Tuesday, April 28, 2009

Why India lacks capital despite abundant human capital?

Capital is surplus money or wealth that is available for investment. Countries like India lacks capital and hence needed to import capital in the form of foreign investments. For decades India resisted foreign capital, for political reasons, and suffered through slow growth, unemployment etc. The underlying idea behind that policy, or at least the national explanation given on public policy on such matters, was self reliance; in terms of production, employment, capital etc. The history of colonialism provided a platform for staging this idea and running the society based on that idea. Of course, quite obviously that did not work.
A decade and half of liberalization and foreign investments have boosted many sectors and made its mark. A lot many things worked in India and now there is more than good enough reason to question the failed old chimerical vision of India’s “lost decades.” However there still remains a valid question. Why don’t we have the capital? If India has the Human resources, why can’t we create everything else? In India, other factors of production do not seem to be the bottleneck. No one shied away from building an industrial firm because he cannot find the land. Though every resource is limited, one cannot see a particular factor fundamentally limiting the growth. Labor, entrepreneurial culture, education, institutions all exist but not enough capital. Therefore we imported capital and the economy took off in a path of growth.
Why don’t we have the capital? And why the western nations have capital? Capital is surplus money or savings. One cannot say that Indian people do not save. They do, they are thrifty and careful with their money. Still why there is no capital? The simple answer to the question is that India is not a capitalist society. The western nations are. They are wealthy, India is not. If America needs to build an 18 lane freeway, they can, for they have capital. India cannot even create basic infrastructure, for we do not have capital.
The problem with this type of analysis is, apart from the fact that it is nothing but stating the social situation with the common terminology, that it ignores the process of wealth creation as a human endeavor. All that is needed is the energy and the industry of the people. Why can’t India put people into building roads? If building roads need concrete or other material, why not put people into making that? Obviously it is not that simple. It did not work that way. So what do we need to do to do to make that happen? 
The current economic crisis of the world gives several pointers to this vexed problem. When the crisis began in the last few months of 2008 in America, the unemployment was not very high. There was no shortage of anything. If the gasoline prices were high, they quickly fell. There was no huge inflation or deflation to speak off. The interest rates were very low. The crisis began when people noticed that the commercial paper market (short term business lending) was dwindling down. The primary problem was that no one was lending. There seemed to be an imminent systemic meltdown. The capital have dried up.

Capital is surplus money. It is the money that people save for future. It is the money that someone does not need at that point and hence can lend. It is the money in the mutual funds and in the pension funds. It is the money of the investor. It is the money of the teachers, accountants, professionals and it is the money of the wealthy and of not so wealthy. For the money to become capital it needs to be collected by various firms such as funds, banks etc from its owners into mutually beneficial schemes. The investors expect returns and can tolerate a reasonable risk. This is a system of trust supported by a just society and government through various means including legal protections and institutions that work. Through laws that work and institutions that uphold it. Should that trust break, capital disappear.
For America the problem is that the system of trust is breaking down for a variety of reasons that include mishaps in economic oversight, greed of the industry, spending habits of people etc. Some reasons are benign, not all bad. In India that system of trust, be it sensible laws that work, legal protections, enforcement of laws without government corruption and institutions etc, was never created. Its creation is, evidently the answer to the vexed capital problem.

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