Middle-Income Trap

Syllabus: GS3/Economy

Context

• India is a middle income country despite being the world’s fifth-largest economy by nominal GDP, highlighting the issue of Middle-income Trap.

About

• As per the Finance Ministry India is expected to become the third-largest economy in the world with a GDP of $5 trillion in the next three years and touch $7 trillion by 2030.
• India has also set an ambitious target to become a US$ 30 trillion economy by 2047.
  • NITI Aayog’s vision for Viksit Bharat aims to elevate India to high-income status by its centenary of independence.

NITI Aayog’s ‘Vision for Viksit Bharat @ 2047

• India must grow its GDP ninefold from the current US$3.36 trillion and increase its per capita income eightfold from US$2,392 per annum to reach developed nation status. 
• The paper identifies structural challenges such as enhancing manufacturing and logistics and bridging rural-urban income disparities.
• It highlighted the need to balance energy security, access, affordability, and sustainability.
  • It also stressed the importance of improving industrial competitiveness to transform the agricultural workforce into an industrial one.

Classification of Countries by World Bank

• The World Bank’s income classifications divide countries into four categories based on their gross national income (GNI) per capita.
  • Low-Income Countries (LICs): GNI per capita of $1,145 or less
  • Lower-Middle-Income Countries (LMICs): GNI per capita between $1,146 – $4,515
  • Upper-Middle-Income Countries (UMICs): GNI per capita between $4,516 – $14,005
  • High-Income Countries (HICs): GNI per capita of more than $14,005. 
• The World Bank revises this classification every year on July 1 based on the latest Atlas Method GNI per capita data. The classification applies to all countries with a population over 30,000.

Middle Income Countries (Data World Bank)

• Middle income countries are home to 75% of the world’s population and 66% of the world’s poor.
  • At the same time, MICs represent about one third of global GDP and are responsible for 40% global economic output.
• Over the last 34 years, only 34 middle-income economies have transitioned to higher income levels, most countries were part of the European Union.
  • It also includes Saudi Arabia, Latvia, Bulgaria and South Korea.

Middle-income Trap

• The World Development Report 2024 by the World Bank — calls attention to the phenomenon of the “middle-income” trap.
• It is described as a situation where countries struggle to attain high-income status.
  • It was coined in 2007 by the World Bank to describe countries mostly in Latin America and the Middle East who, despite economic growth and falling poverty rates, were never able to become high-income countries.
• Factors that contribute to this include:
  • Rising labor costs: As wages increase, industries that depend on cheap labor relocate elsewhere, leaving the country without a new competitive edge.
  • Declining competitiveness: A lack of investment in higher-value industries, such as technology or advanced manufacturing, lead to economic stagnation.
  • Insufficient innovation: Without strong innovation ecosystems, countries fall behind in global competition.
• Currently, there are 108 countries — including major economies like China, Brazil, Türkiye and India — stuck in the “middle-income trap”.
  • Insufficient development of domestic innovation capabilities is at the heart of the middle-income trap.

Challenges Faced by India

• Innovation & Technology Adoption: Low investment in R&D and innovation limits economic diversification.
• Agriculture Dependence: Large portions of the population are still dependent on low-productivity agriculture.
  • Employment is increasing in agriculture and in low-productive forms following the pandemic.
• Slow Wage Growth: According to the Periodic Labour Force Survey (PLFS), nominal wages for regular wage workers at the all-India level between April and June 2023-24 has only grown at around 5%, and that of casual workers at roughly 7%.
  • With an inflation rate of roughly 5% during this time, this implies that wage earners have seen little to no real wage growth. 
• Global Competition: India faces stiff competition from other emerging economies seeking growth.

Way Ahead

• Middle-income countries now face bigger challenges such as: ageing populations, geopolitical and trade frictions, and the need to speed up growth without impacting the environment.
• A comprehensive innovation-focused strategy with strategic active policies is the only way to escape the middle-income trap. 
• Suggestions: 
  • Boosting innovation and technological development.
  • Investing in human capital, particularly through education and skills development.
  • Promoting industrialization, especially in high-value manufacturing and services.
  • Improving infrastructure in underdeveloped regions.

Source: IE