Can India's economy overtake Japan's by '29?

The media, analysts and economists immediately jumped in with their opinion. Some said that this was very much possible. In this piece, we analyse if India can indeed become the third largest economy before 2029, when the term of the next (18th) Lok Sabha ends.

While India becoming the fourth largest economy in the world before 2029 is a given, becoming the third largest may not be so easy. Read on.

The present

As per data from the International Monetary Fund (IMF), India is the fifth largest economy in the world today, behind the US, China, Japan and Germany. As per the World Economic Outlook (WEO) database of the IMF, India’s gross domestic product (GDP) in 2022 was $3.39 trillion. The GDP is a measure of the economic size of a country in a particular year. By 2027, the Indian GDP is expected to touch $5.15 trillion.

In 2022, the GDP of Germany, currently the fourth largest economy in the world, was $4.08 trillion. In 2027, it is expected to touch $4.95 trillion. Further, in 2022, the GDP of Japan, currently the world’s third largest economy, was $4.23 trillion. In 2027, it’s expected to be at $5.08 trillion. So, by 2027, with a GDP of $5.15 trillion, India will be the world’s third largest economy. This is what the media and the experts have been highlighting.

There’s a problem here: these figures are what is termed as GDP in current prices. Now, what does this mean? Let’s consider the GDP of a country for 2012 in current prices. It would have been calculated using the prices of goods and services in 2012. Now, let’s consider the GDP of the same country for 2022. Again, it would have been calculated using the prices of goods and services in 2022.

In the normal scheme of things, the prices in any country would be higher in 2022 than in 2012. Hence, the GDP in 2022 would automatically be higher than in 2012, but that would primarily be on account of higher prices. So, clearly, there is a problem because higher prices distort the picture, given that we are trying to compare the economic size of a country, or to put in simple terms, whether more goods and services were being produced in 2022 than in 2012.

How do we deal with this situation? For the economic size in 2022 to be actually comparable to the economic size in 2012, we should calculate the GDP in 2022 using 2012 prices. If the GDP in 2022 is higher than the GDP in 2012, we know for sure that more goods and services are being produced in 2022 than they were in 2012. This means that the size of the economy or the economic output in 2022 is bigger than in 2012.

This way of calculating the GDP is referred to as GDP in constant prices and it takes the rate of increase in prices of goods and services or inflation into account.

There is another problem here. Every country calculates its GDP in their own currency. For a comparison across countries, these values then needed to be converted into US dollars. As the IMF WEO database puts it: “Values are based upon GDP in national currency converted to US dollars using market exchange rates (yearly average)."

So, to calculate the Indian GDP in current prices in US dollars, we need to take the GDP in current prices in Indian rupees and then divide it by the average dollar-rupee exchange rate for that year.

Over the years, the Indian rupee has lost value against the US dollar. This is primarily because inflation in India has been higher than inflation in the US, leading to the Indian rupee losing value. Of course, for a brief period since last year, inflation in the US was higher than in India. Given this phenomenon, when GDP in current prices in Indian rupees is converted into GDP in current prices in US dollars, using the exchange rate, some impact of inflation on the GDP calculation in current prices is taken care of.

But the complete impact of inflation is still not taken into account. This can be seen when we compare the GDP in constant prices in US dollars with GDP in current prices in US dollars. The World Bank publishes the data for GDP in constant prices (in 2015 US dollars). As per this data, the Indian GDP in 2022 stood at $2.95 trillion against IMF’s calculation of $3.39 trillion in current terms.

Hence, it makes more sense to look at GDP at constant prices, which takes inflation totally into account. As per this data, in 2022, India was the sixth largest economy in the world, behind the US, China, Japan, Germany and the UK (see chart).

The world in 2029

In 2022, the GDP of the UK, in constant terms, stood at $3.16 trillion. The British economy has been in a bad shape post the covid-19 pandemic. The GDP in 2022 was lower than the 2019 GDP of $3.17 trillion. In fact, even in the pre-covid world, Britain grew at a very slow pace—by 2.03% per year between 2009 and 2019. The overall per year growth in 2023 and 2024 is expected to be lower than 1%. Given this, in 2024, the Indian economy should become bigger than the British economy.

