Indian problems and the BSE Sensitive Index (SENSEX)

1. Introduction
In recent years, many fund managers and investors like to look at India through rose tinted glasses. (1) On the economic side, these experts believe that liberalization, structural reforms, ambitious infrastructure projects, favorable demographic profile (2) and low interest rates will continue to support strong economic growth in India. Politically, it seems that the anti-terrorist pledge made by Pakistan (3) has helped write a glorious page in the security history of India. The improvement in Indo-Pakistani relations, together with the growing ties between India and the US, has provided further ammunition to the argument that the Indian stock market is an irresistible goldmine. However, the above assessment rarely focuses on India's political, economic and social problems. The aim of this essay is to deflate the euphoria induced by these rose-colored comments. It is worth noting that India is both a goldmine and a landmine.

2. Indian problems
Politically, India does not seem to emerge from the shadow of the Kashmir question. Besides, the improvement in Indo-US relations has raised the specter that the new alignment will upset the delicate balance of power in South Asia. Chinese and Pakistani reaction to the new alignment may add fuel to the powder keg in South Asia. Economically, the problem of energy security is no longer a threatening cloud on a distant horizon. In fact, India needs to confront a host of economic problems. They include: huge fiscal deficit, weak industrial base, rural underdevelopment and regional disparities. Socially, many scholars have cast a harsh spotlight on the problems of pollution and population pressure in the post-reform period. In addition, health and educational problems have caused ripples of concern in the academic world. In the following paragraphs, I will examine these problems with reference to the investment atmospheres in India.

2.1 Political problems
2.11 The problem of Kashmir
The problem of Kashmir is at the core of the political trouble India has been confronting since 1947. Besides being a communal problem, the Kashmir question is also an inter-state issue. At present, Pakistan remains unreconciled to Indian control over the disputed state of Jammu and Kashmir. (4) In fact, 'few bilateral conflicts have proven as resistant to resolution as the Kashmir dispute between India and Pakistan.'(5)
Through the distorting lens of the optimists, the improvement in Indo-Pakistani relations has defused the tension in Kashmir. On closer examination, Kashmir remains a nuclear flashpoint. Tomothy Hyot argues that it 'represents a recurring or relatively constant focus of conflict.'(6) The Kargil War (1999) demonstrates that the likelihood of a conventional war between these two traditional rivals remains high. A conventional war is extremely dangerous because it may sow the seeds of a nuclear war. As Achin Vanaik has pointed out, 'world wars are the result of a complex of factors and require numerous preconditions. Their emergence or avoidance should not be reduced to implausible single-factor explanations like the presence (or absence) of a nuclear deterrent.'(7)
Some recent events have limited India's options to find a peaceful solution to the Kashmir problem. Firstly, Pakistani-sponsored terrorist groups sought to expand their ambit of operations even after the September 11, 2001 Al Qaeda attack on the US and the US-led global war against terror. (8) In August 2005, India's Defense Minister said that a large number of militant training camps had been activated on the Pakistan side of the ceasefire line and that guerrillas were poised to infiltrate into Indian territory. Secondly, the jihadi groups may be capable of elevating the Kashmir conflict to a higher level. The long-term goal of these militants is not merely the liberation of Kashmir from Indian rule; it is the liberation of (at a minimum) the Muslim populations of India, Pakistan, and other countries from secular rule, and the institutionalization of an Islamic government over as wide a territorial away as possible. (9) Finally, there are powerful forces demanding a trifurcation of the main regions of the state, Jammu, Kashmir and Ladakh, into separate administrative units. Posed as an imaginative solution, this demand, if conceded, could lead to violent social disruptions in the state, polarize the community, irretrievably destroy the state's cultural and social fabric, and unleash perilous consequences for communal relations in the rest of India. (10)

