'Our forecasts won't hold good without labour reforms'

Q&A/ROOPA PURUSHOTHAMAN

, just 25, is already getting used to the limelight. Associate economist with Goldman Sachs, she co-authored the BRIC (Brazil, Russia, India, China) report, which since it was published in October 2003, has been widely discussed in India.

Purushothaman herself is amused since it has hardly elicited such a response in other BRIC countries. Here in India on a personal trip, she took time off to address top CEOs at meets hosted by Kotak Capital, which is Goldman Sach's joint venture partner in India.

In a long chat with Business Standard, Roopa defends her report and justifies her bullishness on India.

Had you expected the BRIC study to generate the kind of interest that it has done?

There has never been a dull moment since the report became public. While it has been discussed at length in academic circles and has been appreciated by the other three BRIC countries, nothing compares with the response it has evoked in India.

I guess it has to do with the fact that China's economic strength has been in the limelight for a long time now, and Russia and Brazil also make the grade on account of their high per capita incomes. It is for the first time that a study has conclusively shown where India can reach, given certain conditions.

The report says that India will become the third largest economy in the world if it grows at an average 5.5 per cent a year, and by 2050 it will be the fastest-growing economy in the world. The growth rate in the terminal year will, however, be marginally above 3 per cent. Where will the US stand then in terms of growth rate ?

The results are based not merely on extrapolations from the current levels of economic inputs, but also take into account the exchange rate appreciation, reform process and the resultant factor productivity growth.

The report envisages an annual growth of 2.5 per cent of the US gross domestic product (GDP) throughout the period. The crucial difference is that for the US and for the other G-6 countries, projections are based only on the demographic profile, while an elaborate model has been worked out for the BRIC countries and takes into account the economic size, global demand patterns and currency movements.

The crucial assumption of the study is that the exchange rate of the BRIC countries will appreciate at an annual rate of 2.5 per cent. How realistic is that scenario?

The report only provides the baseline specification and says what can possibly happen if the equilibrium exchange rate is maintained. The dollar depreciating by 2.5 per cent in real terms is the equilibrium condition for our model.

Things might not play out as outlined in the study, given India's heavily-managed currency. China is a tougher case and is under a lot of pressure to put the yuan on float. Even if it does, it might just be a one-off phenomenon. For both these countries to reach the economic size that the model forecasts, the currency has to appreciate by nearly 300 per cent by 2050.

How important do you rate other factors like macroeconomic stability, efficient institutions and stability of governance?

They have an important bearing on the results. Sustained reforms could quicken the process of BRIC countries catching up with the living standards of G-6 countries.

What makes you so optimistic about India ?

The country has been well on course on the reform path over the past six to 12 months. There has been movement in the infrastructure sector. I was in Kochi the other day, and the power, water and road situation in the city has improved remarkably. I have relatives all over south India and have spent the past three weeks on the road, criss-crossing that part of the country. The ride is smoother than it was four years ago, when I visited India last.

What is the way ahead for India to realise the potential that the model says the country has?

A lot of investment is required in the sectors in the nascent cycle "" power, defence, telecom, oil and gas exploration. The banking sector also calls for attention and the credit cycle should go forward. There should be a focus on sectors that are consumer-interest intensive.

The forecast that we have made will not hold good if labour reforms are not introduced. There has to be active engagement between the Centre and the states. The implementation issues need to be sorted out.

Could the predominantly agricultural nature of the Indian economy, dependent on the vagaries of the monsoons, impede the growth path you have charted out in the report?

The model makes forecasts over a long period and, thus, does not take into account the economic cycles. India's per capita income in 2050 will be more than 35 times the current level if the average growth is maintained at 5.5 per cent a year.

Seasonal variations, like the incredible growth rate of 8.4 per cent in the second quarter, just add spring in one's step. Our model is based on capital accumulation and demographics driving growth. To that extent, the agricultural predominance is taken care of.

The report is silent on south-east Asian countries, which were called the Asian tigers in the 1990s and have done a remarkable job of recovering from the currency meltdown of 1997.

Countries like Singapore, Thailand and Malaysia, with their open economies and export-led type of growth, do not quite fit the bill for our model. There is no doubt that these countries will remain forces to reckon with. Before zeroing in on the BRIC countries, we considered Mexico, Turkey, Indonesia and South Africa too, which have features in common with the BRICs.

How long did you take to prepare the report? What other formulations did you try other than the Cobb-Douglas growth function that you have used in the model?

Basic work on gathering data started in August 2002. The research and modelling took a year. This is because Dominic Wilson [co-author of the report] is based in America and I in London. So we had to do long-distance coordination and work on the report in the course of our normal official schedule.

We did a lot of regression estimations, and checked for the period averages. The Cobb-Douglas function is the most accepted specification for a growth model. The simulation allowed us to arrive at the kind of results that we sought. We did not want mere forecasts but also indications of when a country would overtake another and so on.

What after BRICs ?

My next project would be a more focused study on India. The country has experienced an incredible boom in the services sector. I will do a study on how sustainable such a sector-led growth is and whether it can be replicated elsewhere and what specifications will be required. The report will also look into other aspects of development in India, and how and when India can grow without delving into individual sectors.

In fact, I was to meet people and gather preliminary data during this trip to India. That could not happen because the euphoria over the previous work refuses to die. I will begin work on the next project in February.