The First Steps in the Creation of the New India Story: How the Modi Government is Seeking to Reshape India

India has rapidly re-emerged on the international investor landscape since the general election in May 2014. Its economic growth has started to accelerate (from c.4.7% to c.5.5% ) despite the broader slowdown in global growth, including in all three of the other BRIC countries, and inflation is at a five year low . This has led to a surge in foreign investment inflows (US$22 billion net inflows between May and September ) which has pushed the benchmark stock market index up by over 30% this year – making India one of the best performing stock markets in the world in 2014. Domestic liquidity still remains an issue with Foreign Direct Investment, private equity activity and domestic credit availability still below their earlier highs. However there are some clear indications that this recent economic improvement is more than just a cyclical recovery.

The indications are that India is indeed in the early stages of a major economic inflection point – driven by a strong push for structural reforms by the new government led by Narendra Modi – who secured a decisive mandate in the recent elections. The “India Story” – the belief that the country can fulfil the tremendous potential provided by its strong long-term assets including its people, its resources and its democratic institutions – had lost appeal in recent years, but is now being reinstated and reshaped by the Modi government. While previous Indian governments have typically implemented reforms gradually and only in times when the economy was facing a dire crisis, Mr. Modi is starting to show a willingness to challenge both of these historical precedents. His government has initiated reforms across a wide range of critical areas including labour laws and governance. Mr. Modi’s popularity continues to increase amongst an electorate “This government’s true test will be in the next few months leading to the budget and thereafter. It has been lucky with oil prices … But getting the investment cycle going again required more than just luck” hungry for development, and the stage now seems to be set for the government to implement a more ambitious reform agenda. The new government has also started the process of restoring India’s reputation abroad. Together with its policy achievements as well as external factors such as the sharp drop in oil prices, this has contributed to an improvement in India’s near term economic fundamentals. Taking a closer look at these achievements provides an important window into what to expect from the Modi government over the next few years, the likely shape of the India Story over the longer-term and the implications for investors looking at India in terms of their selection of sectors, strategies and asset classes. It is clear that domestic economics is the key to political success for the Modi government at home and abroad.

Revisiting the India Story: Long-Term Fundamentals and Assets

Among emerging markets, India has a unique combination of attractive long-term assets. Its most obvious asset is its large, young and growing population. The country also has plentiful natural resources which to date have not been adequately exploited. But most importantly, perhaps, India has strong, stable democratic institutions which have held the country together over the last 30 years which have seen Russia fall, the Arab Spring and the beginning of China’s system being questioned on one side of the “one country, two systems” deal. India’s system has helped foster inclusion and social stability and peaceful transitions of power (including the most recent one in May). The table below captures some of the key metrics for the three assets that can become pivotal for driving India’s growth potential.

No other country in the world has this unique combination of assets on this scale. While India is often grouped with China by virtue of its large population and location in Asia, the two countries are very different. India’s per capita income is only c.20% of China’s (US$1500 vs. US$6750) – therefore, while the latter has now reached ‘middle-income’ status, India has a long way to grow before it gets there. Indeed, if India can find a way to harness its assets, over the two coming decades, it could well achieve the level of growth which China was able to achieve in the last 25 years – and grow at a sustainable pace of 10-12%. Clearly, the value of these assets is a function of how well India demonstrates it can utilise them. A functioning democracy, a young and plentiful labour pool and a surfeit of resources, if not utilised, is also a combination for unrest and a harsh political backlash. Indeed, this was the fate of the previous government in the last election.

What Happened to the India Story Before the Election?

In spite of these tremendous assets, India has thus far not lived up to its potential. Its population is under-employed with a labour force of only 487 million (with overall participation of only 55% and 33% of women vs. 75% and 67% respectively in China); its natural resources remain largely untapped with the country currently importing coal despite its vast reserves; and democracy has often been a liability with widespread corruption and politicians dividing the electorate along religious or caste lines for electoral benefits. Before the May election, in the last few years of the previous government, India’s economy suffered due to two major factors:

  1. Fundamental Reputational Loss Resulting in Capital Flight. A series of large-scale corruption scandals, policy blunders over retrospective taxation of foreign investors, and incidents of violence against certain communities and women created an image of India as a perennially corrupt, factional and female-unfriendly country with an unpredictable policy environment. This undermined the very basis of the “India Story” and resulted in capital flight with billions of dollars flooding out of the country (e.g. US$21 billion of net foreign outflow between November 2010 and October 2011; US$16 billion of outflows between June and November 2013 )
  2. Policy Paralysis and No Progress on Structural Reform.
  3. The corruption scandals and the coalition structure of the previous government also prevented any meaningful progress on the critical structural reforms which India needed to harness its assets. No material progress was made on reforming labour laws, on improving governance, privatisation, business regulations or energy policy. Simultaneously, hundreds of large infrastructure and industrial projects were stalled (US$150 billion as of March 2014 ).