2.12 The new alignment in South Asia
The signing of the Science and Technology Agreement (STA) and the New Framework for US-Indian Defense Relationship (NFDR) has opened a new chapter in Indo-US relations. It is highly likely that these agreements will bring a lot of economic benefits to India. (11) But the new relationship between India and the US may spell fresh headaches for New Delhi. Apart from complicating Indo-Pakistani relationship, the close ties between India and the US may complicate India's ability to navigate the complex triangular passage of the relationship among New Delhi, Washington and Beijing. If Pakistan feels threatened by the new alignment, her response will put a cloud of uncertainty over the Indian sub-continent. Similarly, China may feel threatened by the new alignment and her response will introduce new complexities into Sino-Indian relations.
In the past, Sino-Indian relations were adversely affected by border conflict and the dispute over Tibet and Pakistan. Although some of these old problems have been swept under the carpet, India still regards China as a threat to her security. In recent years, India has expressed alarm over the rise of China. It is worth noting that India likes to use the perceived Chinese threat as a justification for her nuclear program. (12) Intelligence officials in New Delhi are also worried about an increasing Chinese presence in the Bay of Bengal and the Indian Ocean. (13) There are grounds to speculate that the new relationship between India and the US is related to their common desire to counter the rise of China in Asia. Furthermore, India and China are competing for foreign investment and raw materials. Oil companies in these two countries find themselves increasingly locked in a race to secure energy resources globally. (14) The uncertainties of the emerging South Asian power game, aggravated by traditional rivalries and economic competition, may increase the dangers of a regional arms race. Without a doubt, investors are afraid of a regional arms race.

2.2 Economic problems
2.21 Energy security
In terms of energy security, India is a vulnerable state. India's vulnerability is characterized by her heavy dependence on oil import. At present, India imports nearly 75% of its crude oil, much of which comes from the Middle East.(15) Besides, India's demand for oil will continue to rise in the next 20 years. Her energy consumption will rise to 27.1 quadrillion British thermal units (BTU) by 2025, up from 12.7 quadrillion BTUs in 2000 - the largest expected increase in energy use after China. (16) Another concern is the threat posed by some external factors. Rising oil price, political instability in the Middle East and Sino-Indian competition for oil have drawn the public eye closer to the problem of energy security in India. Since energy safety is now a security priority, India is eager to have a strong naval presence in the Indian Ocean to enhance energy security. But her navy may not be strong enough to maintain stability in the Middle East because terrorism is now spreading through the region. (17) Finally, Kent Calder warns us that 'energy shortages could well be a principal catalyst for arms race, nuclear proliferation, and other dangerous forms of regional instability across the region during the coming decade.' (18)

2.22 Other economic problems
India's large fiscal deficit is routinely cited as the biggest threat to its currently robust economy. (19) It is worth noting that the combined center-state debt-to-GDP ratio now stands close to 80%. (20) Two issues make us less than convinced that the huge fiscal deficit could easily be bought down to a comfortable level in the next few years. First of all, India needs to have a big government because caste, communal and ethno-regional diversities have exerted financial pressure on the central and state governments. Giving out central-government subsidies is one of the ways to maintain unity in this highly diversified country. Therefore, it is not easy to reduce these subsidies. (21) Besides, the 'soft' leaders of India may not be able to make rationally tough economic policies. As Sumit Ganguly and Neil Devotta have pointed out, crucial decisions regarding the allocation of resources are heavily influenced by political considerations, rather than by sound technical and developmental criteria. (22) Secondly, infrastructure development and rural industrialization will increase public expenditure. Many analysts have insisted, in the most forceful terms, that long-term growth will depend on the provision of adequate infrastructure to support expanding economic activity. (23) Like infrastructure projects, rural industrialization is too important to be ignored. Besides being an effective industrializing tool, rural industrialization is important for creating employment opportunities, raising rural incomes and strengthening agriculture-industry linkages. (24) Therefore, the Indian government should not apply the axe to public expenditure on infrastructure projects and rural industrialization.
Besides, India should not rely too heavily on the IT and service sector to promote economic growth. Although the IT sector has come under a positive spotlight from the international community, it is confronting a host of problems. For instance, Canada, Brazil and Mexico are competing with India in getting a slice of the world's outsourcing pie. Unlike China, India does not have a strong industrial base to provide a balanced platform for economic development. Whereas the share of industry in China's GDP rose from a high level of 42% in 1990 to 51% in 2000, it remained virtually stagnant in India.(25) The industrial sector just accounts for 30% of the Indian GDP. (26) Without a strong industrial base, India cannot provide adequate job opportunities for the rural masses. Inadequate job opportunities provided by the manufacturing sector have also weakened the power of the Indian government to develop the rural areas. It is worthy to note that about 35% of Indian families are still living below the poverty line (27) The number of rural poor was a staggering 254 million persons in 1993-94 or 28% of India's population. (28) Raising agriculture growth and rural industrialization could help reduce rural poverty in a self-sustaining way.
Finally, regional disparities will create more problems for the government. First of all, regional disparities will pose a threat to national unity and integrity. Secondly, the concentration of industrial clusters in the developed regions has prevented the central government from developing a big domestic market. Of the 138 industrial clusters identified in India, Andhra Pradesh, Assam, Bihar, Madhya Pradesh and Orissa together accounted for just 7 in all. (29) Obviously, low-income farmers in Uttar Pradesh and Bihar do not have the purchasing power to promote rapid consumption growth in their states.

