On economic integration with India
Updates over the fold: 5 July 1222 BDT
A few weeks ago, when its stocks went public, I quipped in facebook that the company’s valuation was about the same size as Bangladesh’s economy.* A friend commented something to the effect that Bangladeshi economy would be much larger if only it was integrated with India. Now, this friend of mine is a PhD student in a major western university, and has worked in positions that can affect policy and politics in Bangladesh. When people like him believe Bangladesh is missing out on some magic GDP by not being sufficiently integrated with India, one has to think seriously.
One doesn’t have to look very hard for the source of this belief. People like Farooq Sobhan of BEI or Mustafizur Rahman of CPD have claimed publicly in the past that economic integration with India would raise growth rate to 8% or more. Sobhan was actually quoted in the Economist thus. The thing is, I’ve never seen any economic modelling that shows exactly how growth rate would jump by ‘full economic integration’ with India.
In fact, I’ve never seen any proper, academic work that explains what the full economic integration actually means when it comes to India and Bangladesh. Of course, I don’t presume to know everything that has been written about the subject. I shall be much obliged if someone can point me to some literature on this. And as a card carrying (neo)liberal economist, I am fully signed up to the idea of free trade and factor mobility — so if economic integration means open borders, then I am all for it even if growth remains at 6-7% rather than 8%.
But I am quite sceptic about economic integration with India raising the growth rate.
Let’s go with the maximum definition of economic integration with India. Let’s assume that Bangladesh is an Indian state as far as the economy goes. That is, let’s keep keep Amar Shonar Bangla, and the cricket team, and the flag, and the shapla, and Islam-as-the-state-religion. But instead of taka, let’s have the Indian rupee, and let’s allow Indians to come and work in Bangladesh and Bangladeshis to work in India — that is, no border killing, and let’s have no customs at the borders. Bangladesh government can have some taxes, and can be in charge of development expenditures and service deliveries (that is, health, education, law and order), but most of the taxes and all of defence and foreign affair will be decided in New Delhi. Hasina Wajed or Khaleda Zia can have the title of Prime Minister, but at least as far as economic matters are concerned, let’s give them exactly the same set of powers that Mamata Banerjee has.
In this world, economic theory would suggest that all else equal, Bangladesh should grow faster than its recent pace of 6-7%. This is because Bangladesh being much poorer than the Indian average will catch up when fully integrated.
This is shown in the chart. In this chart, each dot represents an Indian state. The horizontal axis shows the per capita income in 2000, while the vertical axis shows growth rate per year in the period 2000-08 — the period of shining, rising India. If the convergence theory held during those boom years, we would expect to see a negative correlation in this chart — poorer states in 2000 would be expected to have a faster growth rate.
In fact, we see nothing of that kind. Instead, what we see is that during the 2000-08 period, Indian states diverged! That is, richer Indian states grew faster. States like Gujerat or Haryana were about twice as rich as states like Jharkhand or Uttar Pradesh in 2000. Over the next eight years, the former ones grew by 8-9% a year, the latter by around 5% or so.
Around 2000, Bangladesh’s per capita income was around 20,000 Indian rupee. Plug that into the scatter plot and we get growth of around 6-6.5% over the next eight years — about what happened in reality.
Okay, these numbers should be taken with caution. Indian state data is not of particularly good quality. But anyone familiar with the Indian economic story would know that the economic boom in India hasn’t been widely shared, that some parts of India have grown much faster than others, and the relatively poorer parts have fallen even further behind. Why this is so and what it means for policy is an area of lively debate among academics, activists, and policymakers — and is not relevant for the post.
Also, one could argue that the scatter plot should be augmented by factors such as resource endowment, human capital, governance and other factors. And I suspect once those measures are taken into account, Indian states will probably show ‘conditional convergence’.
The relevant point here, however, is that one needs to take into account these intra-state differences to get convergence within India. Just being a part of India didn’t mean a given Indian state benefitted as much from the boom of 2000-08 as other states did.
Why then would economic integration with India raise Bangladesh’s growth rate if, for example, we failed to get financing for bridges because of corruption?
By embellishing the benefits of economic integration with India, people like Faruq Sobhan actually do a great disservice. Not only do they harm the prospect of a friendly relationship with the neighbour, they detract from focussing on what really matters for growth.
*As DS pointed out there, my quip was conflating stocks and flows — but this isn’t relevant for the post.
**Data source: Groningen Growth and Development Centre for the per capita income in PPP US$; CEIC Asia for the convergence chart.
We can actually use the literature to approximate how much Bangladesh should grow by if convergence holds. The literature suggests that for every log point difference between two countries’ initial level of per capita GDP, per capita GDP in the poorer country should be greater than that of the richer country by the convergence coefficient, which is typically estimated to be about 2%. In 2010, India’s per capita GDP in PPP dollar was about 3,600, while Bangladesh’s was about 1,800. The log point difference between the two countries’ 2000 per capita GDP is thus about 2/3. Multiply that by the convergence factor of 2, and we get 1.5. That is, Bangladeshi per capita GDP should grow 1.5 percentage point faster than India, on average. If India’s per capita GDP grows by, say, 5% in the medium term, the Bangladesh’s should grow by 6.5%. Add 1% population growth, and the economy should grow by 7.5% a year.
Mr Sobhan’s exact quote:
Full economic integration with India could raise Bangladesh’s average rate of economic growth from 6% to 8%, estimates Farooq Sobhan, the president of the Bangladesh Enterprise Institute, a Dhaka think-tank. Now, says Mr Sobhan, for the first time, there is agreement that “unresolved problems should not stand in the way of things that can be done.”