FROM THE OFFICE OF PUBLIC AFFAIRS

December 5, 2004
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Remarks by John B. Taylor
Under Secretary for International Affairs
United States Treasury
World Economic Forum’s India Economic Summit
New Delhi, India

India and the World Economic Expansion

I am so pleased to have been invited to speak to this very distinguished audience.  I would like to thank the World Economic Forum for organizing this important event, and the Indian government for its hospitality.  And I would like to express my thanks to Klaus Schwab for his kind introduction.

Before I begin, I would like to congratulate Finance Minister Chidambaram and the entire economic team for their extraordinary leadership, and for the bold steps they are taking on economic policy.  They are setting a course for India towards a promising and prosperous future with strong economic growth and poverty reduction.  

I would like to talk this afternoon about the state of the world economy, focusing in particular on the role of economic policy in emerging market countries like India and in developed countries like the United States.  And I would like to use this opportunity to discuss how economic experiences of fast growing economies offer some lessons for economies around the world to meet their enormous economic potential.

The World Economic Expansion

Since this is a meeting of the World Economic Forum, it is appropriate to begin by reminding ourselves that the world economy is in a remarkably good state right now. And then we should ask ourselves why it is in such a good state. 

First note that for the world as a whole, economic growth is as high as it has been in three decades.  It is good news that there are no major recessions and no major financial crises, a huge improvement over the crisis-ridden years of the 1990s.   And interest rate spreads between emerging market bonds and U.S. Treasuries, an important measure of global risk, are at historically low levels.  High inflation, once a force of financial instability around the world, is gone in most countries; in the emerging markets it is one-tenth what is was in the mid 1990s.  I think it is important that forces of contagion have diminished: when spreads increase in one country, as they have recently in Ukraine, there is little or no spillover to other countries.

In the United States, the economy has nearly completed its recovery from the 2000-2001 stock market crash, corporate scandals, and 9/11 terrorist attacks, and it is moving into an expansion phase.  This year it is on track to complete the third year of recovery with a strong 4 percent growth pace.   Among other developed economies, Japan, France, the United Kingdom, and Canada have also been growing well, though Germany continues to lag. It is of particular note here in Asia that Japan has been growing nicely for the last several years after its lost decade in the 1990s.  Of course, the rest of Asia is also growing strongly with India at close to 7 percent and China even trying to slow down a bit and remove inflationary pressures. I could go on and on, reviewing the economic expansion in emerging markets from Russia, to Turkey, to South Africa, to Brazil and Chile.

Good Economic Policies

What accounts for this positive scenario?   In my view, economic policies provide the major part of the explanation.  In the United States, we have implemented well-timed monetary and fiscal policies, including marginal tax rate cuts, which mitigated the impacts of the 2000-2001 shocks and led to a sustainable recovery. Of course the U.S. growth induced by those policies has been a major source of world growth.  In Japan, the focus on a monetary policy to end the deflation has been a factor in the end of the stagnation of the 1990s. Similarly, the emphasis on strong monetary and fiscal policy in Brazil and Turkey has brought these countries out of crisis. These policies reflect an emerging consensus on how to support economic growth and stability, including the importance of price stability, market flexibility, and policies to raise productivity.

I believe that this growing policy convergence can be attributed--at least in part--to several international economic policy initiatives underway.  For example, the G-7 recently adopted the Agenda for Growth, which has emphasized increased flexibility to boost productivity growth and employment.  And the G-20--which includes emerging market countries like India, China, and Indonesia--has adopted the Accord for Sustained Growth, which has brought attention to the importance of price stability, exchange rate flexibility, and structural reforms.  

The U.S. is also pursuing several bilateral efforts intended to reinforce these multilateral initiatives, including the Economic Dialogue with India, the Partnership for Prosperity with Mexico, and the U.S.– Brazil Group for Growth.  I welcome the attention that India's government is giving to the Economic Dialogue with the United States and would like to emphasize that we too view this as a very important forum. 

With the widespread adoption of sound monetary and fiscal policies, the global economy may be poised to record the longest global expansion in history.  I say this because we have seen the tendency for expansions to get longer in countries that adopt such policies.  In the United States, for example, the move to end inflation and focus on price stability in the early 1980s led to a major increase in the length of our economic expansions in the 1980s, in the 1990s, and I believe now. The same is true of other countries.  

Avoiding Policy Mistakes

But realizing this outcome will depend on continued vigilance of economic policy makers to avoid mistakes.  Staying the monetary policy course and reacting in time to keep inflation low is essential, because so many expansions in the past were cut off by inflationary booms and the inevitable busts. 

And we need to work together to combat the risks to this scenario.  One issue that has received a great deal of attention recently are the global current account imbalances, as evidenced by the large current account deficit in the United States, which has risen from about 1 percent in 1990 to about 4 percent in 2000 and about 5 percent in the first half of this year.  The current account deficit is equal to the gap between investment and saving in the United States. U.S. policies to reduce the budget deficit and promote private savings through personal saving accounts will raise saving and thereby reduce the current account deficit.   These policies should be matched by policies to raise economic growth in other countries and increase exchange rate flexibility in countries that do not have such flexibility, which will also help render a smooth adjustment in global payments. 

