Democracy and Innovation Could Set India on a Different Development Path

The development path we suggest will depend far more on Indians having innovative ideas and being creative, pushing the intellectual frontier. Growth at the frontier requires debate and argumentation, which an authoritarian government rarely tolerates. It is not that authoritarian countries cannot innovate to some degree—the Soviet Union had a flourishing military-industrial complex. But authoritarian governments want to direct research and innovation, which ensures they are limited by the imagination of those in charge. And when those in charge are apparatchiks, research and innovation will be limited indeed, especially if the apparatchiks interfere constantly because they worry these directions may not be consistent with the views of the supreme leader.

By contrast, innovation in a democracy does not have to respect the existing power structure and its beliefs, and thus can be really pathbreaking. Chip technology in the Soviet Union always lagged that of the United States because the Soviets simply could not innovate in that area. They fell into a pattern of trying to steal the intellectual property when it became widely available, which constantly put them behind.

Similarly, China’s political system may have been ideal for catch-up, infrastructure-led growth. Arguably, it is much less so as China approaches the technology frontier.

For instance, China has imposed requirements that artificial intelligence essentially respect the primacy of the Communist Party. This could limit the extent to which firms can explore what AI can do, for fear they might inadvertently cross regulatory boundaries. In the Financial Times, Yu Jie, a senior research fellow at Chatham House, argued that China’s ability to make major scientific breakthroughs will depend “on whether researchers have the space to think critically and creatively.”

Careful studies by economic historians have addressed the relation between creativity and economic and political freedom over the long run. One study—by University of Mannheim postdoctoral researcher Alexander Donges, University of Texas at Dallas’s Jean-Marie Meier, and Rui C. Silva at the Nova School of Business—looks at the consequences of the French occupation of German counties after the French Revolution in 1789. Among the key reforms the occupying French implemented was abolishing local guilds (an early form of business cronyism). The French also brought in their civil law, under which the judiciary was made independent from the local administration and all citizens were treated equally before the courts. Counties that were occupied for the longest period, and thus saw these French reforms take greatest hold, had more than twice as many patents per capita almost a century later, in 1900, than counties that were not occupied, according to the study.

A related study by University of Essex’s Michel Serafinelli and Bocconi University’s Guido Tabellini looks at which cities in Europe saw a rise in notably creative people, whether by birth or by immigration, between the 11th and 19th centuries. The researchers find that independent cities that assured their citizens political freedoms were most likely to see a rise in the presence of such people, because the city environment fostered creativity and also because such cities attracted creative souls.

This suggests the arguments made by some that all will go well in India if only it has an iron-fisted leader are not empirically well grounded. Today, such an authoritarian leadership can only build more roads and monuments, running roughshod over people’s rights, but cannot allow the environment of free thinking and speech that India needs for innovative ideas and products—for such a liberal environment will open the door to criticism of all authority. By trying to control debate, any authoritarian government will make it hard for India’s researchers to be innovative and for its institutions to attract free thinkers from the diaspora or retain its youth, who are unhappy with the status quo. Policing of thought is certainly not what India needs today.

Is manufacturing needed for security?

What about manufacturing’s role in national security? If India does not have a strong manufacturing base, will its national security be impaired? Of course, it is important for a large country to have its own domestic defense industry so that it is not subject to undue outside pressure in times of increasing conflict. But does it have to manufacture every part that goes into every weapon?

Take, for example, the global race to get into the manufacture of advanced logic chips. Both the US and Europe are trying to bring more high-end chip fabrication to their shores, while China is trying to upgrade its existing facilities as the US bans the sale of high-end chips to China. Should India also fabricate chips?

Start first with the obvious point, that if short-term disruptions in chip availability are the concern, as during the pandemic, the solutions are simpler. India could incentivize firms to have larger inventories of critical chips, and even possibly create a small national reserve. It could source chips from multiple countries and companies. Indian firms could build flexibility around production processes so that products can be redesigned to replace the chips in short supply with the chips that are available. All of this is much cheaper than manufacturing chips domestically, given that even a plant making chips that are a few generations behind the current technological frontier will cost tens of billions of dollars in subsidies.