These factors resulted in a sharp drop in foreign inflows and overall investment, a surge in inflation and interest rates, and therefore a sharp slowdown in economic growth (see charts below):

India’s Key Economic Metrics Before the Election

What Has the Modi Government Achieved After the Election?

Mr. Modi’s party secured a decisive mandate in the election and, with an absolute majority in parliament, is not dependent on any coalition partners to pass legislation. This has enabled him and his government to begin addressing the two key issues which have threatened to undo the “India Story”.

  1. Restoring India’s Reputation and Mobilising Capital from Abroad.Foreign policy appears to clearly be one of the new government’s early priorities. In the first few months since his election, Mr. Modi has made state-level visits to Brazil, Japan, Australia and the US; hosted the Chinese President in India; met with President Putin; and also visited various South and East Asian neighbours including Bhutan, Nepal, Fiji, Singapore and Myanmar (Mr. Modi also announced this month that he would be hosting President Obama in India in January 2015 – the first “We’re two countries where entrepreneurship, creativity, and innovation is in both of our DNA. The only two countries that could have given birth to Hollywood and Bollywood, the only two countries where high-tech hubs like Bangalore and Silicon Valley could blossom and be connected, even as they are independent in their creativity. We are two countries that … have sheltered the persecuted and the refugees of all religions and all nations on Earth” John Kerry, US Secretary of State, Speaking during Prime Minister Modi’s Visit to the US, Sept-2014 time a US president has visited India twice during his tenure). His team has in parallel been working to build India’s relations with partners in the Middle East. Through these trips, which have been meticulously planned, Mr. Modi has started to restore India’s reputation in the international community aided by the credibility of his clear electoral mandate and parliamentary majority which his predecessor lacked. He has also engaged proactively with the Indian diaspora in the US and Australia. Importantly, he has secured significant investment commitments including US$35 billion over five years from Japan and US$20 billion from China (some of which are already bearing fruit ), and potentially up to US$41 billion from US companies . In addition, Mr. Modi has also reached some important multilateral and bilateral achievements including negotiating an end to the impasse over the WTO trade facilitation agreement with the US, agreeing with other BRICS nation to the launch of a BRICS bank, signing a coal development agreement in Australia, and defence co-production deals with large US defence companies. Through this aggressive foreign policy push, Mr. Modi effectively “has demonstrated his commitment to restoring India’s leadership within the subcontinent and the world stage,” and begun to mobilise long-term investment by helping the country rebuild its battered international image and rekindling an appetite for India’s success in the international community.
  2. Initiating Key Macroeconomic and Structural Reforms. . In parallel, Mr. Modi’s government has also started to tackle some of the most critical areas of domestic macroeconomic and structural reforms. Meaningful progress is already visible in seven key areas:


The Modi Government’s Economic Policy Decisions

Even though individually none of these policies represents a major breakthrough or ‘big-bang’ reform of the sort some observers had been expecting from Mr. Modi’s given his election rhetoric and track record in Gujarat, when looked at together, the list above seems to indicate a clear intent on the part of the government to tackle some difficult areas of structural reform. In addition to these tangible first steps, Mr. Modi has also started to build broader public consensus around bigger reforms like labour laws and the simplified nationwide goods and services tax (GST) by working closely with state leaders and by launching nationwide industry-focused campaigns such “Make in India” to build India’s manufacturing sectors and “Digital India” to digitise and connect the country, in addition to a “Clean India” health and sanitation initiative. Although some of Mr. Modi’s political opponents and sceptics have seen these campaigns as marketing gimmicks or photo ops, they have attracted broad nationwide support and laid the ground for specific initiatives.

Through these schemes, Mr. Modi appears to be creating a consensus around much deeper reforms which will be required in order to see them succeed (e.g. labour laws and GST in order to boost the manufacturing sector) and therefore creating the tactical headroom to pre-empt opposition from special interest to much bigger “There is bound to be resistance to change and reform. But it cannot be done in stealth … It is important to insulate reforms from the political process” Narendra Modi, Speaking at the Global G20 Summit in Australia, 2014reforms which will be required in all the areas outlined above and others. Depoliticising and communicating the benefits of structural reforms is a critical step in order to ensure that the agenda is not challenged at every step either from within or outside the government. The debate therefore is gradually being moved from whether or not these objectives are required in the first place, to how best to achieve them.

