Ruchir Sharma

Ruchir Sharma is an investor, author, fund manager and columnist for the Financial Times. He is the Chairman of Rockefeller International, and was an emerging markets investor at Morgan Stanley Investment Management. He is considered one of the best 10 global thinkers of the day. His recent book The 10 Rules of Successful Nations was reviewed by Piyush Jain”

This is an extract of the review.

The 10 Rules of Successful Nations By Ruchir Sharma is a fact-filled book, analyzing the trends over the year and various dependent variables on how the trends have shaped the nations. He also states that what worked and what did not work. We think many facts are against common sense but is done to maintain the system’s growth.

The author states that no matter which economy we talk about, economic trends will vary. Sometimes the economy will go high, and some time will slip south. Any long term forecast for the century or based on a few factors is bound to fail. WorldBank uses tons of factors to study the trends and develop a possible forecast; still, they do not get accurate results. Political, cultural, or some other factor may influence the course of history. No matter how thriving or broken a country’s economy is, it is more likely to return to the long-term average growth rate for its income class than to remain abnormally hot or cold indefinitely.

Watch for balanced growth, and focus on a manageable set of dynamic indicators that can anticipate turns in the cycle. With these principles in mind, the rules can help turn the dismal science” into a practical art, and perhaps nudge economists to think in ways that could help anticipate the next big crisis.

Chapter 1: Population

Successful Nations Fight Demographic Decline.

The author states that the population plays an integral part in the economic growth of a country. Any country that has a negative population growth rate will lead to slowing down in the economy. Specifically, the working population, which comprises the age group between 18 to 60 years, female people, immigrants, educated people, contribute to the economy. Countries face challenges, and they mitigate it using various measures, like increasing the working-age, including more women in the workforce, encouraging immigrants, encouraging education is the necessary measures. We see big economies like the US immigrants have majorly impacted the economic growth of the nation. Russia and other countries promoted the women workforce. 

Many countries like Singapore, Canada, Australia, France, and others promoted childbirth. China abandoned its one-child policy in 2015. The impact of state encouraged measures to increase population is relatively slow and unpredictable due to cultural and political reasons.

The population rise didn’t need to always result in economic growth. Political will and the right reform measures are essential along with the same. Else this may also fuel the civil unrest like Arab spring in 2010 and general turmoil during the 60s and 70s in Africa, China, and India state contrary to this fact.

When the population growth is negative, then it is bound to show negative growth at the point where it fails to provide the replacement in the workforce. We see that this bad news for nearly all the developed economies, while the population rises in Singapore, Australia will power the economic growth engine.

The US and Canada will have to maintain an influx of at least 3% of their workforce’s immigrants every year to support economic growth. Germany has to allow 1.5 million immigrants every year until 2030 to keep up. Japan will face similar pressure if it does not open up to immigration due to political and cultural reasons. They have to increase the intake from 50K immigrants to 500k. A similar situation holds for the South Koreans. Australia has successfully been able to maintain this influx and thus maintain economic growth.

Keeping the ratio of the dependent population low is another measure to fuel economic growth. Including the women workforce, increasing the retirement age adds to the output to the economy and the number of workers. Countries like Germany, Italy, Portugal increased the retirement age to 67 and are now thinking of increasing it to 70, corresponding to the average life expectancy age.

Countries that did not include women workforce in the economic output faced growth pressure. While the advanced countries increased the women workforce to maintain the growth, countries like Brazil had to include the women workforce to keep the economy going. Many countries like Russia, middle-east countries removed restrictions to include them in the economy.

Robots: Did the inclusion of robots cause a scarcity of jobs? No. It fueled it. Now the earlier ignored areas had people to work on, while the industrial output also increased. When banks started using ATMs, did it reduce the tellers’ jobs? Instead, the bank could now open more branches in many other locations, thus increasing its reach, business, and therefore jobs. Few economies like that of China could subsidize the population decline by the use of robots.

Chapter 2: Politics

Successful Nations Rally behind a Reformer

The author has given a punch statement In the circle of political life, a crisis forces a nation to reform, reform leads to good times, and good times encourage an arrogance that leads to a new crisis.”, which states it all.

