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HomeEditors Pick : Top StoriesWhy are some states rich and others poor?

Why are some states rich and others poor?

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Bihar legislative assembly

In 1983, soon after I returned from Harvard, I undertook a long journey through Bihar and eastern UP to understand what the situation there was and why? This was “The Children of the Ganga: An Enquiry into the Poverty of the Gangetic Plains”. The study examined the distance of Bihar and UP on most major parameters from the average and the best. On all indices, Bihar was way behind. That is pretty much the situation now, though the only index where it compares now with the best is in primary school enrollment.

But why was Bihar in this parlous condition was still the big question? How did the state, which the University of California Professor of Public Administration, Dr John Appleby, had determined as the best-administered state in 1952 turn into a bureaucratic and administrative nightmare?

The answer, it seemed, was not difficult to seek for those who believed that economic growth in India, then as it is now, is State-driven. The money the central government spent had a direct bearing on the economic outcomes of states and on the well being of their people. The evidence was very clear. Right from the First Plan, Bihar and UP, suffered from underinvestment by the Central Government. If there was per capita development expenditure for each plan, Bihar was always furthest from it.

When I computed the investment foregone, by getting so much less in every consecutive Plan, in 1984 Bihar was shortchanged by as much as Rs.27000 crores. That number is now as much as ten times more. For a start, the Plans have become bigger. Bihar is still last in terms of per capita development expenditure, and industrial and infrastructure investment. The highest-ranking states in terms of government investment get as much as six times more than Bihar in per capita terms.

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Bihar was then the second-largest state in India. It is in many ways the heart of India. It is certainly the cradle of Indian civilization, which evolved on the banks of the Ganges. And it is still very clear India cannot go forward leaving Bihar behind. But the question that still stays is whether Bihar would have done as well as the high fliers if the money were provided? This is what now requires study and I hope this institution will pioneer this.

In the years since I have done many more studies evaluating the performance of other states in India. Clearly, there are high performers and laggards. But why are some this and others that is an answer that still eludes me. We seem condemned by our ways of comparative analysis to see things in terms of inputs and outputs, without ever really wondering if there are other processes at work that makes different states within one country, within one constitutional system, within one economic system and sharing a long and common ethnocultural history which make a difference?

Now think of this, India is the third-largest economy in the world in PPP terms and it is predicted that by 2050 it will be a $30-55 trillion economy, depending on whose projections are music to your ears. 2050 is just 36 years from now and in a nations lifetime that is a mere blink. This is not daydreaming. In 1990-91 when PV Narasimha Rao initiated the first dismantling of the centrally planned state the GDP of India at the current US$ was a little over $200 billion. Twenty-three years later it is ten times that. Increasing twenty-fold in 36 years is really not a tall order.

India has grown at an average rate of over 7% since 2000. Between 2008-11, it grew by more than 9%. In consonance with global trends, India’s growth also has tapered off these past two years. Nevertheless overall the trends have never been like this before and there is optimism about the long term, despite recent troubles. It is a country where many states GDP is bigger than many countries.

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The size of Maharashtra’s economy would place it just about alongside Singapore and bigger than Hongkong or Nigeria. This overall performance however masks a diversity of performances. The HDI of Kerala is India’s highest 0.790, which would place it ahead of China, while the other end of the spectrum is Chhattisgarh with 0.358, which would place it just alongside Chad, one of the world’s poorest and most backward countries. At 0.790 Kerala would find a place in the high HDI list of nations.

While in 2011-12 India grew at 6.88%, large states like Uttar Pradesh (6.23%) and Andhra Pradesh (6.44%) grew at less than the national rate. States like Gujarat excelled with 20.79%, while India’s most prosperous state, Punjab, languished with 5.79%.

The incidence of poverty is always a contentious matter in India. While the government tries to downplay the numbers by having a somewhat self-serving index (now 22%), other measures such as the UNDP’s $1.25 a day suggest that almost 37.5% of Indians live in dire poverty. At $2 a day, as much as 70% of India is below an internationally determined basic standard of living index.

Others indices are just as damning. India’s abysmal track record at ensuring basic levels of nutrition is the greatest contributor to its poverty as measured by the new international Multi-dimensional Poverty Index (MPI). About 645 million people or 55% of India’s population is poor as measured by this composite indicator made up of ten markers of education, health and standard of living achievement levels.

