A remarkable feature of India’s growth experience has been its resilience to shocks. In many countries, short periods of high growth appear to be punctuated by years of poor growth.^[3] Largely speaking, this has not been the case in India over the last 25 years. This is reflected in the figure above, which shows a sustained increase in average GDP growth rates, coupled with a sharp decline in GDP growth volatility from the decade 1980–1990 onwards.

This resilience of growth in recent decades is an important change when compared with preceding decades. In 1973 and 1979, growth in India was adversely affected by oil shocks. In the later period, this vulnerability appears to have been greatly reduced.

This aspect is important in understanding India’s growth experience. It is important to address the questions: Why has India’s growth been so consistent? Why has growth accelerated from decade to decade, without encountering the difficulties which are observed in many other developing countries? Why has India exhibited such resilience to shocks?

One could maintain a hypothesis that the Indian economy was exposed to smaller external shocks in the period after 1980; that this drop in volatility is an artefact of a benign external environment. However, this is just not true. In these years, the economy has faced many shocks, including international financial crises, security tensions, international sanctions, etc. From roughly 1995 onwards, the world has emphatically not been a quieter place. Hence, the drop in GDP growth volatility seems to reflect a genuine improvement in macro stability and not a lack of shocks.

Another possible hypothesis is rooted in currency flexibility. A broad consensus that appears to be emerging in the literature suggests that greater flexibility in exchange rates is conducive to enhanced macro-stability. A recent paper^[4] by Edwards and Yeyati finds that terms of trade shocks are exacerbated in countries with more rigid exchange rate systems. In their empirical work, under flexible exchange rates, the effects of terms-of-trade shocks on growth are approximately one half of those under pegged regimes. They also find that under inflexible exchange rate regimes, output growth is more sensitive to negative than to positive shocks.

If the economic reforms in recent decades had moved towards greater currency flexibility, then this could have been pointed to as a key source of improved resilience. However, a series of recent papers^[5] have demonstrated that in India’s case, currency flexibility has been broadly unchanged since 1979. Hence, a change in the currency regime does not constitute a feasible explanation for this decline in GDP growth volatility.

One element of an explanation appears to be the improvement in price flexibility that took place in many other areas of the Indian economy. While price flexibility on two important markets — currency and food grains — did not go up, price flexibility rose sharply in the 1990s in myriad other areas such as interest rates, steel, cement, etc. In these areas, price volatility had been stifled in the traditional command-and-control paradigm of economic policy, and prices were freed up in the 1990s. This is expected to have improved the ability of the economy to adjust to shocks through changes in prices. A second explanation that we offer relates to the maturing processes of democracy, which I will come to later.