The book narrates multiple examples where the leader first comes in as a reformer, conducts the reforms, and benefits society. Due to the excellent time and reputation, he becomes arrogant. Now he focuses on how to keep the power. Arrogance gives rise to another crisis. And the cycle continues. He states that Putin in Russia, Suharto in Indonesia, Mahathir Mohamad in Malaysia, and Recep Tayyip Erdoğan in Turkey are the living examples. 

Most of the states’ heads do good work in their first term, and they want to maintain power, so go in for the next term without a vision of reform. They live on their laurels, slowly wane down, and enter a pack of stale leaders. After that, their main focus is to maintain power by becoming dictators, such as Putin, in Russia and Xi Jinping, in China, who have got themselves a seat secured till decades. They are now in the pack of stale leaders with fictitious agendas. The only exception observed was that Lee Kuan Yew governed Singapore for three decades and never ran out of steam.

Further, the author states that the head of the state should be the masses’ man and not a technocrat. A man of the masses can convince and communicate with people for the reforms, while the reforms done by a technocrat will not be visible as there is a communication gap between him and the people. He states the example of Dr. Manmohan Singh. He was not a politician or a man of masses, and his reforms were not visible to the people. Technocrats can serve the reformer politicians and turn things around. An example is Bernard R Bell. President Suharto appointed him as the representative of the World Bank in Indonesia. His recommendations transformed the economy and gave Indonesia the status of the mini-Asian giant for the next two decades.

The progress should be in line with the people’s sentiments, or else it can fire back as in the case of Argentina, where all efforts to stabilize the peso fired back and messed up the economy.

The book also states that democracies tend to do better than autocracies. Autocratic rules could maintain the growth rate only to a certain level or time. After that, the economy messed up due to the first statement. Rulers run out of ideas, tend to focus more on power, culture, and meaningless things.

Chapter 3: Inequality

Successful Nations Produce Good Billionaires

The author states that there are two types of billionaires. Good and bad billionaires. The difference is like a business. Industries like manufacturing, infrastructure, services, technology, or of similar nature make good billionaires. In contrast, industries like commodities (mining, oil, etc.), real estate, renting, or similar nature make the bad ones. Various factors decide if the nation is on the right track or not.

What is the total percentage of a country’s wealth in the hand of the billionaires?

1. When a high percentage is in the hands of the billionaires, there is a good possibility of unrest. Few extreme cases are that of Robert Mugabe of Zimbabwe, Kenneth Kaunda of Zambia, and Julius Nyerere of Tanzania.
2. Compared to the total billionaires’ wealth in good economies, the percentage of bad billionaires’ wealth is relatively less. The US has 14% bad billionaires wealth compared to 67% to that in Russia.
3. Billionaires due to family ties and self-made billionaires is another parameter. The person may inherit wealth from his family or get benefits due to political connections. The number of self-made billionaires would be the parameters that decide whether the economy is growing or not.
4. Self-made billionaires like Google, Microsoft, and Facebook were also subjected to scrutiny to stop monopolistic practices.
5. Bad billionaires look forward to shifting the balance of wealth in the society, while good billionaires look forward to increasing the pie.

Chapter 4: State Power

Successful Nations Have Right-Sized Governments

How big should the Government be in a country? Big enough to sustain a crisis and small enough to do the basic governance tasks. The governments should be able to generate revenue out of taxes and activities and spend on necessary public conveniences like infrastructure and facilities.

There have been various cases where the government earned money in taxes but did not spend on public welfare. Sometimes the government spent the money on general interest. Still, they dolled out the cash in freebies & subsidies and not as facilities (Like India did on MNREGA and not on infrastructure).

The governments should increase the tax base (like India is doing), the country’s economy can crumble, like that of Pakistan, Nigeria, and Egypt. In these countries, more than 30% of the economy is running the black market. People avoid banks, deal in cash transactions to avoid tax. Even rigorous enforcement may be harmful, as per the example of Indonesia, where tax enforcers were everywhere, leading to a slowdown in the economy.

Another excellent example the author quotes is that of China. China though a communist country, how did it’s economy grow exponentially? The Key was to let decrease the control over the business and allow them to expand and flourish. When China let loose it’s rigid control; the business grew 300 times. China also protected a few of its state-run companies like that of PetroChina. As soon as that protection was out, the company dropped from 1st to 14th position on the world index.

