A Business Standard headline on September 11 read “’IIP up 13.8% on capital goods.” With manufacturing growing at 15 per cent in July, the finance minister was quoted as saying that “…it is a good sign as high industrial growth would result in more job creation”.
Some may celebrate but for others this growth raises a red flag. At a recent discussion among global business leaders, the big question on India was whether this high industrial growth is a bubble — the common refrain being the lack of infrastructure to support it — or whether it shows India on a new, sustained growth trajectory. Sceptics rightfully question statistics since they can hide more than they reveal.
Both points of view are right and wrong. Let me explain.
I was delighted when in this year’s Budget speech, our finance minister said the manufacturing sector has been the growth engine for the economy. It marked a recognition that at this stage of our industrial development, when a large number of unskilled and semi-skilled people will migrate from rural to urban areas, creating manufacturing jobs is critical for absorbing these vast numbers.
But is manufacturing growth creating these jobs? The last two decades has seen India’s manufacturing sector growing at six to seven per cent a year, second only to China. In this same period the growth in formal employment in the sector has been, at best, marginal. It is not that the capital intensity or labour productivity has dramatically increased. Most of the employment has grown in the informal sector. So the notion that manufacturing growth equates formal employment growth is not strictly true.
Two critical indicators cause concern. First, manufacturing productivity is not growing fast enough. Between 1995 and 2008, productivity growth has been in low single digits. By comparison China’s productivity has grown at around 13 per cent in the same period.
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Second, we are not “deepening” our economy fast enough. The fact is that India imports most of its capital goods requirements. In the five-year period from 2003 to 2008 manufacturing GDP has grown by about 1.5 times, but net imports of industrial machinery and equipment have grown nearly 7.5 times.
Although the recent performance of the capital goods sector is heartening, I believe we have reached a cross-road in the development of our industrial base. India needs over 220 million jobs between now and 2025. The manufacturing sector has to provide at least 100 million of these. We all know that the labour intensity can vary dramatically from one industry to another. The paper and wood products industry requires 45 times more people than the metals industry for the same output in value terms. Do we need to make specific choices on the industries to incentivise and support to create more jobs? Clearly, industries like paper and wood products, textile, leather and food products have a much higher capacity to create jobs for the same level of investments than, say, transportation equipment or chemicals.
The demographic advantage of India’s low-cost abundant labour has been touted by one and all. It is an advantage only if this labour is productive and competitive. In 1995 India’s manufacturing sector had a higher labour productivity (measured in value of output to labour cost) than China. By 2000 China’s overall labour productivity had overtaken us, and now it is improving annually at nearly double India’s improvement rate.
Five factors have contributed to this: (i) better infrastructure which allows bigger scale plants; (ii) higher availability of lower cost funds which also support larger plants; (iii) faster project execution which means faster time-to-market and higher revenues; (iv) government-induced consolidation and phasing out of low-tech plants; (v) strong clustering actively promoted by the government.
A plant in a competitive cluster can have as much as an eight per cent lower operating costs compared to a plant outside a cluster. Our industrial clusters like the pharma cluster in Hyderabad or the automotive cluster in Chennai have largely evolved on their own. Clusters are not only about physical co-location of plants or supply chain partners. Having a knowledge centre in the form of a university is equally critical. We have the choice to move forward with the policies of “asset play” in the form of SEZs and the proposed National Manufacturing Zones or to a more integrated “knowledge play” to build and sustain competitive clusters.
My final agenda is on strengthening the fundamental building blocks of industrial economy — the capital goods industry. It is no surprise that the global leaders of telecom, power, construction equipment and several other industries are now Chinese players. These sectors are part of their policy of creating “pillar” industries. They have actively designed and implemented policies to build global competitiveness of specific industries of national importance. Having served their own economy well, these players are now playing an increasingly important role in the global market.
The choice facing us is whether we are happy to simply grow our industrial capacity to feed domestic demand or whether the government should actively influence the type and quality of these investments as a prerequisite to building a globally competitive industrial base.
A well-known CEO of an Indian manufacturing company told me the story of an Indian player setting up a plant in China as base for exports to Africa. He lamented the reasons that force our industry players to take such decisions. This may be a one-off example, but it forces us to take notice of the underlying challenges facing the manufacturing sector today. Unless we demonstrate leadership and make the right choices to create the 100 million jobs and build sustainable global competitiveness, I fear we will find it difficult to sustain our celebrations!
The writer is Managing Director, The Boston Consulting Group. The views expressed are personal