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CHINA'S ECONOMY
Feb 27th 2006  

George Bush travels to India this week on a state visit, amid hopes
that the trip will mark the long-awaited flowering of a beautiful
friendship between America and the giant of South Asia. That is
unlikely, at least in the short term

"WE WHO are free--and who prize our freedom above all other gifts of
God and nature--must know each other better; trust each other more;
support each other." Dwight Eisenhower uttered this pious hope in Delhi
in 1959 and, ever since, an American president has popped back once in
a while to utter it again. George Bush, who is expected at the
beginning of March, will be the fifth to pay a state visit. Leaders of
both the world's most powerful democracy and of its most populous one
have long found it baffling and irksome that they are not firmer
friends. Mr Bush has a better chance than any of his predecessors of
putting that right.

Some reasons for optimism are long-standing, but seem to grow stronger
over time. India is the second-most-populous nation on earth, and will
eventually overtake China to take the top spot. Its booming economy has
enhanced its commercial attraction, and the Confederation of Indian
Industry's publicity campaign at this year's World Economic Forum in
Davos has achieved the aim implicit in its slogan: "India everywhere".

It is, moreover, a friendly democracy sitting between the two places
American strategists worry about most: China and the Middle East.
"We're natural allies," says an American official, "We should have been
closer much earlier." The feeling, by and large, is reciprocated in
India, if not among the chattering classes; Arundhati Roy, a novelist,
argues that to seek an alliance with America "would be like inviting a
brick to drop through your windshield". But a poll of 15 countries last
year by the Pew Research Centre found that 71% of Indians had a
favourable view of America, the highest proportion of all. 

Two other reasons to cuddle up to India have come into focus because of
the preoccupations of Mr Bush's presidency. India has more Muslims
(150m or so) than any country other than Indonesia, yet, as Mr Bush
likes to point out, no known members of al-Qaeda. Second, India's
growing economy has a desperate hunger for energy and, because of its
reliance on dirty coal, risks becoming, in the words of Jacques Chirac,
France's president, who was in India this week, "a chimney for
greenhouse gases". Helping India fuel itself more cleanly is a global
imperative.

 India's "non-alignment" in the cold war--when it tilted towards
Moscow--combined with its pursuit of economic self-sufficiency and
third-world solidarity, kept the two "natural allies" apart for
decades. Two relatively recent developments, however, have boosted
hopes for a close strategic partnership. First, India and Pakistan are
two years into a formal peace process. This makes America's alliance
with Pakistan less of a hindrance to its relations with India, though
India continues to believe Pakistan sponsors "cross-border terrorism"
in India, and America's friendship with it remains a bugbear.

THE NUCLEAR KNOT
Second, the Bush administration has shown itself willing to find ways
round the biggest legal and political obstacle to full-fledged
partnership: India's emergence in 1998, never having accepted the
global non-proliferation regime, as a declared nuclear power. A
"breakthrough" on this issue marked the visit by Manmohan Singh,
India's prime minister, to Washington last July, and was to have
provided the icing on the wedding cake when Mr Bush reciprocated the
visit. It may yet do so. But it has also shown both the gulf between
the two sides' perceptions of each other, and the political difficulty
within both countries of whole-hearted strategic co-operation.

Last July, Mr Bush agreed to grant India "full civil nuclear-energy
co-operation" and to help it acquire "the same benefits and advantages"
as other states with nuclear weapons. This meant persuading Congress to
amend laws blocking such co-operation, and prodding other countries in
the Nuclear Suppliers Group to follow America's lead. The deal has
provoked a considerable backlash from critics at home and abroad.
India, meanwhile, had to do its bit. Most important, it had to draw up
a plan for separating its military nuclear facilities from the civilian
ones, and subject the latter to international scrutiny.

This has proved highly contentious. Many Indian strategists--and some
leading members of the nuclear establishment itself--fear it is a way
to force India to accept a cap on the size of its nuclear arsenal. If
all India's power-generating reactors were put in the "civilian" box,
then they would be barred from providing fuel to the weapons programme.
This would inhibit its expansion should there be a sharp worsening in
relations with its nuclear-armed neighbours, Pakistan and China. Others
argue that India probably already has enough plutonium to build as many
bombs as it is ever likely to need. International co-operation, argue
proponents of the American deal, is essential if nuclear-power
generation, which currently produces about 3% of India's electricity,
is to make a bigger contribution to India's energy needs in the next
two decades. 

America did not find India's first separation blueprint "credible".
Nicholas Burns, an under-secretary of state, who has been negotiating
with India, was expected back in Delhi this week to secure a more
plausible one. 

