The manufacturing component of India's GDP grew by 10.4 per cent in the third quarter (October-December 2004) of 2004-05. This was incidentally the first time that manufacturing saw double-digit growth since the government started reporting quarterly GDP statistics in 1997-98.
Coming to think of it, it is a little hard to explain why the growth momentum has not only sustained over the last few quarters but has actually accelerated.
One would have expected some deceleration -- purely cyclical sectors like commercial vehicles should be cooling off after a prolonged boom, growth in housing construction should be lower because of the base effect and sheer consumption fatigue should push growth rates down in categories like passenger vehicles that have driven growth over the last two years. All this should have added up to slower, not faster, growth.
My take on this apparent anomaly is that sustained export growth has been the key factor in keeping the business cycle ticking. Here are some back-of-the-envelope calculations that I made to support my case.
The share of exports (the ratio of increase in exports to increase in GDP) in the current boom, which started towards the end of 2002, was roughly 28 per cent.
The comparable number for the last upswing in the mid-nineties business cycle was just 11 per cent. All quarters since 2003 have seen average export growth of at least 15 per cent. In a number of quarters, growth rates were significantly higher.
Thus, in our own gradual, laid-back sort of way, we seem to be moving closer to the export-led growth model that our East and North Asian neighbours have exploited so well.
The share of exports in our GDP, at about 11 per cent, is way lower than, say, Thailand's 40 per cent or China's 23 per cent but there seems to be a marked shift in the model and pattern of growth. Over time, the share of exports is likely to grow further.
There are a couple of things about this export boom that deserve attention. For one, this has come at a time when our exchange rate has been appreciating not just against the US dollar but against a basket of major global currencies.
The real effective exchange rate (that makes appropriate adjustments for relative inflation rates) against a trade-weighted basket of five currencies went up by about 6.7 per cent between January 2003 and January 2005.
In short, the average effective price of our products in the global market climbed up by about 7 per cent. Exports, however, continued to grow.
Demand for "commodities" like agricultural products or basic metals usually depends almost entirely on the price that's on offer. There are no significant differences in the quality or other attributes of these goods -- the exporter who offers the lowest price in the global market-place gets the custom.
The fact that our exports have grown despite dwindling price advantage suggests that we are exporting things whose demand does not depend on short-term price factors alone.
For those who like jargon, Indian exports seem to have become "de-commoditised" to a significant extent.
What does this de-commoditisation mean in more concrete terms? It means that we are exporting products where our manufacturers add "value" in terms of things like design capability or engineering skills.
This creates a niche for these products in international markets and makes exports relatively immune to short-run exchange rate variations.
A clear example of this would be that of engineering goods. It is heartening to see that these constitute the single-biggest category (about 19 per cent) in India's export portfolio in 2003-04 and in the first seven months of 2004-05.
The rise in engineering goods exports has been driven by a change in product mix. The share of traditional low-end machine tools (almost like commodities) has dwindled, making way for higher-end industrial equipment, components, and automobiles.
Pharmaceuticals are another category where Indian manufacturers have successfully combined engineering expertise and aggressive marketing in international markets.
The case of automobiles and auto-components deserves special attention. Not only is the quantum of exports high but it also represents the nascent trend of transnational companies producing in India to sell to third markets (export-platforming).
Hyundai, for instance, is apparently producing cars in India to sell in its home market (as a related story, see "India to contribute 80% of Hyundai's global sales." If India is to figure, as it aspires, in the global big league, the "export-platform" has to be extended to other sectors as well.
What is important about both these categories and similar ones is that they are in the middle of what I would call a "penetration" phase, i.e. Indian exporters are not just riding the growth cycle for these products in buyer economies but are steadily gaining market share.
Thus, even if the business cycles in the buyer economies were to turn down, the market share gains would insulate Indian exporters to a degree.
The other, perhaps more important, development has been the rise of "regionalism" in our trade patterns. We are selling much more to our Asian neighbours now than we did in the past.
In the first seven months of 2004-05, 30 per cent of our exports went to other Asian markets (excluding the Middle East). China alone absorbed 5 per cent of our exports.
Thus, the rest of Asia was our biggest trading partner in this period. Empirical trade researchers have, for long, pointed out that sheer physical proximity rather than more abstruse things like comparative advantage is the key driver of trade between countries. India's export patterns seem to be finally reflecting this.
I see two specific benefits of enhancing trade with Asia. There is reason to believe that the income growth (and hence demand for imports) of Asian economies is likely to be far less volatile than Western markets.
So trade diversification towards Asia is likely to make export growth more stable. Besides, regional trade arrangements have proliferated across the world (at the last count there were about 250) and these effectively restrict our access to these markets.
Thus, there is really no alternative to aligning ourselves with our neighbours, both informally and formally, through regional trade agreements.
India has signed a regional trading arrangement with Thailand and is negotiating one with Singapore and ASEAN.
My feeling is that India's approach to regional trading agreements has been somewhat piece-meal -- we need to get a little more aggressive. This is for reasons other than just enhancing our exports.
Given the polarisation within the WTO on issues such as non-tariff barriers, India might find it useful to push the case for a comprehensive pan-Asian trading agreement that includes China and South Korea.
The idea would be to present an alternative template to the US and the EU, one that serves Asia's interests. A good structure would be one that focuses on only trade-related issues and keeps "non-trade" issues out of the picture.
Over the longer term, an export-oriented growth strategy will help align our resource mix with our production structure. This would help undo one of the critical imbalances that currently plague the labour market -- the growing supply of labour but diminishing employment in organised manufacturing.
It might, however, be unfair to expect exports to thrive just on cheap skilled labour. Things like better infrastructure, friendlier labour laws, and cheaper capital are certainly important for domestic producers but they are a tad more important for exporters who have to stay on top of the global competition.
An effective trade policy is one that goes beyond small changes in duty drawbacks and EOU norms but takes a holistic view towards retaining our comparative advantage.
The author is chief economist, ABN Amro. The views here are personal.