Clearly, the government has embarked on what has been set up as a far-reaching campaign of change and is showing it is indeed decisive on a broad range of issues. However, given the lengthy list of things to do, there is disappointment too among observers and participants on the issues not addressed. The list of major issues that many hoped would be addressed and have not been include the following:

  1. Retrospective Taxation Policy.The previous government introduced a controversial policy of retrospectively and selectively taxing certain large international investors creating significant uncertainty. Despite speaking out against this decision during the campaign, the Modi government has yet to clearly reverse the decision and provide complete clarity to international investors on the taxation regime
  2. Liberalising Education.The education sector, critical to the long term development of India, requires scaling to address the needs of its young and growing population, yet remains restricted for private investment. The Ministry of Human Resource Development has yet to articulate a much required policy which allows private (and foreign) participation in education
  3. Subsidies.The government provides c.US$60 billion of subsidies (or over 3% of GDP) across food, fertilisers and fuels which are inefficiently delivered and contribute heavily to India’s fiscal deficit. Although Mr. Modi has utilised the recent fall in oil prices to deregulate diesel prices, it has yet to indicate a willingness to take on the costly subsidies in food and fertilisers and non-diesel fuels
  4. Employment Guarantee Scheme. The previous government introduced a rural employment guarantee scheme which costs the exchequer c.US$6 billion per annum and suffered from poor implementation and corruption . Mr. Modi’s government has yet to lay out a plan to either improve implementation or reduce the outlays for this costly employment
  5. Urban Infrastructure. India cities are poorly planned with inadequate transport and housing infrastructure (e.g. 40% of Mumbai’s population lives in slums occupying 6-8% of the city’s land mass ). Despite lots of announcements about developing ‘smart cities’, the Modi government has yet to act to unveil a plan to address basic urban infrastructure issues – particularly in transport, housing and sanitation.

In addition, given Mr. Modi’s history as a member of what is considered to be a staunchly conservative religious organisation, the Rasthriya Swayamsevak Sangh (RSS), observers are watching very carefully for evidence that Mr. Modi, his party or his affiliates may push back freedoms in the country or promote nationalist thinking. There appears to be little evidence of hardliner thinking that the opposition hoped for. However, the few instances that have appeared do generate concerns and need Mr. Modi’s attention. The most sensitive of these is the question of religious and communal harmony. The media has recently reported on religious and communal violence, in particular in election states and questioned whether this is an active strategy to polarise voters for electoral gains, particularly in light of Mr. Modi’s silence on the issues. Other accusations focus on the influencing of school curriculums by religious organisations (including the RSS) such as a recent controversial decision to introduce mandatory classes in the ancient Sanskrit language in government schools . Some alarm was also generated from Mr. Modi’s recent address to doctors where he spoke of the “Vedic” era in Indian history (c.1750–500 BCE) and described it as a time when India had already made advances in genetics and complex surgery. Such episodes exacerbate fears that Mr. Modi is either himself a hardliner or is pandering to hardliners within and outside his party. These issues will no doubt be closely watched but although we are still early in the new government’s mandate, Mr. Modi seems to spend his time focused on his policies of opening India for change through economics, cabinet discipline and foreign policy.

Measuring the New Government’s Economic Impact

Six months in, and with little over one quarter of macroeconomic data, it is clearly too early to properly assess the performance of the new government. The early signs however are positive with a sharp increase in foreign investment, a decline in inflation and an increase in GDP growth since the election and a re-rating of India’s near-term economic prospects to the 6.5% range (see table below). No doubt some of this is to be credited to the previous government.

Change in Key Macroeconomic Metrics Before and After the Election

While some of this improved performance can be attributed to external or cyclical factors such as election-related spending and the sharp fall in global oil and commodity prices, considering the overall global slowdown which is now underway , and the slowdown in all the other “BRIC” countries, India’s economic resurgence stands out as a bright spot. The reform momentum has also resulted in greater optimism about the recovery (with the sovereign credit outlook also being upgraded). The most noticeable change of course has been sentiment, evidenced in the stock market index which has increased over 30% in 2014 and over 25% since the election results were announced – propelled by strong foreign investment inflows. If the Indian economy can achieve the near-term market expectations outlined above over the next one year, then it will clearly be on the path of a rapid and robust recovery however achieving them will require both adept economic policy management and a continuation of the government’s reform agenda.

