Development Policy Implications for Growth and Regional Inequality in a Small Open Economy: The Indian Case

• Author: Aparna Sawhney,Alokesh Barua
• Date: 01 August 2015
• DOI: http://doi.org/10.1111/rode.12154
• Published date: 01 August 2015

Development Policy Implications for Growth and

Regional Inequality in a Small Open Economy:

The Indian Case

Alokesh Barua and Aparna Sawhney*

Abstract

Inclusive economic development has become a pressing goal of government policy in India in the face of

rising regional inequality. This paper examines the role of targeted development policy action in inducing

economic growth and also in reducing regional income inequality during the last two decades (since the

beginning of the 1990s)—a period marked by increasing trade openness. In our disaggregated analysis of

the states, we find that while the government capital expenditure policy has had significant positive impact

on output growth of the poorer states, it failed to break the trend of escalating regional inequality. The

policy has been significantly more effective in enhancing manufacturing sector output in the poorer states

compared with the richer states. On the trade front, while the poorer states gained somewhat in income

growth from greater openness, the gains were not large enough to offset the increasing regional disparity.

1. Introduction

The spectacular growth story of India since 2006 has been accompanied by a rather

disconcerting feature of persistent and increasing regional income inequality.1While

the rising inequality in income in itself is a serious policy concern, what perhaps is

more disturbing is the slowing down of the growth rate since 2010.2Indeed as

Bosworth et al. (2007) observed, the Indian manufacturing sector has failed to play

the key role in sustaining growth, although the services sector has exhibited substan-

tial productivity growth since the early 1980s. Interestingly, Krishna and Bajpai (2011)

have argued that “impulses to growth” have spread in lineal fashion “flowing sequen-

tially from larger cities down to smaller ones”. The observed phenomena of slowing

down of growth and the rising inter-regional inequality in India raise two important

questions that have not been addressed in the literature with sufficient analytical rigor

so far: first, to what extent have government affirmative policy interventions to

improve infrastructural facilities helped in increasing manufacturing productivity and

thereby growth; second, what has been the role of trade in increasing growth and low-

ering regional inequality in the post-liberalization period.

In analyzing the impact of public policies on growth and regional inequality, Martin

(1999) developed a two-sector endogenous growth model and showed that an

improvement in infrastructure facilitating transactions between regions tends

to increase both spatial concentration of industries and growth rate and reduce

income gap between the two regions. However, with regard to the impact of trade

openness on growth, there is evidence of a strong significant positive association

* Barua: Centre for International Trade and Development, Jawaharlal Nehru University, New Delhi

110067, India.E-mail: Tel: +91-11-26704393; E-mail: abarua@mail.jnu.ac.in.Sawhney: Centre for Interna-

tional Trade and Development, Jawaharlal Nehru University, New Delhi 110067, India. The authors would

like to thank an anonymous referee for useful comments and suggestions on an earlier draft.

Review of Development Economics, 19(3), 695–709, 2015

DOI:10.1111/rode.12154

© 2015 John Wiley & Sons Ltd