His efforts to reach agreement in Delhi and in Congress have been
complicated because the debate has become entangled with another issue:
Iran's nuclear programme. The Communist parties, on whose votes Mr
Singh's Congress party-led coalition relies for a parliamentary
majority, took great exception to India's voting at the International
Atomic Energy Agency (IAEA) in favour of reporting Iran to the United
Nations Security Council. The left's objections to the Iran vote are
partly a matter of crude politics. Elections are due in the coming
months in West Bengal and Kerala, two Indian states with large numbers
of Muslim voters. But the left is also relying on the broader appeal of
anti-American rhetoric.

Mr Singh has insisted that India voted in its own national interest.
But in a news-agency interview last month, David Mulford, the American
ambassador, pointed out that if India were to vote against the
referral, it would mean the end of the India-America nuclear deal. This
was no more than a statement of fact. America's Congress would surely
not agree to rewrite the non-proliferation regime for one exceptional
country, were that country, India, to line up on the opposing side in
the most important nuclear-proliferation argument of the moment. Mr
Mulford's remarks, however, were taken as a threat, and raised
nationalist hackles. 

Some former diplomats worry that India is paying too high a price for
the new partnership. They point to a cabinet shuffle last month, when
the petroleum portfolio was taken away from Mani Shankar Aiyar. Mr
Aiyar had been aggressively pursuing India's "energy security", which
involved dealings with states America would prefer India to shun.
Besides buying, in partnership with China, an oilfield in Syria, India
has been discussing a pipeline to bring gas from Iran through some
dangerous bits of Pakistan. Proponents of this project see it as an
enormous boon to regional security, as well as to India's energy needs.
America, however, opposes such a huge deal with Iran. Inevitably, there
are suspicions that Mr Aiyar was a sacrifice on the altar of
Indo-American partnership. 

Misgivings about perceived American meddling run deep. M.J. Akbar,
editor of the ASIAN AGE, a newspaper, has noted that "The Indian street
has been nourished by the view that America is a democracy at home and
a dictatorship abroad...Indians do not make good stenographers. They
simply do not like taking dictation."

THE CHINA SYNDROME
Whatever the short-term outcome of the nuclear talks, they are unlikely
to resolve the controversy in both countries. But nor will Mr Bush and
Mr Singh abandon their pursuit of closer partnership. On the American
side, one motive for this is usually couched in the most delicate
diplomat-speak. The American government neither wishes to "contain"
China, nor imagines that it can (though many congressmen would like to
try). But America does have an interest in "preventing Asia from being
dominated by any single power that has the capacity to crowd out
others", and that may threaten America's alliances in Asia. So Ashley
Tellis, then a scholar at the Carnegie Endowment for International
Peace (and now on secondment to the State Department), told Congress in
November. Others put it more bluntly. "Of course we should sell
advanced weaponry to India," argues Robert Blackwill, Mr Mulford's
acerbic predecessor as ambassador to India. "The million-man Indian
army actually fights, unlike the post-modern militaries of many of our
European allies." America should help India with its space programme
without worrying too much whether that will help India build missiles.
"Why should the United States want to check India's missile capability
in ways that could lead to China's permanent nuclear dominance over
democratic India?" he wrote last year in the NATIONAL INTEREST, a
foreign-affairs journal. 

India certainly has no intention of joining an anti-China axis. Nor,
for now, does it have to choose between two big suitors. China, which
at first voiced reservations about the Indian nuclear deal with
America, is now shrewdly acquiescent. Perhaps it hopes that American
congressmen and Indian Communists will kill it anyway. Or perhaps it
does not want to jeopardise its own fast-improving relations with India.

American businesses are not as excited by India as they are by China,
for the obvious reasons that China's economy is two-and-a-half times
bigger, is growing faster and is more integrated with the rest of the
world. In each of the past four years, the annual increase in China's
foreign trade has exceeded India's total merchandise trade. Last year
China received about ten times as much foreign direct investment as
India did.

Yet American business is well aware of India, in large measure thanks
to India's expertise in software development and other sorts of
"outsourced" services. Despite the protectionist hoo-hah ahead of the
American presidential election in 2004, outsourcing to India has not
slowed at all. More than half the FORTUNE 500 companies outsource some
of their information-technology work to India, and the rest have to
explain to shareholders why they are not doing so. 

This is not simply a matter of cost arbitrage. Azim Premji, chairman of
Wipro, one of India's big information-technology firms, says that in
India the very best young talent is moving into the
profession--membership of which is even good for marriage prospects.
America, by contrast, is not producing software engineers in the
numbers it needs. 

According to Promod Haque of Norwest Venture, a venture-capital firm,
it is also suffering a "reverse brain-drain" as Indian and Chinese
engineers go home. This, he argues, coupled with the retirement of the
baby-boomers, is creating a "shortage of intellectual capital" in
America which will eventually threaten its superpower status. The
solution is to build a "strategic competitive advantage" through an
alliance with an offshore base of intellectual capital. India is the
obvious choice. Its pool of highly qualified graduates will be twice as
large as China's by 2008, according to the McKinsey Global Institute,
and they speak English. 

