 2025 and larger than Germany’s in 2034. China’s GDP will not overtake the US’s before 2050. These forecasts are based on growth rates, between 2005 and 2050, of 4.6% in China (6.6% in 2005-20) and 4.5% in India.

Everything seems to indicate that China and India will continue to grow considerably faster than the world average, at least for the next two or three decades. The main reason is that, for both countries, the advantages of rapid growth far outweigh the disadvantages.

In China’s case, the main advantages are: a high degree of integration in the world economy (exports of goods and services accounted for around 35% of GDP in 2005 and there is a very significant inflow of FDI), basic infrastructure and physical capital that is acceptable in terms of quantity and quality (and improving quickly), rapid social progress (the number of people living in poverty dropped by 400 million between 1981 and 2001) and a successful reform strategy (which Chinese leaders will undoubtedly keep in place in the future).

There are also numerous disadvantages. Some of them could be solved by the authorities in the coming years, but obviously there are no guarantees that this will be possible in all cases. The problems include: excessive savings and investment, an inefficient and weak banking sector, great imbalances in regional and personal income distribution, corruption and an underdeveloped legal system. Although all these are serious problems, they can be solved, especially if they are dealt with in a gradual and pragmatic fashion (Garnaut, 2005; Kojima, 2006; Perkins, 2006).

Some of the disadvantages are more structural in nature, including the following. First, an ageing population, resulting from the strict birth-control policy implemented in the early 1970s, will lead to an increase, starting in 2015, in the dependency ratio (population under age 14 and over age 65 in terms of the working-age population) and a decline, in absolute terms, of the population between the ages of 15 and 64, according to United Nations demographic forecasts (2005). So far, China has benefited from a demographic dividend, since the declining dependency rate, with its positive effects on the savings rate, and the sharp increase in the working-age population accounted for up to a quarter of GDP growth between 1982 and 2000 (Fang and Wang, 2005). Some authors believe that the problems expected to begin around 2015 can be tackled, not so much by relaxing the one-child policy (which would hinder the growth of per capita GDP), but by increasing the labour force participation rate, especially among people over 60 (by raising the retirement age, among other measures) and by creating employment, reducing the barriers to the geographical and sectoral mobility of the workforce (Golley and Tyers, 2006). Also, it should be borne in mind that a reduction in the working-age population starting in 2015 could be offset by greater rural-urban migration (with no negative effects on agricultural production) and by additional improvements to human capital, as suggested by Perkins (2006).

Secondly, over-industrialisation could become an obstacle to the development of a knowledge-based society. In 2005, the secondary sector accounted for 46% of GDP (versus 41% in South Korea, 31% in Japan, 28% in India, etc). Hence, China should increase the relative weight of the services sector (42% of GDP at present), not so much at the expense of agriculture, but rather, of industry.

Third, there is excessive dependence on foreign capital. In 2005, the ratio between foreign direct investment (inflows) and gross capital formation was 9.2% (4.0% in the US, 3.5% in India, 3.1% in South Korea, etc.) and the ratio of FDI stock to GDP was 14.3% (13.0% in the US, 8.0% in South Korea, 5.8% in India, etc). This high dependency on FDI makes the economy vulnerable to possible changes in the international placement strategy of multinational companies (possible relocations to Vietnam, India, Bangladesh, etc.) and also undermines industrial policy.

The fourth issue is the growing dependence on energy, especially on oil. According to data from BP and forecasts by the International Energy Agency, China’s demand for oil will rise from 6.6 million barrels a day (mbd) in 2005 to 10.1 mbd in 2020 and 12.8 mbd in 2030. Since national production will not rise, imports of crude oil will rise to 38% of consumption in 2005, and to 68% in 2020 and 74% in 2030 (BP, 2006, and IEA, 2004). In more general terms, in the coming years China will become a net importer of coal and natural gas, which will have profound international and environmental repercussions (Isbell, 2006; McKibbin, 2006).

