Sluggish investment is holding India back

Strong headline growth, and the possibility of offsetting China as a location for global production, have raised expectations for India. It is the world’s fifth-largest economy, and potentially larger than Germany by 2025, so it would be reasonable to assume that businesses, foreign and domestic, are pouring in cash. New factories pumping out iPhones, wind turbines and batteries suggest they are.

But behind the headlines the reality is more subdued. Investment as a fraction of GDP, which exceeded 40% in 2008, is now 34%, says Barclays, a bank. The money is not going into factories, research and other parts of private business, but rather infrastructure, often with government involvement. According to one recent estimate, 36.5% of bank-sanctioned funding is for roads and bridges and another 20% for power. Chemicals, often an indicator for broader manufacturing, represent just 2.3%, down from 3.4% over the past decade. Foreign portfolio investment only recently turned positive after more than two years of outflows, and foreign direct investment fell by 16%, to $71bn, in the fiscal year to March 31st 2023.

The paucity of investment has come despite a strong recovery in the financial health of companies, which have reduced their leverage, and banks, which have written off bad loans and now produce better returns than their Western counterparts. There is room to borrow for growth, and demand as well. India, says Barclays, is at “a breakout moment”.

Perhaps. A jump in money spent on new projects earlier in 2023 suggested something similar, yet the numbers proved illusory, boosted by large one-time orders for aircraft by India’s two big airlines. New announcements have since crashed to a 20-year low, reflecting insufficient “animal spirits”, concludes Mahesh Vyas, managing director of the Centre for Monitoring Indian Economy.

There is much debate about potential reasons for the investment hesitancy. Narendra Modi, the prime minister, and his administration have been aggressive in pushing investment. Fourteen sectors receive direct production-linked incentives. Taxes have been cut overall. The new bridges and roads are intended to provide the crucial underpinnings for manufacturing to come. Because these efforts are still unfolding, it is still early days, the government says.

A counter-argument is that, even with improvements, the Indian business climate remains difficult. The touted tax changes have too many tiers and leave too much discretion in the hands of feared revenue agents. Tariffs are altered overnight. And the playing field is not seen to be level, with a few local giants perceived to have gamed the system.

Of the $120bn-worth of projects scheduled to be completed by the end of March 2023, only $72bn were finished. The largest completed in the quarter ending in September was a steel plant on which work began in 2003. All of which suggests that India’s breakout may still come—but for wary businesses, not yet. ■

Tom Easton, South Asia business and finance editor, The Economist, Mumbai