Economic growth in the states of India: Revisited

Achieving faster growth has been a striking feature of India’s economic development over the past decades. The reform process in India traces back to the late 1970s, as the process of economic liberalization started. The subsequent reform in the 1990s significantly lifted the Indian economy into a more open and more market-oriented economy with a larger role of private sector participation. As the reforms began to bear fruit, over time, the Indian growth has accelerated and the poverty rate has declined. However, at the state level, India’s economic growth appeared unbalanced and income disparity has widened. A number of poorer states has not been able to catch up with richer ones, and the growth performance of those poorer states was generally worse-than-average. The ratio of the top-to-bottom net state domestic product per capita has increased to more than ten times in 2014/15 from about four times in 1980/81.

This study finds divergence in per capita income across Indian states. There are two criterions for income convergence, where (i) initially poorer states would grow faster and catch up with initially richer ones and (ii) the dispersion of states’ per capita income would narrow over time. The analysis is based on traditional convergence tests and complemented by panel unit root tests using the per capita income of 32 Indian states during 1961-2014. It finds weak evidence of income convergence during the pre-1990s reform period. In the subsequent periods, however, there is no evidence of absolute convergence, but rather conditional convergence after controlling for various policy variables such as the economic sector composition, financial development and access, demographics and education. State-based measures of income dispersion also increased significantly, especially after the 1990s.

Differences in states’ policies and economic structure appear to contribute to the disparities in income and growth performance across Indian states. Conditional income convergence among Indian states, taking into account states’ policies and economic structure reflects wide gaps in individual states’ steady-state or long-run income potential.

Greater investment, better credit allocation to the most productive sectors, as well as policies to facilitate the states’ transition into higher value-added services or industry could help create more jobs and growth. Spending on health and education by states is important to help improve the quality of human capital. Wide-ranging product and labor market reforms will help boost competitiveness and productivity, thereby improving states’ long-term growth potential.