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By this definition, 55% of India was poor, close to double India’s much-criticized official poverty figure. Almost 20% of Indians are deprived of 6 of the 10 indicators. But even more, a matter of concern is the growth of regional disparities. Eastern India has been languishing and has the densest concentration of poverty. While the northern and southern states have shown very good performances on this front. India’s west has its main industrial centres and naturally overall figures tend to be good here. But if the big cities are removed, here also we get a bit of a dismal picture. Clearly, the southern and northern states seem to be doing better. I will not get into more details.

The new data also shows that even in states generally perceived as prosperous such as Haryana, Gujarat and Karnataka, more than 40% of the population is poor by the new composite measure, while Kerala is the only state in which the poor constitute less than 20%. The MPI measures both the incidence of poverty and its intensity. A person is defined as poor if he or she is deprived of at least 3 of the 10 indicators.

One immediate problem is a feeling of deprivation to the benefit of others. The credit/deposit ratios only fuel this. The southern states have an average C/D ratio of 92.25. The northeast lags well behind with 34.42, while eastern India has 50.30. The big state of Bihar just has 28.61 in comparison Tamil Nadu has the highest with 112.65. Clearly, something is going on here. And there will be consequences.

At present India has about 310 million bank accounts. According to the Census data, of a total of 192 million households in the country, only 68 million households or about 35.5% avail of banking services. Of the 35 states and union territories covered, only eight reported that banking services were available to more than half its households.

There are some surprises here as well. Tamil Nadu, which has the highest credit/deposit ratio in the country, has a penetration ratio of just 22.8% while Bihar, which has the lowest credit/deposit ratio has a penetration of 21.3%. India’s wealthiest state, Delhi, has coverage lower than that of Himachal, Punjab, Haryana and UP. Relatively prosperous states like Maharashtra, Gujarat and Karnataka have a penetration rate of less than half.

This form of analysis gives us a set of measures that try to objectively lay a premise for performance. There are other evaluation systems. The most popular one is the index of Economic Freedom. But, what is Economic Freedom?

The notion of Economic Freedom traces its origins to a series of seminars between 1986-94 sponsored by the Fraser Institute of Canada and hosted by Milton and Rose Friedman. Milton Friedman is a Nobel Prize winner in economics and his brand of economics stands at the most rightward fringe of the spectrum. His policy preferences have been criticised by a galaxy of economists, including John Galbraith and Amartya Sen, as insensitive to people and sensitive only to profit.

Whatever it is, Economic Freedom is not an economics term that finds recognition in my copy of the MIT Dictionary of Economics. The Fraser Institute describes it: “Economic freedom is the extent to which one can pursue economic activity without interference from government. Economic freedom is built upon personal choice, voluntary exchange, the right to keep what you earn, and the security of your property rights.

”Simply stated, this means that good governments are those which let the rich do what they want, take all they want, keep all they want, and the people be damned. In short, the market will take care of everything. This is as dumb an ideology as that where the State is everything and takes care of all, better known as communism.

The annual Economic Freedom of the World Report, published by the Fraser Institute in conjunction with members of the Economic Freedom Network, ranks countries on their level of economic freedom. In the 2012 Annual Report released by the Fraser Institute the rankings had India at 111 along with Bangladesh, Nepal, Iran and Pakistan, and way below countries with few real freedoms like UAE (11), Kuwait (19), Oman (20), Jordan (23) and El Salvador (56).

Thus, it seems that while Economic Freedom is a composite index of individual liberty, limited government and free markets, the weight accorded to individual freedoms is at best marginal. On a scale of 10, even top-ranking Hong Kong got 8.9, while the US (18) got 7.6. Apparently, the standards demanded by the makers of Economic Freedom are much too high even for these holy centres of capitalism. Thus, while their index considers Saudi Arabia to be mostly free, it considers India to be mostly unfree, like China!

Thus, while their index considers Saudi Arabia to be mostly free, it considers India to be mostly unfree, like China! It is as if a policeman is to be judged by how crisp and clean his uniform is and not by his professional achievements.