Fifth, the ever-rising and increasingly serious damage to the environment is a problem of enormous magnitude. Desertification, soil degradation, pollution of rivers, seas and the air, greenhouse gas emissions and the loss of biodiversity have been some of the results of a very rapid and environmentally insensitive process of industrialisation on the coast, while despite improvements poverty persists inland. For instance, particularly in the north, there is an extremely serious water shortage (60 million people have difficulty receiving enough drinking water), combined with severe pollution of the rivers. As for air quality, 16 of the 20 (and five of the 10) most polluted cities of the world are in China. China is the world’s second-biggest emitter of carbon dioxide (although its per capita emissions are still low) and the largest emitter of chlorofluorocarbons and sulphur dioxide in proportion to its inhabited area. The predicted growth in the number of automobiles in the country, which reached 20 million in 2004 and may break the 60 million mark in 2010 and 90 million in 2015, will undoubtedly worsen the air pollution in the major cities. The massive use of low-grade, sulphur-rich coal is also causing acid rain, a phenomenon which affects 30% of the country’s surface area and extends far beyond its own borders (McKibbin, 2006). Soil erosion, caused largely by deforestation, aggravates the effects of flooding.

Finally, a sixth disadvantage of rapid growth is the lack of a democratic political system, a modern judicial system and sufficient protection of intellectual property rights. Although individual freedoms have increased as a result of economic reform, the regime continues to suppress freedom of speech and freedom of peaceful assembly and association. Some analysts believe that a regime of this kind could not deal with events such as a serious economic crisis, widespread political protests, serious public health problems or major ecological catastrophes. The lack of an independent judicial system and the lack of protection of intellectual property rights could, in the long term, have a negative impact on foreign direct investment and on exports to developed countries.

India’s economy has even more contrasts than China’s (Bustelo, 2006b), leading to analyses that are generally either overly optimistic or pessimistic regarding the country’s prospects. Some recent studies, for example, have been very optimistic. The Goldman Sachs (2004) study insisted that India could grow more than China in the long term. It based its arguments on the opportunities for a rise from low per capita income, favourable demographic trends, the bright prospects of the strategy for the export of information technology services, the appearance of internationally competitive companies and the government’s commitment to reforms aimed at providing greater openness and the development of infrastructures. Along the same lines, Rodrik & Subramanian (2004) affirmed that annual GDP growth could reach 7% in 2005-25 (equivalent to 5.6% per capita), given the country’s clear advantages: an abundant and well-trained labour force (thanks to its renowned institutes of technology, management and research) and democratic institutions (rule of law, free press, technocratic bureaucracy, etc).

This excessive optimism has been steadily waning. India has unquestionable advantages, but also very significant disadvantages.

Among the main advantages is the demographic dividend resulting from population growth, which still remains high. India’s ‘window of opportunity’ will be open until 2035, since (in contrast to China, which will start ageing in 2015) the dependency rate will continue dropping and the working-age population will continue growing until that year (United Nations, 2005). Another matter is whether or not full advantage will be taken of this, by fostering the necessary creation of employment and training of human capital (Mitra & Nagarajan, 2005).

Another advantage is the development of information technology services, largely due to the existence of a qualified labour force (with a large number of university graduates who are proficient in English), which unquestionably puts India in a good position to advance towards a knowledge-based society. A third advantage is the development of private companies that are able to be very competitive in the international market, especially in the information, pharmaceutical and automobile sectors. Fourth, despite very high dependence on oil and natural gas imports, India is more energy-efficient than China. In 2003, GDP per kilogramme of oil equivalent was US$5.3 (year 2000 US dollars in PPP), versus China’s US$ 4.5 per kilo. The figure for India is even higher than the average for high-income countries. Fifth, although environmental damage is very serious in India (especially as a result of water and air pollution), it is less extreme than in China. For example, the environmental sustainability index, calculated by Yale and Columbia university specialists, is considerably better in India than in China (Esty et al., 2005). According to this index, which uses 76 variables to measure the chances that a country will be able to effectively preserve its environmental resources over several decades, India scored 45.2 points in 2005 (ranked 101st), while China scored 38.6 (133rd place). Finally, India has deeply rooted democratic institutions, as well as an independent (although slow) judicial system and intellectual property protection that are considerably more effective than China’s.