2.3 Social problems
2.31 Pollution and population pressure
The Tirupur textiles cluster in Tamil Nadu is often hailed as a success story. Its success is set in sharp relief, but so is the extent of the environmental damage it has caused, the cost and consequences of which it has passed on, until quite recently, to the local population. According to Ashwani Saith, the Tirupur area has no provision for the collection, treatment or disposal of the sewage and other municipal effluents, and the usual practice is that these are deposited into water bodies or on the land mass. (30) Similar environmental problems can be found in other big industrial clusters. In response to these problems, many environmental groups are promoting public awareness of the environment and mobilizing initiatives for its protection. (31)
It is an unassailable fact that environmental degradation and population pressure are interrelated. The problem of population explosion in India is unique because the 'soft' leaders in New Delhi cannot implement any tough population control policies. Firstly, population control is problematic in a democratic and diversified country. Manmohan Singh will never forget the mistakes made by Sanjay Gandhi in the 1970's. Secondly, India does not have a sound social security system. Lacking a reliable pension scheme, 'children offer the best hope of financial security for the aged; thus many poor people view large families as a blessing rather than a curse.'(32)

2.32 Health and educational problems
Indian leaders can no longer escape the realization that pollution poses a serious threat to public health. A conservative estimate of India's annual losses from sickness and death caused by air and water pollution and the economic costs attributable to resource degradation exceed US$20 billion (World Bank, 1998). (33) Apart from pollution, communicable diseases are also threatening public health. To cite an example, India now has the world's second largest number of HIV-positive people. (34) The lack of medical facilities in laggard states such as Bihar and Uttar Pradesh has fuelled a multitude of controversies in India. The successful transformation of India into a medical-tourism destination has also highlighted the sarcastic difference between the availability of world-class medical facilities in Bangalore and other major cities and the lack of basic medical facilities in the laggard states. The sad reality is that many poor people in India do not have access to basic health care. As a result, India accounts for 20% of the world's pregnancy-and-childbirth-related deaths among women. (35)
Recently, there has been an eruption of concern over educational problems in India. Contrary to our expectations, India does not spend adequate resources on education. Education spending in total amounted to 3% of GDP in 1993. This was already far below the shares spent by East Asian countries, and in the following
two years India's education spending actually declined in after-inflation terms, sinking to less than 2% of GDP in 1995. (36) Because of the huge fiscal deficit, the prospects for a rapid expansion of public investment in education are bleak. With regard to higher education, 'the existing universities are hopelessly ill-equipped to educate even those lucky enough to get into them.'(37)

3. Conclusion
It is hard to dispute the fact that myth and unrealistic expectations often misplace truth in the Indian stock market. By concentrating on the major problems of India, this study may help bury some of the myths that have grown up about India's economy. In spite of these problems, India remains an attractive market for long-term investors. From a micro-perspective, the earning outlook for many of India's industry leaders, which have embraced the challenges of economic liberalization, remains robust. To conclude, the Indian stock market is both a landmine and a goldmine.