In Why Nations Fail- The Origins of Power, Prosperity and Poverty Daron Acemoglu and James Robinson discuss why nations/states fail. The only continuing civilizational nation-states since the dawn of history are China and India. According to the economist Angus Maddison, from the year 0 to 1700, China and India were the world’s largest economies, each accounting for 20-25% of the world’s GDP. After their descent over the next 250 years to about 5% each of the WGDP in 1950, they are on the rise again. What would one say about the period of decline? Did the two nations fail? There is little dispute that the central authority in both countries weakened and even passed into the hands of foreigners.

Why Nations Fail is an eloquent, profusely researched and extremely scholarly analysis of these repeated failures. The book begins quite dramatically with the description of the entirely different situations of the two halves of the town of Nogales portioned by a fence to be parts of the United States and Mexico. The Nogales in Arizona thrives, while the Nogales in Sonora languishes. The climate is alike. The lay of the land is alike. The populations too are alike. Why?

The authors tell us why: “The answer to this lies in the way the two different societies formed during the early colonial period. An institutional divergence took place then, with the implications lasting into the present day.” In other words, the difference was because of how the USA and Mexico evolved differently with very different systems. One system evolved to milk the land for the colonial masters in Europe, while the other evolved due to the colonization by the settlers and for their benefit. Suggesting that if the USA did not free itself in 1783 it might have evolved differently. Like India, perhaps?

Speculations aside, the book tells us “that while economic institutions are critical for determining whether a country is poor or prosperous, it is politics and political institutions that determine what economic institutions a country has.” The authors forcefully argue that achieving prosperity depends on solving some basic political problems.

Some states are structured around “extractive political institutions” where the institutions serve to satisfy the aspirations of a narrow elite alone. Colonialism was clearly an extractive political system. But does India still have an extractive political system? Many an economist will argue that the data suggests just this. When we see the evolving politics through this prism we have an answer for the growth of family or clan dominated political parties on one side, and the notable expansion of the upper classes and the growing power of family-owned businesses.

Standing in sharp contrast to the nations dominated by extractive political institutions are the nations based on inclusive political and hence economic institutions. This is amply evidenced by why and what happened in England that made it the centre of the Industrial Revolution. The precursor to this was the Glorious Revolution of 1688 as a result of the overthrow of King James II of England by a union of English parliamentarians and the Dutch stadtholder, William II of Orange. James’s overthrow began modern English parliamentary democracy. The Bill of Rights of 1689 became one of the most important documents in Britain’s political history and ever since then the monarchy never held absolute political power. The consequent development of pluralistic political institutions opened new vistas of education and unleashed long-dormant creative powers stifled for long by a system that conferred monopolistic extractive powers to a small class.

The overthrow of King James II precipitated a directional change in Britain and it harvested the benefits for the next 250 years or so. Historical turning points such as this lead to far-reaching consequences. The death of Mao Zedong and the rebirth of Deng Xiao Peng from the living dead held in Shaunggui, a unique institution in China for the detention of senior Communist Party leaders in China would easily be another. One day history may become more charitable towards PV Narasimha Rao who heralded the dismantling of the centrally planned state and the industrial controls central to it with just a single plainly worded administrative order.

Clearly, there are a complex set of factors that influence growth and development. We are now sure that it is not just a question of inputs that determines outcomes. We also know that the nature of the state determines outcomes. An extractive regime cannot but be exclusivist.

But what we are yet not willing to put our finger on is that a set of cultural factors also seem to be at play. Take the case of East Germany in the old Soviet Bloc. If West Germany was the star of economic achievement in the western bloc, then East Germany was the undeniable star in the eastern bloc.

Certain cultures and groups seem to have a greater propensity towards material wealth. The Sikhs, Gujaratis and Marwaris in India, for instance, are more entrepreneurial and contribute far more to India’s overall economic wealth creation than others. Kerala has India’s highest HDI. It has near-universal literacy. It has the longest longevity and IMR indices. Yet Kerala doesn’t have much by way of industry, more specifically private industry.

But I would like to conclude with a question? In a global system having almost two hundred independent states at various states and stages of development, we can have a wide disparity, as each one of these economies represents a sovereign entity, bounded by a border. But in a system that is bound by its constitution, its history and its civilization as one, as is India, can we afford to risk too much diversity in economic well-being?

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Mohan Guruswamy
Mohan Guruswamy
Mohan Guruswamy, Chairman and Founder, Centre for Policy Alternatives and former advisor to the Finance Minister (1998), Government of India


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