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What Powers the Growth of China and India?

http://finance.yahoo.com/columnist/article/futureinvest/2237?p=1

By Jeremy Siegel, Ph.D.
Monday, January 16, 2006

I've just returned from a two week tour in India, capped off by an address to the Wharton Global Alumni Forum in Mumbai. It was my first trip to that country in more than 45 years. It was one of the poorest countries in the world when I first visited in 1960, and poverty remains the norm today.

But stay tuned! India is emerging from its long slumber and stands ready to rival China in the global market place. In a later column I will compare investor prospects for China and India, but here I will discuss the sources of economic growth and what makes me so optimistic about the future of those countries.

In my book, The Future for Investors I explain why developing nations, such as China and India, have an unprecedented opportunity to grow their economies. China has lifted many of its people out of poverty by investing in up-to-date capital, education and training, and letting the market, rather than the government, decide what should be produced. India is in the early process of doing the same. Both are setting the stage for a period of staggering discovery, invention, and technological change.

The Industrial Revolution of the 18th century kicked off two hundred years of the greatest growth in the world's history. But that growth will pale in comparison to what's next.

The Growth of Knowledge

We take for granted that tomorrow we will know more about the world than we know today. But throughout history, this was not case. Great inventions of the Chinese more than a thousand years ago were lost for many centuries before being reinvented by others. Similarly, many advances achieved in the Middle Ages and during the Roman Empire were lost for generations.

But starting with the Industrial Revolution the stock of knowledge grew continuously as did the rate of productivity growth. What caused this change? What are the fundamental sources of technological change and productivity?

History provides the answer: the ability of individuals to freely communicate their ideas with others and record them so that others may build on them. Progress accelerates when people work in an economic framework that encourages and rewards those that bring ideas to fruition.

A Look at History

Michael Kremer, a Harvard economist, convincingly argues that until very recently, the density of population was a very good indicator of economic progress because high population density led to increased communication, greater specialization, and the discovery of better techniques for food production. This is why Eurasians had the greatest rate of discovery, followed those in the less densely populated Americas, while those few that migrated to Australia had primitive skill levels.

The ability to communicate accelerated rapidly when China's Ts'ai Lun discovered paper in the second century and again when Johann Gutenberg brought the printing press to Europe more than a thousand years later.

China: Rise and Fall

But the transmission of ideas is not sufficient for progress. New ideas must be recorded--and embraced--so that others can build on them. The rise and fall of China over the last millennium demonstrates how the suppression of new ideas by the reigning authorities led to stagnation and then decline.

China in the 13th and 14th centuries was generally recognized as the most advanced civilization on earth. The Chinese invented paper, timepieces, gunpowder, encyclopedias and moveable type in the ninth century, 500 years before Gutenberg re-invented the printing press.

But all of this was lost. The Ming Dynasty squelched invention and discovery by destroying encyclopedias and others sources of knowledge accumulated over centuries.

"China came within a hair's breadth of industrializing in the 14th century, yet in 1600 their technological backwardness was apparent to most visitors; by the nineteen century the Chinese themselves found it intolerable," wrote Charles Jones, a professor at Stanford University.

In 1455, Johannes Gutenberg fundamentally transformed how information was accessed and transmitted when he invented the printing press. Before Gutenberg it took a scribe six months to copy a book.

After 1500 a rush of scientific achievements laid the foundations of modern science. But Europe had to wait at least two centuries before these discoveries could be turned into the building blocks of the Industrial Revolution. The capital structure of private ownership and a general cultural receptivity to new ideas needed to be established.

The True New Economy

Today, we're on the verge of another revolution - the Information Revolution. All the ingredients are in place. The two most populous countries on earth, China and India, have turned towards a market-oriented system and have liberalized their economies. The vast stock of information is now beginning to flow freely throughout the world, and the ripple effect will spur inventions for years to come.

In 1675, Isaac Newton, called by many as the greatest scientist of all time, said, "If I have seen further, it is by standing upon the shoulders of giants." Newton was referring to the works of Galileo in astronomy and Kepler in physics upon which he based his discoveries. In those days, only a select few had any access to the latest scientific discoveries. Today, anyone with an Internet connection can access cutting edge research in science and technology.

Major scientific breakthroughs, which in the past, originated primarily from the West and Japan, will now come from everywhere. Many brilliant people with previously untapped potential can now tackle the world's toughest challenges. Thanks to the Internet and search engines, information is being shared like never before. Great collaborative research will be undertaken by a population that previously was completely shut off to this knowledge.

Since the number of people with access to the global stock of knowledge has increased dramatically and information is transmitted much more rapidly, it's logical to expect the pace of discovery to accelerate.

India's Road Ahead

When I last visited India, great US companies like GM, U.S. Steel, and IBM ruled the world. But now, Indian firms like Reliance, Wipro, Infosys, Mittal, and Tata are standing in the wings, ready to become the next giants. China and now India are awaiting their day in the sun. In the next column I will discuss the pros and cons of investing in these developing countries.