August 2005, Hong Kong

The End

Notes

(1) According to a report by Goldman Sachs, India's GDP could outstrip that of Japan by 2032 and rank third in 30 years. ABN-AMRO Asset Management believes that the Indian stock market is attractively valued for long-term investment.
(2) India has a young working force because over half of her population is below 25 years of age. ABN-AMRO Asset Management argues that the young population of India helps sustain demand for products and services. Besides, the Indian middle class, with household income of 200,000 rupees to one million rupees a year, is expected to grow to 153 million from 57 million by the end of the decade (South China Morning Post, 22/7/2005).
(3) In early 2004, India and Pakistan agreed on a road map for peace. Concerning the problem of terrorist attack in Kashmir, Pakistan pledged to end cross-border terrorism (Rathnam Indurthy, 'The turns and shifts in the US role in the Kashmir conflict since 1947: Today's propitious times for a facilitator to resolve it', in Asian Affairs, Vol. 32, No. 1, Spring 2005, p. 49).
(4) Sumit Ganguly and Neil DeVotta (eds.), Understanding contemporary India (Colorado: Lynne Rienner Publishers, Inc., 2003),p. 106.
(5) Sumit Ganguly (ed), The Kashmir question: retrospect and prospect (England: Frank Cass and Company Ltd., 2003), p.1.
(6) Ibid, p.10.
(7) Achin Vanaik, The painful transition: bourgeois democracy in India (London: Verso, 1990), p. 248.
(8) Sumit Ganguly, op.cit, p.303.
(9) Jonah Blank, 'Kashmir: all tactics, no strategy', in Sumit Ganguly, ibid, p. 195.
(10) Amitabh Mattoo, 'India's 'potential' endgame in Kashmir', in Sumit
Ganguly, ibid, p. 20.
(11) For instance, the STA is expected to enable knowledge transfer from
American companies and institutes that can trigger a revolution in agro-
processing in India (India Today, August, 2005). Besides, the close ties
between India and the US will stimulate the growth in Indo-US trade.
According to Robert Blackwill, the prospects for the rapid expansion of US-
Indian trade are bright (Robert Blackwill, 'The India Imperative', in The
National Interest, No. 80, Summer 2005, p.13).
(12) Henry Kissinger, Does America need a foreign policy? (New York:
Touchstone, 2002), p.158; Fidel Ramos, 'Frameworks for Asian cooperation,'
in Far Eastern Economic Review (FEER), May 2005, p.43.
(13) Pramit Mitra and Drew Thompson, 'China and India: rivals or partners?' in
FEER, April 2005, p.31.
(14) Pramit Mitra & Drew Thompson, ibid, p.32.
(15) Robert Blackwill, op.cit, p.13.
(16) Pramit Mitra & Drew Thompson, op.cit, p.32.
(17) Seymour Hersh, Chain of command (England: Penguin Group, 2004), p.323.
(18) Kent Calder, Asia's deadly triangle (London: Nicholas Brealey Publishing
Ltd., 1996), p.203.
(19) Vivek Moorthy, 'Don't panic over Delhi's deficit,' in FEER, June 2005, p.8.
(20) ibid, p.12.
(21) Jim Rohwer, Asia rising (Singapore: Butterworth-Heinemann Asia, 1995),
p.190.
(22) Sumit Ganguly and Neil DeVotta, op.cit, p.85.
(23) Visa International Asia-Pacific, Changing the way we pay: A report on the
development of the payment industry in the Asia-Pacific region, 2000, p.46;
Jim Rohwer argues that spending on things like roads and irrigation systems
is the best way to improve the productivity and market access of the poorest
farmers in India (Jim Rohwer, op.cit, p.191).
(24) Ashwani Saith, 'Small is big, but is it still beautiful? Small-scale industries:
An India-China dialogue,' in S. Storm and C.W.M. Naastepad (eds),
Globalization and economic development (Cheltenham: Edward Elgar
Publishing Ltd., 2001), p.370.
(25) Arvind Pannagariya, 'A passage to prosperity,' FEER, July/August 2005, p.
35.
(26) Jitendra Kohli (ed), The business guide to India (Singapore: Butterworth-
Heinemann Asia, 1996), p.24.
(27) Sumit Ganguly and Neil DeVotta, op.cit, p.132.
(28) Servaas Storm, 'Opening up India's agriculture: close versus strategic
integration,' in S. Storm and C.W.M. Naastepad, op.cit, p.303.
(29) Ashwani Saith, op.cit, p.376.
(30) Ibid, p.364.
(31) Sumit Ganguly and Neil DeVotta, op.cit, p.184.
(32) ibid, p.162.
(33) ibid, p.157.
(35) FEER, 6 November 2003, p. 53.
(36) Jim Rowher, op.cit, p.191.
(37) Arvind Panagariya, op.cit, p.38.