Hamish McRae: India will have a larger economy than the UK in a decade. That is wonderful news

The shift of economic power will be seismic, beyond anything that has occurred in our lifetimes
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The Independent Online

It often takes an event to bring into focus a trend. The event was the takeover of what used to be seen as one of the commanding heights of the British economy, our steel industry, the old British Steel, now merged into Corus. It was finally taken over by an Indian conglomerate, the Tata group, which beat a Brazilian group to the draw.

The trend, which has of course been noted many times in these columns, is the shift of economic power towards the "new" economies of Asia and away from the old ones of Europe. And not just Asia, for while China and India have indeed attracted most attention, other developing or middle income countries such as Brazil will in all probability become relatively more important in the world.

Goldman Sachs, whose economics team coined the expression "BRICs" to bind together four of these key emerging economies (the three noted above plus Russia), has just rerun its computer model with some new data for India. This suggests that India may pass the United States economy is size in the middle 2040s, which since China is expected to pass it in the 2030s, will mean that by 2050 the US will be only the third largest economy in the world, not the second.

If that proves right, it will be of huge significance: a shift of power of seismic proportions, something far beyond anything that has occurred in any of our lifetimes. I think most of us are aware that globalisation is not just about the rise of China, but the notion that the US will be passed not just by China but also by India is new. How will Americans feel when they are no longer the dominant force in the world economy?

An historical perspective: the best long view of the world economy comes from work by Angus Maddison, who has been doing analysis of very long-term trends for the OECD. The graph shown here comes from that and shows the relative shares of the world economy over the past 2,000 years.

Now you may feel what happened in the year of the birth of Christ is not directly relevant to the Tata purchase of Corus and you would have half a point. The other half point, however, is that on this long view the dominance of Europe and subsequently North America is actually quite recent. For three-quarters of the past two millennia it was China and India that dominated world economic activity, as you can see from the first graph. India gradually lost ground until around 1700 and Europe slowly gained ground from about 1000 onwards but things really changed with the Industrial Revolution, which enabled the much smaller countries of Europe (both physically and in population terms) to leap ahead. The US then leaped further ahead so that its output now more or less equals that of Europe despite its smaller population.

But over the past few years first China and then India have been gaining market share. China has just passed the UK to become the world's fourth largest economy and seems set to pass Germany to become the third next year or the year after. Now, with the new projections, India seems likely to pass Italy around 2012, France 2015 and the UK 2016. (See other chart.)

A caveat: the precise years are not important, as one should not regard these projections too precisely. GDP figures are distorted by different methods of calculation (eg should you include the informal economy that operates outside the tax system?) and by changes in exchange rates (eg should China be higher because of an artificially low rate for the yuan?). The chart is a rough idea of what might happen if the projections prove right, not a precise one. It also assumes that the present growth spurt of India will be sustained, that is to say that the recent improvement in Indian growth is not just a blip but has solid foundations in increased productivity.

Even with these caveats, the idea that India will have a larger economy than Britain within a decade is stunning. It changes the whole power relationship between the two nations. How will we react to that?

Well, I happen to think it is wonderful. Quite by chance, I was at a City lunch yesterday where a prominent Indian industrialist operating here praised the openness of our society to Indian entrepreneurs, saying that in his experience at a personal level we were more welcoming even than the US. That is good. I would imagine a truly balanced relationship between India and the UK would be greatly to the advantage of both sides. We are pretty close to that balance now.

A separate but related point is that Britain is educating more young Chinese people now than even the US, which should help bolt down the already pretty harmonious relationship that exists between China and the UK too. We do not, as yet, educate as many young Indians as does the US, but that is something our universities are at least aware of and are starting to tackle.

But even those of us who welcome these more balanced relationships have to acknowledge that they are balanced at a macroeconomic level rather than a microeconomic one.

Thus UK companies cannot buy Indian or Chinese ones with the same ease that all foreign companies can buy British. There are a host of different reasons for this asymmetry and there are big differences in the barriers to entry into India from those into China. It is also true that we are in practice much more open than other European countries or indeed the US. And it is true that when we as a country sell a company to foreign interests we get the money, which we can then reinvest either in the UK or abroad.

Viewed from a macroeconomic perspective, we gain. We earn more from our foreign investments than we pay out in dividends and interest to foreigners who invest in the UK. Indeed, we have an enormous surplus on investment account, without which our balance of payments would be in even more serious trouble than it is already.

But there has to be some concern at a microeconomic level. I'm sure Tata will be good stewards of their investment. They have certainly paid a good price. I hear that UK-based investors that might have tried to top the Tata bid have been shaking their heads at the amount paid. Nevertheless, at some stage there will be resistance. I had a letter yesterday asking me to explain: "What is the point of attracting inward investment when the result is the export of profits and control?" It is hard not to acknowledge the point behind the question.

I suppose the big issues here are whether and at what speed the rest of the world opens its doors to international investment, and whether investment control, as exercised by portfolio managers in London, is as important as management control, as exercised by, for example, Tata.

Those are subjects to be revisited at some later date. Meanwhile, it will be intriguing to see what Tata's skills bring to Corus. Can they run it better? Let's hope so, for if those projections about the advance of the Indian economy are right, we will hear a lot more from India's vigorous entrepreneurs and financiers in the coming decades.

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