India also has many significant disadvantages. First, its integration in the world economy is still very limited (Panagariya, 2006a). The goods and services export ratio is 15 points below the Chinese level. The country receives only one tenth as much FDI as China does. Secondly, infrastructures leave much to be desired, especially in terms of sea ports, airports and highways (for more details, see Panagariya, 2006a, p. 36ff). Third, to date, the focus on certain service sectors (financial, business management and communications) has generated few jobs, relative to the size of the country, since these sectors are not labour-intensive and, in fact, employment elasticity in them has been dropping since the early nineties (Banga, 2006). This ‘growth without employment’ will disappear only if a boost is given to the modernisation of small-scale agriculture, to the service sectors that generate the most jobs and, above all, to a labour-intensive manufacturing sector that is focused on exports and more open to FDI. This will be difficult given Chinese competition (KPMG, 2006). Fourth, there are still major macroeconomic imbalances, including a large current deficit, caused in part by a weighty budgetary imbalance and financed largely by capital inflows in the form of portfolio investments (Bustelo, 2006b). Fifth, social progress to date has been more limited than in China. Poverty, for example, measured in terms of daily income below US$1.08 in PPP, dropped from 54.4% in 1981 to 34.7% in 2001, when it affected 356 million people, according to World Bank figures. By contrast, China managed to reduce poverty from 63.8% in 1981 to 16.6% in 2001. Finally, the reform strategy is not entirely clear nor is it a sure thing, among other reasons because it is relatively recent (it began after a serious balance of payments crisis in 1991, as Frankel, 2005, indicates) and because it depends a great deal on the country’s complicated political scenario.

To round out this section, we will briefly consider the short- and medium-term challenges facing the two countries.

China will have to refocus its growth, shifting from investment and exports to domestic consumption, since the country’s model –based on very high savings rates and enormous international competitiveness– has major disadvantages, such as inefficient investment and extreme dependence on international trade (Garnaut & Huang, 2005; Yusuf and Nabeshima, 2006). There are also disadvantages related to macroeconomic management, since this model is not capable of preventing overheating processes (Bustelo, 2006c). Among the various recipes recommended to China to bring about this shift in focus, Blanchard & Giavazzi (2006) have suggested three measures that could be adopted: reducing the savings rates in order to reduce investment; improving public services, especially in the health sector, in order to help increase consumption; and raising the value of the yuan to help reduce the growth of net exports. While the first two measures seem obvious, exactly how far China’s currency should rise is the subject of serious controversy.

China should also refocus its production on manufacturing and service sectors with high added value. To date, China has been mainly an exporting platform that assembles components and intermediate products that come from other Asian economies. There is relatively little added value in this work. Therefore, the government should implement an ambitious industrial policy to boost emerging sectors such as automobiles, automotive parts, machine tools, naval construction and aeronautics. Some of these sectors already show signs of strength, thanks to the demonstration effect of imports, technology transfers and FDI (Winters & Yusuf, 2006, cap. 2). Services, meanwhile, will have to adapt to an increasingly complex and sophisticated economy. It will be necessary to modernise sectors such as banking, insurance, energy distribution, health care, ICT, etc. The 11th Five-Year Plan (2006-10) insists on the need for a new development model with a broader social and environmental focus and with a better balance between coastal and inland development and between exports and the domestic market (Bustelo, 2005). However, apart from certain references to the need to promote technical progress, there is not enough emphasis on the need to promote the production of goods and services with greater added value.

India has two main short- and medium-term challenges. The first is to create a sufficient volume of employment. To do this, it will be necessary to work hard to build a quickly growing, labour-intensive manufacturing sector that is export-focused and open to FDI. This is surely the reason why we are beginning to see special economic zones for foreign investment –an issue which, despite the favourable Chinese experience, has led to a great debate among Indian economists (Aggarwal, 2006)–. The second challenge is to modernise and quickly extend and expand infrastructures. To do this, it will be necessary to limit the budget deficit, obtain more foreign assistance and open certain sectors to international private investment.

2. Some Implications for Spain

The rise of China and India in the past, present and future has various implications for an economy like Spain’s.