If the longer-term concern is that India might face sanctions from potential enemies, the solution is to have a wider and more diversified set of friends. It is hard to imagine that democratic India will take a course of action that will make the euro area, the US, South Korea, Japan, and Taiwan all want to sanction it. But what if the unimaginable happens and the democratic world turns against India?

If so, simply having factories making older chips will not be enough. India will need to make state-of-the-art chips (that is, the kind that go into mobile phones and AI machine-learning processors); it will need to make the machines that make the chips (firms that make those machines, such as the Dutch company ASML, will also apply sanctions); and it will have to make every part of the chip supply chain, starting from the silicon wafer—all of which require specialized processes and chemicals that India does not have.

Put differently, unless India brings the entire manufacturing process for chips into India, there will always be choke points that run through other countries. Total self-sufficiency is nearly impossible, even if India is prepared to invest hundreds of billions of dollars.

In short, India cannot obtain security with a toehold in chip manufacturing. Chip manufacturing, unless more carefully thought out, could be like the prestige-project white elephants that India has had plenty of in the past. Should India spend tens of billions in subsidizing chip manufacturing when the world has periodic gluts of chips, or should it devote those tens of billions to opening tens of thousands of high-quality primary schools, thousands of high-quality high schools, and hundreds of top-notch universities? Is India better off dominating chip design with the tens of thousands of additional engineers and scientists it will produce, and starting firms like US-based Nvidia, Qualcomm, or Broadcom, none of which fabricate their chips? Or does India want to imitate China, especially when it has much better relations with the chip-manufacturing world? Once again, rather than following others blindly, India needs to look at its own advantages.

Some argue that India needs chip fabrication so that it can build strength in chip design or other parts of the supply chain. There is no evidence that this is the case—witness Nvidia or ASML. That other countries or regions are jumping to subsidize chip fabrication is good for India; it will increase its choice even if it does not produce, especially when the periodic chip glut emerges.

That is not to say India should never enter chip fabrication. As the current frenzy of subsidies dies down, investment in the industry will, eventually, be worthwhile. India’s trained engineers and designers will have the human capital to participate in the innovation that is so crucial in this industry. India should not hesitate at that point. Nor should it hesitate if anyone wants to invest in India without massive subsidies. But it does not seem wise at this moment to enter this ruinous subsidy game—India is better off investing in its human capital.

The untraveled path

While ideas and creativity should be India’s main vehicle for growth, there is a reason services and manufacturing-related services exports may be easier for India to expand in than manufacturing exports. China’s dominance in the area, and the consequent loss of middle-income factory jobs in industrial countries, has made the West wary of manufacturing imports. Protectionism in manufacturing is rife, as is competition for the remaining shrinking pie. There is little room for another China-sized exporter of manufactured goods. This is not to say that India should not manufacture goods, only that it should be aware of the new limits to China-style growth. It should think especially hard if incentivizing such manufacturing requires taxpayer subsidies and protectionist tariffs paid by domestic customers.

Services, however, are still relatively virgin territory. For instance, an Indian consultant still costs a fraction of what a US consultant does, with pretty much the same capabilities, albeit a somewhat different base of experience. This is why many global service firms are looking to India even without any subsidies.

As the world grows richer and older, it will expand its use of services, but climate change suggests additional urgency. The world has to slow the growth in its consumption of goods. This offers one more reason for India to be mildly biased toward services and manufacturing-related services, even while emphasizing that its focus should be on ideas and creativity, wherever these apply. In sum, the notion of premature deindustrialization, as written about by Harvard’s Dani Rodrik, need not be a bug but a feature of India’s growth path.

Raghuram G. Rajan is the Katherine Dusak Miller Distinguished Service Professor of Finance at Chicago Booth. Rohit Lamba is an assistant professor of economics at Cornell. This is an edited excerpt from their book, Breaking the Mold: India’s Untraveled Path to Prosperity © 2024 by Raghuram G. Rajan and Rohit Lamba. Reprinted by permission of Princeton University Press.