The author further states that the economies with less state-owned banks perform better as the state can not use the money for their political benefits. While China, Brazil, and Thailand governments have a 45% stake in the banking system, India, Malaysia, and Russia, Governments hold a 60% stake. They should look forward to decreasing the control there to reduce the risk of bad debts on government systems.

Similarly, the governments should reduce their holdings in the state-run companies, as they will be prone to exposure of subsidies and freebies to the public from the political system. While some countries give out freebies, like welfare schemes, free gas, subsidized fuel, etc., countries who could do it and were relatively affluent like Taiwan and South Korea concentrated on building the basic infrastructure to promote the private economy.

Chapter 5: Geography

Successful Nations Make the Most of Their Location

The author stresses the point that successful economies have made the best use of their geographical location. Again the example is China. It built deep seaports in the fishing villages and has the top 6 of 10 worlds’ busiest harbors.

Prosperous countries have good ties with their neighbors to promote each others’ trade. The price would be competitive, and the region flourishes collectively. In Europe and Southeast Asian countries where the countries there have the least of trade embargos. Somehow South Asian countries (India, Pakistan, Bangladesh, and Sri Lanka) could not resolve their frictions and take advantage of this. China is further planning to connect to all countries in Europe. It is spending $300 B to build the new silk route and promote its trade with other countries. China is also funding projects in various countries (Sri Lanka, Pakistan, and a few African nations) to get trade advantages.

Countries also look for opportunities to grab businesses. When manufacturing becomes costly in one state or our own country, other countries on a lookout will seize it to enhance its trade, like what Vietnam and Taiwan are doing.

Countries also need to decentralize. They should develop additional 2nd cities. Decentralization reduces the citizens’ frustration that the development and jobs are just in few metros, stops anger, and gives more space for trade and gives benefit to the region. Again, stating China’s example, the author says that 19 cities have developed, while in India, two cities come in the list (Mallapuram and Kollam). Decentralized economic activities are considered useful in the long run. The author explicitly states that India tried creating Special economic zones to promote trade, but the government bureaucracy left that ineffective.

Finally, the author says that a country needs to focus on opening its doors on three fronts: to trade with its neighbors, the wider world, and its provinces and second cities. Many countries have converted themselves and got out from deep poverty to prosperity and strength by effectively using their geography.

I would suggest that if you want to understand geography’s effect on a country, please read.

Chapter 6: Investments

Successful Nations Invest Heavily, and Wisely

All eyes, all economics students (at some points of time), GDP is the sum of spending by consumers & government plus investment and net exports. (C + G) + (I + X) = GDP.

The I (Investment by the government and the private sector) is the key here. The investment parameter shows how much is the government and the private bodies investing in the factories, infrastructure, services to generate jobs and products. Investment fuels all the other factors as C, G, and X.

How much should be the G? Government spendings ideally should be between 25-35 % of the GDP. Weaker economies have this value of around 20%. When you see the people traveling on the rooftops, unpaved roads or no connectivity between areas, rampant corruption, and difficulty accessing public services, this indicates that the government is not doing enough on the same. 

Investment also matters where it is done. Good investment goes on roads, bridges, railways, ports, technology, manufacturing, while the bad investment goes to real estate or commodities and may lead to problems in the long term. Any asset which leads to less increase in productivity will not be beneficial in the long run. Investment in infrastructure will further reduce transportation costs to the consumers or the exporters, which will give an additional advantage to the manufacturers. Only Investment in commodities like mining, lumbering will lead to problems in the long run. While it may also happen that investment in commodities and technology may give a long term advantage like the example, is Shale gas. This research in the petroleum area got techniques that reduced the price of extraction of oil and gas, thus cheaper fuel.

Investment in services is another area which many countries are focusing on. But it has to let that surpass the manufacturing sector. The service sector still employs a tiny percentage of the workforce. Yet, it should not be ignored in the time to come.

The manufacturing sector gives a strong foundation for any country. Manufacturing builds its shock resistance against many things like an economic shock like that of 2008 or even social unrest. A good example is that of Indonesia. Indonesia had six coups since 1930 and the latest one in 2014, still due to a good manufacturing base, it’s economy maintained a growth rate of 4 percent.