In the EU as a whole, economic relations with China and India have three main features (La Caixa, 2006): they are mainly with China, a country with which it has considerably more complementarities than with India, which has so far played only a minor role; it is mainly goods that are exchanged, with services accounting for barely 4% of the EU’s overall trade in that sector; and the EU’s FDI in China and India in 2001-04 was equivalent to only 2% of total FDI.

The commercial impact on Spain has been limited until now to China, since there has been very little growth in India’s relative weight on Spain’s imports. As described in Bustelo (2006b) and Bustelo (Coord., 2006), between 1995 and 2005 China’s relative weight on Spain’s imports rose from 2% to 5%, while India’s only grew from 0.4% to 0.7%.

According to Venables & Yueh (2006), China’s commercial impact has been positive for countries that are net importers of manufactured consumer goods, since prices in some categories have actually been dropping. It has also been positive for countries that export primary products (commodities), since the prices of these have been rising, and for countries that produce goods and services sought by China. By contrast, it has been negative for exporters of manufactured goods similar to those sold by China (some Latin American and south Asian countries) and for net importers of commodities. As a result, Spain has benefited from the importation of Chinese manufactured products (a third of Chinese exports to the EU declined in price between 1988 and 2001, according to Kaplinsky, 2006) and, more recently, has been negatively affected by the rising prices of energy and non-energy primary materials caused by Chinese demand. It should also be pointed out that because of these financial and trade relations, the rise of China –and to a lesser extent that of India– has contributed to relatively high growth with very little inflation in the EU. However, in recent months, the possible diversification of Chinese and Indian reserves towards a larger volume of euros has contributed to the appreciation of the European currency relative to the US dollar, although probably to a lesser extent than the interest rate differential between the US and the EU.

Spain’s economic relations with China and India have a number of significant features. First, there has been very strong growth in imported goods. Between 1995 and 2005, total imports grew at an average annual rate of 10%, but Chinese imports rose by 21% a year and Indian imports by 16% a year. Still, the Chinese and Indian shares of Spain’s imports (5% and 0.7%, respectively) are considerably smaller than the share for the EU as a whole (13% and 5%, respectively), suggesting that purchases from these two countries are bound to continue growing at a faster pace than total imports. Secondly, Spain has a very limited presence in these countries as a trade partner and investor. Spanish exports to China grew from €680 million to €1.5 billion between 1995 and 2005, but barely changed as a percentage of total exports (0.97% in 1995 and 0.98% in 2005). As a result of the growing imbalance between imports and exports, the bilateral trade deficit reached €10.15 billion in 2005, making it Spain’s second-largest bilateral deficit (after Germany), accounting for more than 13% of the total. Exports to India barely exceeded €560 million in 2005, creating a deficit of €1.0 billion (1.3% of the total deficit). Meanwhile, investment in the two countries by Spanish companies has been extremely small to date. Investment in China in 2005 totalled €44 million (accounting for 0.2% of Spain’s total foreign investment) and only €0.8 million was invested in India. Some recent investments in China, such as those by Telefónica and BBVA, are encouraging and may suggest a change in trend. For the EU as a whole, 1.6% of FDI goes to China and 0.4% to India, respectively. Third, the small volume of exports to China and India means that Spain’s profile as an exporter continues to focus essentially on low-growth markets (in 2005, the EU absorbed 72% of Spanish exports). As a result, Spain is practically absent from the big dynamic markets (China and India received 2% of exports, less than the 6% that went to Africa). The low level of Spanish business involvement is surely a factor in the small volume of exports, since more investment –which would presumably be aimed more at the Chinese domestic market than at exports– would boost the sale of Spanish products, and in any case it is inadequate for an economy such as Spain’s, which in 2004 was the world’s fourth-largest investor.

In short, China and India are, for Spain, large potential markets for the export of goods and services and for business investment. They could also become significant sources of tourism, investment and students. Although steps are being taken in the public and private sectors to make the most of all these contributions by China and India to Spain’s future economic growth, such measures should be given top priority considering the present and future rise of the two Asian giants.

