We believe India stands out among the large emerging economies as most likely to achieve strong growth over the next decade. In 2028, we estimate it will overtake Japan in nominal GDP to emerge as the world's third-largest economy. At the same time, various structural factors will likely weigh on growth in China, Brazil and Russia, says Bank of America Merrill Lynch (BoAML) in its latest report India Economic Viewpoint.
BoAML sees three strong growth drivers. First, falling dependency ratios should raise saving and investment rates. Second, financial maturity, due to financial liberalization and inclusion, should continue to lower lending rates structurally. Finally, increasing incomes and affordability will likely underpin the emergence of mass markets, supporting an expected 7% real GDP growth.
Demographic dividend to push up investment: Rising saving and investment rates, driven by falling dependency ratios, should fund our estimated 7% real growth. We build in 6% inflation and 3% depreciation to arrive at 10% nominal growth in USD terms. The dependency ratio is slated to fall to about 47% in 10 years from 52.2% at present. This should sustain a saving rate of at least 32% of GDP, similar to the average in 2000-17. In turn, the investment rate should rise to 35% from 32.4% in 2000-17 and 22.1% in 1980-1990s. The demographic dividend alone does not guarantee strong growth. As the experience of Latin America shows, the opportunity, of course, can be lost if there is social unrest. However, we think India will instead go the way of the Asian tiger. This view is based on the growth of a skilled labor force, immigration from more populous to more industrialized states, and rising political accountability with a deepening of democracy to the grassroot level.
Rising financial maturity also pushes higher growth: Financial allocation of rising saving rates should be supported by growing financial maturity. The credit to GDP ratio, a proxy for financial maturity, will likely climb to 83% of GDP from 44% (2001-17) and 25% during 1980-90s driven by three factors: (1) financial extension and inclusion, (2) emergence of financial products and (3) financial market development. This, in turn, pulls the interest rate structure lower. The share of loans, advanced at lending rates of 14+%, has fallen to 9% of total from 64% in 2000.
Emergence of mass markets: Tying it all together, in our view we are witnessing the emergence of mass markets powered by rising incomes, on the demand side, as well as economies of scale, on the supply side. A virtuous cycle is seeing higher affordability, as incomes rise, which allows manufacturers to hold the price line on economies of scale; this, in turn, reinforces affordability. We expect an entry-level car to cost 1x per capita by 2028 from 2.5x now and 14x in 2000.
A new paradigm: Domestic driven, services led growth: BoAML expects India's growth to be driven by services. Every EM grows in response to the drivers of its time. Services have climbed by 10% to almost 70% of world GDP in the past 20 years. Not surprisingly, they have also emerged as a key driver of India's growth as well. We believe India has to chart its path of domestic demand-led industrialization that is relatively unique in the history of Ems. A natural corollary is that the impact of Indian growth on global markets will likely be driven by higher demand for commodities rather than manufacturing exports, says the report.