Conclusions: How Mr. Modi Could Shape the New India Story

Although getting back to 6-7% growth trajectory is clearly a positive for India and reflects the initial reform progress of the Modi government, its long-term assets indeed give it the potential to grow significantly faster, at 10-12% , as explored in The Sign of the Times, March 2014. For most of the last two to three decades, India has had the strong fundamentals required to ensure macroeconomic success: a demographic advantage with a large “I salute the makers of the Constitution of our country as because of them, the world is witnessing the power of democracy. It is the power of our Constitution and a hallmark of our democratic elections that a common citizen can also reach this height.” pool of human capital, lots of natural resource potential including the world’s largest coal reserves and a stable democratic framework with strong institutions. The missing factor for India, which has often prevented it from realising this potential has been political will to improve governance as well as political stability. Many attribute this to India’s democracy, arguing that an autocratic state would find it easier to reform itself. Perhaps in response, India’s electorate, hungry for economic development, voted into power a leader painted by many as more autocratic. Mr. Modi in response has highlighted his commitment to India’s democracy and continues to be a beneficiary of the democracy as recent state elections demonstrate. With surging personal popularity and a stable electoral majority for at least the next four and half years, political stability is no longer an issue for India, and judging by the reform progress of the last six months outlined above, neither is political will.

India does not appear to need to ‘compete’ with China, which has already reached middle-income levels and is now trying to rebalance its economy. With the Chinese economy slowing, India has an opportunity to develop its industrial base and replicate over the next 15 years China’s tremendous economic successes over the last two and half decades. However, central China remains underdeveloped relative to the southern and coastal China and part of its development plan involves mass employment to inland workers through continued industrialisation. This would place India in competition with China and would require India to demonstrate that it is an investment friendly nation (today India ranks 142nd in the ease of doing business). In India’s favour, Mr. Modi has begun well the process of wooing major economies and many especially in the US, Japan, Europe and East Asia all have a great deal to gain from a resurgent India that rebalances China. Internationally, the stars are aligning in India’s favour.

Finally, from an intellectual standpoint, the reforms required to help accelerate India’s growth and address many of its long-standing human development issues are well-known. Earlier issues of the Sign have explored in depth the policies required to accelerate India’s growth, to develop its industrial base , and its cities . Many of these policy challenges are the ones which Mr. Modi’s government has started to tackle in its first six months such as labour laws, governance, energy policy and privatisation. Additional focus will be required to see many of these reforms through their conclusion, along with initiation of other key reforms such as liberalising education.

The Modi government recognises the importance of double digit GDP growth to achieve its objective of “Sab ka saath, sab ka vikaas” (Everyone’s cooperation for everyone’s development). The reform and policy agenda is clearly aimed at setting India’s growth first back to the 8% range and very soon thereafter to double digits which would allow it to achieve per capita income levels which are 1.7x higher than the current baseline estimate by 2025 and 3.7x higher by 2040 (see table below). However doing so will require not only a sustained visionary leadership but also the desire to make “India Wide Open” concurrently in many areas – including its people, its resources, its government and its entrepreneurs – rather than pursuing a ‘narrow or gradual opening’. Mr. Modi’s track record as Chief Minister of Gujarat and the track record of his government thus far certainly appears to indicate that he is up to this challenge.

India’s Economy in 2025 and 2040 at Various Growth Rates

(2014 US$ equivalents)

Conclusions: Emerging Implications from an Economic Perspective

From a geo-political perspective, India’s potential resurgence comes at a good time as the US continues to “Pivot to Asia” and the concerns (territorial and other) of many Asia economies, that have become dependent on China, lead them to welcome India strengthening. China’s strength on the global stage came from its reform-driven policies that galvanised huge international investment and rapid growth. India today stands to show the international community that it is where China was a decade or so ago. This requires a continuation and stepping up of reforms from the Modi government. History seems to be in Mr. Modi’ hands. “I think that the entire world has watched the historic election and mandate that the people of India delivered in the recent election. And I think everyone has been impressed with the energy and the determination with which the Prime Minister has looked to address not only India’s significant challenges, but more importantly, India’s enormous opportunities for success in the 21st century.” The question most posed by international investors visiting India is turning to “when” rather than “if”. There is a growing view that the new paradigm in India is underway and is set to be very different from the situation twelve months ago. The Hong Kong investment and business community was early to spot China’s growth and benefit from it. The equivalent for India are a hardy set of investors who have spent the last ten years building platforms that can survive the storms of India and have the people, process and practices to show for it.

See our perspective on investing in the new India story in the Investments section of our website.