The author further emphasizes on the investment in the technology sector. He states that acquisition of any kind in the technology sector reaps benefit sometime or the other. An example is setting up the optical fiber network in the US in the dot-com boom time. The cables lay idle till a specific time, but later the US is getting the advantage of high-speed internet now. Similarly, China’s investment in robotics is reaping the benefits from all walks of life, from personal use to the manufacturing industry. Though many jobs may be lost due to automation, other sectors will create jobs for people, as shown earlier historically. Any country that facilitates the tech boom in their country will be in advantage. Smaller economies like Mexico, Israel, are doing everything for the tech companies to establish their countries’ bases.

Startups are other prominent areas. The companies which are in the current top 10 will not be there in the coming decade. Which will be, will be decided by the strength of some startup in the country.

After a lot of investment in all good things, the economies tend to move towards the real-estate part. Again the example is China. After the saturation of investment in good things, Chinese people started investing in real estate. This development of real-estate led to the build-up of multiple ghost towns, under-utilized, and slower growth due to non-productive investment. Once people recognize this, they will start investing in productive areas again. Investment in bad areas like commodities and real estate, will initially give a boom to the local economy and decrease it back to initial levels. The author has given various examples of the data.

It also happens that the good economy due to the excellent investment, later on, leads to a boom in bad investment too. Like as people get more money in hand, they will buy houses (more than they need) or gold.

The right fit of a good investment in the economy lies between 25 to 35 percent for balanced growth.

Chapter 7: Inflation

Successful Nations Control the Real Inflation Threats

The author states that there is no other parameter that impacts ALL in the economy more than inflation. Inflation affects the citizens’ day-to-day living and worries the economist for the macro-level parameters on which the economy runs.

There are a few ways to control inflation. 1st is keeping the economy open to global trade. If inflation increases, then procure the goods from cheaper places. International trade will itself push the prices down. These price cuts will weed out inefficiencies in the manufacturing sector. The 2nd way is to control the cost of money. Only an independent central bank can do this. They should control the repo rates as per inflation. If the central bank is not independent, then politicians may be lured to decrease the repo rates to please the voters. Many countries fighting inflation gave their central banks independence and could control inflation in a few years.

An increase in inflation also leads to social unrest. Many Governments have toppled/lost due to high inflation. The incoming investment from any source also fuels inflation. The initial investment is equivalent to sparks flaring as the engine starts. Subsequently, as the development happens, the inflation will settle down. Real estate doom may decrease inflation as when one has a property, it will feel more inadequate and spend less.

Industrial development, in turn, decreases inflation. As the production cost decreases, the value of goods decreases, and thus fall in price. This industry also leads to consumers holding back until the prices drop further. Deflation (or negative inflation) is not good as this slows down the economy. Deflation also may be a sign of growth. When the economy progresses, due to technology growth, the prices decrease, and there is a high availability of goods at lower prices, thus fueling demand. The right fit in a growing economy is to have a little inflation. The magic number is 2% inflation.

Chapter 8: Currency

Successful Nations Feel Cheap

Feel” is an important word here. How does one feel when he travels to another country? Does he feel that things are cheap there, so he spends on items, tourism, and travels there without remorse? Then that country is booming. The author gives a few examples, which we can correlate with, ceteris paribus applied. Another aspect; It is not essential that only the feel is important. If one feels cheap, still the money is not coming into the economy, something is wrong. That means the currency will depreciate further, or the policies in the country are not good enough.

If the money is coming into the country through either means like remittance from people working abroad, interest payments, or investments, then the economy shows a good sign. Paying the imports bills will be more comfortable. In case this export-import deficit is more than 5 percent of the GDP, then this is a sign of an economic recession coming in the country. Apart from this, some amount of deficit is ok, like 3%. It also matters on what is the reason for the deficit. If it is due to luxury goods then not right, while it is good for the economy due to the import of machinery for factories, it is good for the economy. 

Further, the author states that the US Dollar is the currency of the world. The US economy is 24% of the total world’s GDP. All the central banks of the countries in the world hold $12 trillion as their foreign reserves. Many countries use the USD as their de facto currency.