Such a de facto alliance is already in the making, and is helping alert
American business to India's other attractions: an economy expected to
grow by more than 7% in 2006, for the fourth year running; a
fast-expanding middle-class; and a government committed to
liberalisation, even if implementing it is painfully slow. In the past
year, India has allowed foreign firms to enter the construction and
property industries, signed an "open skies" agreement with America and
passed a patent law that meets WTO standards. As India continues to
open up new industries to foreign investment, the opportunities for
American firms are proliferating, says Ron Somers, head of the US-India
Business Council. Two-way trade last year was only some $20 billion,
but the nuclear deal itself may offer a bonanza for American suppliers
of equipment. India is also by some estimates the world's biggest arms
importer.

American businesses have their gripes about India. They would like it
to simplify its spaghetti-spill of bureaucracy, open up its markets
faster and fix its rotten infrastructure. American insurers would like
to be allowed to buy more than 26% of one of their Indian counterparts,
for example. "Single-brand" retailers (eg, shops selling only Nike
goods) are glad to have been allowed this year to open stores in India;
general retailers such as Wal-Mart would like to be allowed in next. 

None of these moans, however, approaches the intensity of the
Japan-bashing of the 1980s or the China-bashing of today. India is seen
as less of a threat, being neither rich, like Japan, nor an aggressive
autocracy as China is. American union bosses complain far less about
India than they do about China. 

THE PROMISED LAND
India loves being in the international spotlight. Hotels are full,
airports packed and the foreign ministry deluged with foreign
dignitaries. Recent figures, which show the economy growing at more
than 8% a year, have propelled the stockmarket into uncharted
territory, with its main index up by 50% in a year. There is an air of
euphoric expectation that at last India is reclaiming its rightful
place both in the world economy and in the global balance of power.

Not everyone is basking in this glow. Andy Xie of Morgan Stanley, an
investment bank, frets that "India is experiencing typical overheating
symptoms of an emerging-market boom: widening current-account deficit,
high and accelerating inflation rate, and rampant stock-and
property-market speculation. India's macro environment is quite similar
to Latin America in 1980s and South-East Asia in 1990s." India's low
external indebtedness, managed exchange rate and large foreign-exchange
reserves should insulate it from a financial-market shock. But Mr Xie
is not alone in worrying about the dependence on inflows of portfolio
investment to finance a current-account deficit.

Besides those giving warning of the short-term risk of a financial
crisis, some observers also cast doubt on the staying-power of the
present spurt of growth. In a new book, Shankar Acharya, a former chief
economic adviser to the government, argues that over the next five
years economic growth is more likely to average 5.5-6% a year than the
8-10% optimists now see as India's birthright.

That is still, by most standards, a boom. But the distribution of
growth also risks sharpening regional and social differences. For Ms
Roy, India is a land where gangs of emaciated labourers dig trenches to
lay fibre-optic cables by candlelight. India's "progress" of the past
decade and a half, she reckons, is like two convoys of trucks: a tiny
one "on its way to a glittering destination somewhere near the top of
the world" and a huge one that "just melts into the darkness and
disappears."

Of course, when celebrated novelists worry that a country is melting
into the darkness, its prospects are probably bright. But Ms Roy
touches on a concern shared by many economists: that, for all its
phenomenal success in IT and some high-end manufacturing industries,
India's boom has yet to reach many of the two-thirds of its people who
live in the countryside. A particular concern is the failure of
labour-intensive manufacturing to take off. According to a recent IMF
paper, the proportion of the workforce employed in manufacturing
actually fell slightly in the 1990s.

STABILITY, DEMOCRACY, DEMOGRAPHY
Nevertheless, in the long term, India has two great attractions. One is
stability. India has proven mechanisms for the peaceful transfer of
power and the ability to withstand terrible internal conflicts--in
Kashmir and the north-east, for example--without danger to its
integrity. China's eventual transition to democracy could be traumatic.
Another attraction is demography. China's one-child policy ensures that
it will grow old before it gets rich: a generation of only children may
suddenly find themselves struggling to support the parents who once
pampered them. India will remain younger and more dynamic well into the
middle of the 21st century.

For many reasons, a close partnership between India and America seems
both desirable and inevitable. The fraught negotiation over the nuclear
issue, however, has revealed how difficult it will be to achieve. To
America, and to many Indians, it must seem inconceivable that
India--still so poor, and so desperately in need of just the sort of
help America is offering--should not jump at the chance of a special
relationship. How on earth, for example, could the idea of siding with
Iran instead be seriously debated? But for many in India,
"non-alignment" is a synonym for independence, and should not be
sacrificed, however enticing the prize. Moreover, so confident is
India's mood at the moment, that many seriously believe America needs
it more than the other way round. Tomorrow belongs to Asia.

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