Whalesbook
India Faces Urgent Reform Need Amid Global Shifts
Bernstein has warned Prime Minister Narendra Modi that India is at a critical economic juncture. The firm noted that while recent policies have boosted economic stability and earnings growth, driven by increased capital spending, it’s risky to assume these successes will continue without addressing major challenges. This warning comes as the global economy changes rapidly due to shifting supply chains and accelerating technological advancements.
The AI Consumer Trap and Innovation Lag
A major worry is that India could become just a user of advanced technologies like generative artificial intelligence, rather than creating value from them. India leads globally in GenAI app downloads, making up about 20% of worldwide installations in 2025. Yet, this adoption hasn't led to significant revenue, with India accounting for only around 1% of global in-app purchase revenue for these apps that year. This gap suggests a serious risk of falling behind in developing core AI technology, as most AI value creation is currently concentrated in the United States and China. India's spending on research and development (R&D) as a share of GDP has stayed flat at 0.6-0.7% for two decades, far below global averages. China invests about 2% of its GDP in R&D, and OECD countries average around 3.45%. This low investment in fundamental technology risks leaving India permanently as a consumer in the global AI economy.
Manufacturing Lags, Job Creation Concerns Remain
Manufacturing, crucial for job creation and economic growth, continues to be a major hurdle. Despite government efforts, its share of GDP has stayed around 16-17%, well below the 25% target. Other countries like Vietnam (24.43%), China (24.87%), and Malaysia (23%) have much larger manufacturing sectors relative to their GDP. The 'China+1' strategy, aimed at diversifying supply chains, has been slow to create substantial jobs, with private investment remaining cautious. Weak supply chains and unclear regulations also limit India's manufacturing growth. The agricultural sector, which employs a large part of the workforce but contributes little to GDP, remains a burden that needs deeper reforms beyond temporary aid.
Energy Reliance and Fiscal Pressures
The country's heavy reliance on imported oil continues, with imports making up about 88-89% of its needs recently. This leaves the economy vulnerable to global price swings and geopolitical issues, affecting trade and inflation. Although India is progressing in renewable energy, nearing 50% of its electricity capacity from non-fossil sources by mid-2025, fossil fuels still provide around 73% of its electricity. On the fiscal side, India is following a plan to reduce its deficit to about 4.3% of GDP by 2026-27. However, deficits that have averaged over 5% of GDP for a decade show ongoing fiscal strain. Large annual state spending on cash transfer programs, estimated between Rs. 1.7-2.5 lakh crore, risks taking funds away from vital infrastructure and adding to inflation. This mirrors challenges in other emerging markets where stimulus led to high debt, now requiring cuts that could slow growth.
Risks Ahead: Slow Reforms and Falling Behind
If India does not accelerate reforms, significant risks remain. The country's low R&D spending, about 0.65% of GDP, is a fraction of what leading economies like China and South Korea invest. This underinvestment, combined with AI value creation happening elsewhere, leaves India likely to remain a consumer, not a producer, of advanced technology. Adding to this, manufacturing's smaller share of GDP compared to regional neighbors, along with ongoing agricultural problems, limits job opportunities for its growing population. Heavy reliance on imported energy adds further risk. While India has resources and ambition, making tough, early decisions is crucial. Delaying structural reforms in this fast-changing global environment risks cementing technological dependence and limiting future growth, potentially creating a less competitive economy long-term.