Another worry is the threat from high oil prices.  It is good news that prices have eased off the recent peaks.   But this should not mean that we are complacent about developing policies to increase energy supplies.  And while the credibility of central banks in achieving low inflation has allowed monetary policy to continue to support recovery, they cannot be complacent if inflationary expectations rise with the higher oil prices. 

Raising Economic Growth

My biggest concern is not with the length of the current global expansion, but with its strength.  Growth in some countries is simply not robust enough to seriously reduce poverty.   An important goal of the Bush Administration is to reduce poverty by raising economic growth around the world.  For example, our new development agenda channels more funds to countries that follow pro-growth policies, and embodies two major principles: one, that resource flows be tied to measurable results, and two, that the poorest countries receive increased levels of grants instead of loans. This approach is reflected in the Millennium Challenge Corporation, a new U.S. organization which will provide grant financing to strong performers based on clear strategies for measuring progress toward stated results.  

India's Window of Opportunity

Economic growth this past year in India came in at 8 percent.  India's leaders are now facing critical decisions that will determine whether that high growth rate can be sustained.  The key here is productivity growth.  Why productivity growth?  Because countries with low productivity have low per capita incomes and high rates of poverty; to eradicate poverty, there is no alternative to increasing productivity.  If there are no impediments to the flow and accumulation of capital and technology, then countries that are lagging in technology should have higher productivity growth, and "catch up" to more advanced economies.  Therefore, with the right set of policies, countries should make productivity gains.  This is not merely economic theory, but has been borne out by countries from all regions of the globe.

Productivity growth in India has been about 3-1/2 percent over the past decade. To get economic growth to 8 percent on a sustainable basis will require productivity growth of about 6 percent because employment growth can be expected to be about 2 percent.   

Is this kind of productivity growth feasible?  I believe it is if the right policies are followed.  Capital investment will have to grow rapidly and that will require economic policies that encourage investment.  The recent elimination of the long-term capital gains tax is exactly the kind of policy to encourage investment.

There is another crucial factor--education.   In the R&D and IT sectors, investors came to India because they were attracted to India's well-educated labor pool.  But with only 5 percent of Indians of college-age receiving a college education, this pool is a relatively small part of the total workforce.  In order for India's citizens to move into high productivity sectors and away from low productivity sectors, India must invest in its people, especially by doing more to provide education.  Of course India's leadership is fully aware of the need to significantly increase investment in human capital, and has laid out its commitment to improving education and health services in its Tenth Plan. 

Clearly policy played an important role in productivity growth in the IT sector in India.  The IT sector has benefited from deregulation, liberalization of FDI, and the privatization of government-owned services.  In addition, IT-enabled services have not had to face the infrastructural constraints faced by other sectors.  Operating through satellite links, Indian programmers are providing IT support to U.S. and European firms in areas ranging from software development and maintenance, back-office operations, data transcription and transmission, and telemarketing. 

With respect to India, I am confident that deregulation and liberalization in other critical sectors will generate new success stories, and welcome this government's commitment to increase investment opportunities in telecom, insurance and civil aviation. 

These objectives underscore the urgency of moving ahead with other reforms, such as tax reform, trade liberalization, and the elimination of subsidies, to ensure that the government is not forced to confront the unenviable policy choice of whether to invest in its people or pursue fiscal discipline.  Fortunately, if the agenda outlined by Prime Minister Singh and his government is implemented as planned, both goals should be achievable.

I think it is interesting to note that in the United States, productivity acceleration also seems to be happening more in some sectors than others, and, also like India, gains have been especially relevant in areas such as the information technology sector.  Economists who have looked closely at this phenomenon speculate that the U.S. predisposition to accepting intense competition and capacity to adjust rapidly have enabled the retail sector to benefit from IT innovations.  This phenomenon may also encourage capital market development and more dynamic forms of higher education, both of which contribute to higher productivity, all of which point to the importance of providing flexibility to reward and encourage more productive ways of doing things.

Conclusion

Yesterday, I had the opportunity to travel to farms and villages in the state of Uttar Pradesh.  I visited World Bank-financed projects that are designed to improve productivity of agricultural production systems, promote private sector development, and improve rural infrastructure.  I was especially impressed with a project involving sodic land reclamation, which has had tremendous results in raising productivity and reducing poverty. I visited schools and talked to students and teachers.  I also spoke with farmers and with business people. I addressed a crowd of nearly 5,000 people from villages and farms in the area, and spoke about the friendship between the people of the United States and India.

This visit showed me the huge upside potential for policies that provide opportunity to people. It is clear to me that if given the opportunity to work productively, the Indian people can create economic growth rates on the order of 8 percent, which in turn will translate into rapid improvements in living standards, lifting millions of people out of poverty.  I am confident that under its current leadership, India is on the right path.  We in the United States look forward to strengthening our economic partnership with this great country. 

Thank you. 

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