In order to become the fourth largest economy in the world, India will have to overtake Germany. The German GDP in 2022 stood at $3.62 trillion, which was just a little better than its 2019 GDP of $3.60 trillion. Also, like the UK, Germany grew at a very slow pace in the pre-covid years—by 1.95% per year between 2009 and 2019. The size of the German economy is expected to contract in 2023 and barely grow in 2024.

Even if Germany grows at 2% per year between 2022 and 2029 and India grows at 5.1% per year, India should be a bigger economy than Germany by 2029. Looking at how things stand currently, India’s chances of becoming the fourth largest economy in the world by 2029 are pretty good.

Japanese challenge

This is the tricky bit. As mentioned earlier, Japan is currently the third largest economy in the world. In 2022, it had a GDP (in constant 2015 US dollars) of $4.51 trillion, far bigger than the Indian economy.

Japan has been growing at a very slow pace over the decades. The per year growth between 1989 and 2019, a period of three decades, has been 1.04% per year. For a period of two decades ending 2019, the growth was 0.82% per year. For the decade ending 2019, the growth was 1.2% per year.

In fact, the size of the Japanese economy in 2022 was smaller than its size of $4.55 trillion in 2017. The World Bank expects the country to grow by 0.8%, 0.7% and 0.6%, in 2023, 2024 and 2025, respectively. The IMF forecasts a growth of 1.4% and 1%, in 2023 and 2024, respectively.

Taking all these factors into account, let’s assume that Japan grows at the rate of 0.8% per year from 2022 to 2029, similar to its per year growth over two decades in the pre-pandemic era. At this rate of growth, the Japanese GDP in 2029 will be $4.77 trillion. To overtake Japan, India needs to grow at more than 7.1% per year in constant 2015 dollar terms over the next seven years.

In the 10-year period from 2009 to 2019, India grew at 6.63% per year. If one were to look at growth between 1991, when economic reforms were initiated, and 2019, it stood at 6.43% per year. So, expecting a higher than 7.1% per year growth is a bit of a stretch, especially in the aftermath of the pandemic—the GDP growth between 2019 and 2022 stood at 3.19% per year.

Of course, it’s possible that Japan might grow slower than 0.8% per year. What if it grows at 0.5% per year? Then the Indian economy will have to grow faster than 6.78% per year to become bigger than the Japanese economy. This again looks a tad difficult, going by the past and the current scenario.

Having said that, ceteris paribus, the Indian economy will most likely become bigger than the Japanese economy in the early 2030s. The chances of that happening are pretty good.

Par for the course?

Most Western economies which are bigger than India have never really been able to come out of the negative effects of the financial crisis of 2008. They are also facing a contraction in their working-age population (except the US), which consists of population from the age of 15 to 64.

In Japan, the working-age population peaked at 87.2 million in 1994 and has since contracted by around a sixth to 73.1 million. As Ruchir Sharma writes in The 10 Rules of Successful Nations: “Economic growth… is the sum of… how many more workers are entering the labor force, plus how much more they are producing." The idea is that as more individuals enter the workforce, they find jobs and spend money, in the process drive economic growth.

In India’s case, the population from ages 15 to 64 continues to grow, albeit at a much smaller pace than in the past, and in 2022, this cohort totalled 961 million. In fact, if we look at India’s youth population (individuals in the age bracket 15-29), it throws up a very interesting trend. As a government report titled ‘Youth in India 2022’ points out: “The total youth population increased from 222.7 million in 1991 to 333.4 million in 2011 and is projected to reach 371.4 million by 2021." In fact, the number of Indian youth might already have peaked. It is expected to contract to 367.4 million by 2026, 356.6 million by 2031 and 345.5 million by 2036.

Income matters

In all the hype around India becoming the third largest economy in the world, one should not forget that the per capita income, or the average income of an Indian, is a metric that matters more. While the British and Indian economies are almost similar in size, in Britain’s case, the population is significantly lower than that of India. Hence, its economic output, which is almost similar to that of India, is actually shared among fewer people, making the economic situation of an average Britisher much better than that of an average Indian (see chart).

In 2022, India’s per capita income was at $2,085, whereas it was $47,232 in the UK. This is a metric that needs to be talked about more if the idea is to talk about the real economic scenario as it prevails.

Vivek Kaul is the author of Bad Money.