  1. See appendix for definitions and sources
  2. Real GDP growth was 5.7% in the quarter ending 30-Jun-2014 and 5.3% in the quarter ending 30-Sep-2014, as compared to 4.4% growth in the fiscal year ending 31-Mar-2014
  3. CPI inflation has fallen to 5.5% in October from over 11.0% a year ago, while the wholesale price index (WPI) fell to 2.4% in September, the lowest reading since Oct-2009; Source: Forbes, Rajan Winning at Fighting India’s Inflation, 24-Nov-2014
  4. Source: Reserve Bank of India Database, Foreign Investment Statistics
  5. Source: United Nations Population Database
  6. Source: “India’s Urban Awakening”, McKinsey, April 2010
  7. See Sign Leader from October 2013 – Transforming India’s Slums: A Critical Step in Creating the New India
  8. Source: Various Press Articles
  9. Source: Indian Ministry of Coal
  10. Source: World Energy Council – 2010 Survey of Global Energy Resources
  11. Source: US Energy Information Administration
  12. Source: International Atomic Energy Agency, An Overview of World Thorium Resources (2012), India however has no significant uranium deposits which it is partially trying to address through the nuclear fuel supply agreements with various countries
  13. According to the Indian Census, India has 30 languages with more than 1mn native speakers and 122 languages with more than 10,000 native speakers
  14. Source: IMF World Economic Outlook Database
  15. In the three years ending Nov-2013, India attracted net foreign investment inflows (FII) of only US$15bn (US$5bn p.a.) vs. US$82bn (US$27bn p.a.) in the preceding three years
  16. Source: Business Insider, 21-May-2014
  17. Since Mr. Modi’s visit, Japan’s Softbank has already invested US$850mn in various Indian e-commerce companies, and has earmarked a further US$9bn for investments in railways and smart cities projects in India (Source: The Hindu)
  18. Source: US-India Business Council press release after Mr. Modi’s visit to US
  19. The Diplomat, August 2014
  20. The state of Rajasthan, where the BJP has a majority in the state assembly, approved changes to the Industrial Disputes Act to allow companies with less than 300 employees to lay off workers or shut down without prior government approval, Source: Business Standard, 8-Nov-2014
  21. Source: Financial Times, Modi to Axe India’s Diesel Subsidies, 19-Oct-2014
  22. The groundwork for this policy was laid out through the continuation of the Congress government’s policy of increasing diesel prices by INR0.50 per month.  The global fall in oil prices presented an opportunity for the government to deregulate prices.  The real test is likely to come if global oil prices increase sharply and create a popular demand for subsidies. Source: Financial Times
  23. Source: Indian Express
  24. Source: Business Insider, 22-May-2014
  25. Source: Various press articles
  26. Source: Transparency International Corruption Perceptions Survey
  27. The insurance sector FDI limits requires amendments to the Insurance Act and therefore parliamentary approval.  The amendments to the bill have opposed by the Congress and some other parties and referred to a Standing Committee
  28. Minimum capital requirements for FDI projects were lowered from US$10mn to US$5mn and the minimum area requirement was lowered from 50,000 sq. meters to 20,000 sq. meters (Source: Live Mint)
  29. Source: Reuters
  30. Source: the 2011 Census estimated that only 58.7% of Indian households availed of banking services (54% in rural areas and 68% in urban areas)
  31. Source: CNBC-MoneyControl
  32. Source: Indian Budget for FY2014-15; plan outlays
  33. Source: The Hindu
  34. Sources: Government of India Census; The Telegraph
  35. Source: Indian Express, 9-Aug-2014, Over 600 ‘Communal Incidents’ in UP Since Lok Sabha Results, 60% Near Bypoll Seats
  36. Source: Indian Express, 31-Oct-2014, RSS Meets Human Resources Development Ministry, Tells Minister to ‘Correct’ History
  37. Based on trailing 12 month cumulative net inflow
  38. Source: Reserve Bank of India Database: Statistics on Net Foreign Portfolio Investment and Foreign Direct Investment into India; GPC Analysis
  39. Source: Reserve Bank of India Database: Consumer Price Index Statistics
  40. Source: ICICI Securities Estimates
  41. Source: Government of India, Ministry of Finance
  42. The IMF has lowered its forecast for 2014 global GDP growth from 3.7% to 3.3% and the 2015 forecast from 3.9% to 3.8% – driven primarily by the slowdown in China and several emerging markets, and weaker-than-expected recovery in Europe and the US
  43. See Sign leader from March 2014 – 12% Growth Agenda: A Blueprint for India’s New Government
  44. See Sign leader from August 2014 – Unleashing India’s Industrial Potential: Building a Globally-Competitive Manufacturing Base
  45. See Sign leader from October 2013 – Transforming India’s Slums: A Critical Step in Creating the New India
  46. See Sign leader from February 2012 – India Wide Open: Transforming India Now for 2040