By 2013-15, India will outpace China’s growth, predicts Morgan Stanley, basing its arguments on the same old demographic facts.

A Morgan Stanley (MS) report dated 13th August makes a bold statement: By 2013-15, India will start outpacing China’s gross domestic product (GDP) growth. Author Chetan Ahya (India & South East Asia economist at Morgan Stanley) is undoubtedly on the road meeting institutional clients and talking about the bullish stance of Morgan Stanley. Mr Ahya has been conservative about India’s prospects since 2004, highlighting the country’s fiscal deficit and current account deficit. So, it is interesting to see what arguments Morgan Stanley comes up with. Here is a gist of what the report says. This is the third in the series of reports titled "India and China: New Tigers of Asia", the first of which came out in 2004.

The key prediction that the report makes is that India’s growth will accelerate to a sustainable 9%-10% by 2013-15, after an average of 7.3% over the past 10 years. So, over the next 10 years, MS expects India’s growth to outpace China’s. Its chief economist for China, Qing Wang, believes that China’s growth will move towards a more sustainable rate of 8% by 2015, following the remarkable 10% average over the past 30 years. If these predictions come true, implications for asset allocation are huge.

MS says that India's current growth happened because of three key reasons — the ratio of its dependent population size to the working-age population size declined to 57% in 2009 from almost 69% in 1995. This was because the proportion of both elderly people and children to the working age population decreased. This led to higher savings and consequently investment. The second reason, MS believes, was reform, and the third, globalisation - "India’s savings to GDP has risen to 33%-36% from 24%-25%. Similarly, investment to GDP has risen to 35%-38% from 24%-25% and GDP growth has accelerated to a trailing five-year average of 8.5% in 2009 from 5.9% in 2000."

China, says the report, has reached an inflection point and the size of its dependent population will actually start rising from 2015. While India will see a further rise in investments to GDP, particularly in infrastructure, China will see a gradual rise in consumption to GDP — as it tries to reduce its dependence on exports.

The report says real GDP growth in China has averaged 10% annually over the past 30 years, compared with 6.2% in India. During this period, China’s GDP grew 16 times to $5 trillion whereas India’s rose seven times to $1.2 trillion.  China’s exports (including services) surged 65 times over this period to $1,330 billion while India’s exports increased 22 times to $250 billion. The reason China outpaced India was faster structural reforms and faster participation in globalisation.

Going by the MS report's assumptions, India will make great strides in education over the next decade or so. The report points out United Nations (UN) data, which shows that by 2020 India, will contribute an additional 136 million people to the global labor pool versus 23 million from China and 11 million from the US while Japan and Europe’s working populations are estimated to decline by 8 million and 21 million. However, since demographics alone is not enough, this workforce will have to be educated and skilled — leading to possibly great opportunities in education.

MS expects the pace of reforms to pick up over the next 12-24 months in seven ways — further measures to reduce subsidy burden, the goods and services tax (GST), direct tax reforms, meaningful divestment, cutting fiscal deficit, accelerating infrastructure spending — particularly for roads and power, and foreign direct investment (FDI) in retail marketing and distribution.

For these predictions to come true three things need to happen — the government needs to ensure that it delivers on execution of infrastructure development; for a structural rise in domestic savings and investments, reduction of the government’s revenue deficit would be critical; and labour law reforms would need to be prioritized.

The report is strangely not very articulate on agricultural reforms and the need to empower the farmer as a consumer. According to statistics available in the report, China's agricultural growth in the 1980s was at a peak of 5% plus, which has now settled at 4%. However, India's growth, which also peaked in the 80's at 4.6%, has actually come off to 2.7% in the 2000s. Incidentally, agriculture still has a 20% share in India's GDP against 10% for China.

The report does say that building a modern retail distribution system that could lead to a significant transformation in India’s SME manufacturing and farming segments. "This, coupled with rising infrastructure investments, could provide India with the opportunity to participate in the global export market for low-ticket manufactured goods." Could 'made in India' become the new 'made in China'?

The report throws up some very interesting facts. For e.g., it says that Indians are spending less on primary goods and more on organised sector products — "An average Indian spends about 62% on products other than food, beverages, and tobacco, compared with the average in China of 75%." However, India's share of food and beverages in its overall consumption is still high at 38% vs. 25% for China. Transportation, surprisingly, is also very high at 18% vs. 11% for China. The Chinese spend twice as much on leisure, education, clothing and footwear, health, and hotels as much as we do. Huge divergence in spending levels between China and India (where India is much lower of course) are also visible in shampoos, oral care, carbonated drinks, bottled water, skincare, and cars.