Conclusions

The rise of China and India has already significantly altered the global economic map and should this continue over the next few decades –even with growth rates somewhat lower than those seen in the past 15 years– the changes will be even greater. The combined weight of the two Asian giants in gross world output (in purchasing power parity) has trebled in the past quarter of a century to 21%, which is greater than the US or the EU. Some forecasts suggest that it could reach 28% around 2020 (19% for China and 9% for India), if they are able to maintain annual GDP growth rates of around 6% until then. In principle, this seems perfectly possible, especially for China. In 2020, the US’s share of world output should be around 19%, equal to that of the EU, while Latin America should account for 8% and Africa and the Middle East together for 6%.

China and India already account for 8% of the international trade in goods and 5.5% of the trade in services, as well as 20% of world energy consumption and 11.5% of oil consumption –all percentages that are much higher than only a few years ago and that are bound to continue rising considerably in the coming decades–.

China and India also recently exceeded the impressive figure of US$1.1 billion in foreign currency reserves. China has trebled its number of tourists abroad in the past five years and it will surely do so again by 2020, when there will be at least 100 million Chinese tourists. India could have as many as 16 million tourists abroad as early as 2010.

It is true that both China and India will have to deal with major challenges in the coming decades. Among those mentioned in the pages above are, in the case of China, an ageing population, over-industrialisation, increasing energy dependency, a deteriorating environment and the lack of public freedoms or an independent judicial system. In the case of India, poor integration in the world economy, underdeveloped infrastructures, very limited job creation and budgetary and foreign trade imbalances are important factors to consider.

Nevertheless, the medium- and long-term advantages of both countries clearly outweigh the disadvantages. China is well integrated in the world economy, has good physical capital (infrastructures) and has adopted a development model that generates many jobs and enjoys macroeconomic stability. India, meanwhile, will have a ‘demographic dividend’ until 2035, has done an excellent job of developing information technology services, has a strong private business sector and has an energy situation and environmental problems that are less serious than China’s. Thus, everything would seem to suggest that, barring a catastrophe, China and India will continue to grow at high rates and will continue to increase their global weight in the coming decades.

The Spanish economy does not appear to be at all well prepared for this scenario, despite the efforts made in recent years. Imports from China and India will continue to grow more than total imports, among other reasons because, in relative terms, Spain imports two-thirds less than the EU average from the two countries. Meanwhile, exports to China and India account for barely 2% of Spain’s total exports. In other words, Spain’s profile as an exporter is focused on mature, slow-growth markets and continues to be practically absent from dynamic, emerging markets. It must export far more to China and India, perhaps by multiplying direct investment in these countries. To date, such investment has been very limited, although positive trends have been observed in recent years. Otherwise, Spain’s trade deficit with China and India, which already accounts for 15% of the total deficit (versus 7% in 1995), will shoot up. In fact, Spain’s trade imbalance with China is already its second-largest bilateral deficit, after its deficit with Germany.

In recent years, there have been many initiatives to correct this situation. Some of them have already begun to show positive effects. It is to be hoped that these efforts will continue and even be accelerated in some areas. The Spanish economy cannot allow itself the luxury of failing to adapt to the rise of China and India –a world economic trend that will profoundly alter the international scenario in the coming decades–.

Pablo Bustelo
Senior Analyst, Asia-Pacific, Elcano Royal Institute and professor of Applied Economics at Madrid’s Complutense University

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[*] Originally published in Revista del Instituto de Estudios Económicos (nr 1-2, 2007) and reproduced by permission.

Pablo Bustelo Gómez. Full Professor of Applied Economics at the Complutense University of Madrid (UCM) Former Senior Analyst at the Elcano Royal Institute (2002-2013)

Written by Pablo Bustelo

Pablo Bustelo Gómez is Full Professor of Applied Economics at the Complutense University of Madrid (UCM) and Director of the East Asian Economic Studies Group (GEEAO) at the same university. A pioneer of the academic studies on Asia-Pacific in Spain, he has been a Senior Analyst (Asia-Pacific) at the Elcano Royal Institute from 2002 to […]