Globalization of banking also has changed a lot of paradigms. Now a country with good economic policies will attract a lot of capital inflow like China did before 2007. Their foreign reserves swelled to $9 trillion (16% of the GDP) and deflated to $1.2 trillion in the 2008 crisis. The deficit tipping point for the economy may be at 3% in the coming time.

Further, the author states that money has no loyal, be it locals or FIIs. It will be the locals who are first to flee the market when they see the signs of depression coming in. Locals will have an understanding of the local issues better compared to the FIIs. They will convert their money to gold or shift to other currencies. The flow of money is the best indicator of the looming crisis. In 2014, the rouble crashed, and the money started flowing out of Russia 2 years earlier, on some of the other pretexts to greener pastures.

Why don’t countries devalue their currencies to gain an advantage in global exports? Because the states do not only export. They have to import too. They have foreign debts also. If they devalue, then paying off the debts would be more difficult. If their import comprises essential goods, then it would become difficult for the economy to get them. Apart from this, the competitor countries would immediately devalue their currency to remain competitive in the market.

Further, the author says that the state control on the currency would be punished in the market, and cannot sustain for long. It would lead to less confidence in the market and flight of capital. In most cases, it would be a subsidized move for the capital flight as they would get out safely without losses due to currency fluctuation.

Chapter 9: Debt

Successful Nations Avoid Debt Mania (and Phobia)

In this chapter, the author states various examples where the debt can be an economic booster when used in the right manner, while it can wreak havoc on the economy if used in the wrong way.

A society/nation can have a debt mania or phobia. When it is on debt mania, the people/the industry will take debt for their growth. In case the rate of economic growth is greater than the rate of increase in debt, then it is ok, while if it is the reverse, then the financial system is in for a big problem. This was the case in many countries in different years, where the portion of debt rose substantially high. The debt to deposit ratio of the banks rose, and banks were in a problem. When this ratio is 0.8, then the system is healthy as the outflow and inflow are as expected.

When mania strikes and banks are overly bullish on the economy, they may tend to give loans to even those who cannot afford it. This is the time when the banks enter the bad loan area. To support the banking system, when the state jumps in, they start owning the loan, and further, they too join the crisis.

The author states the example of China. China has been a loan maniac as they bought everything on loan. Even after the 2008 crisis, till 2018, $80 trillion loans were distributed worldwide; of this, $35 Trillion was alone China’s share. They bought factories, houses, even stocks on loan. There was such a hysteria in China that we can achieve any growth rate, and patriotism is linked to it. But lately, they could not sustain that growth, as real-estate prices also fell, and companies could not perform to those levels on which the stocks were selling.

When citizens lose trust in the banking system, they will not trade with it. They would keep the money out of the banking system. Mexico is one such example. They did not take loans or mortgages to expand on the industry or real estate, leading to a slow rise in economic growth. At the same time, Brazil and Chile grew their economy three times faster.

When the banking system enters the crisis mode, what should it do? Should it punish the debtors and forfeit their property to retrieve the money? Should they forgive the loans and inject fresh capital into the economy? If they penalize the debtors, they will decrease the citizens’ confidence in the system, and the time to recover will be very high. If they forgive the debtors, then the economy will rise faster, as the citizens’ confidence will remain in the banking system, and debtors will not be scared away.

Chapter 10: Hype

Successful Nations Rise outside the Spotlight

The author states that one should not follow the media hypes too seriously. The countries that were were once hyped for hyper-growth fell flat due to various reasons. Countries that were looked upon as inflicted with poverty and corruption slowly rose to be the world’s economic powerhouse. The author states that there is a sort of a curse, that one who is hyped and comes on the cover story of the Times Magazine, would have a high probability of falling the expectations. More than 55% of the promoted stories have fallen below even the normal.

The author states a few simple observations: Wise national leaders try not to let the hype go to their heads and keep pushing reform even when the economy is roaring, and the world is applauding. Right forecasters know to look for the next big success stories not among the nations most loved or hated by the markets and media, but among the forgotten and ignored.

Finally:

The author states that to understand that to assess where exactly the economy is going, one should use these 10 rules. It will rarely happen that all the 10 fit the bill on some economy but it will give a fair idea of where it is heading.