Measuring productivity

BS OPINION

The large corpus of work on total factor productivity and its growth in the Indian industry, starting from Isher Ahluwalia's seminal work in 1985 and up to the latest one done by the Tata Services study group, shows that notwithstanding the disputes on the appropriate methodology and exact numbers, two conclusions are indisputable: First, the system of industrial controls, spanning both the domestic and external sectors, and the government's own involvement in production and trade, were inimical to the productive use of investment.

Total factor productivity growth till the mid-1980s was either negligible or negative. Over-regulation and import-substitution were the factors retarding productivity growth.

Second, the movement toward deregulation, reform and trade liberalisation since 1986 has led to more efficient use of capital in the manufacturing sector and in turn increased its contribution to growth.

The Tata study adds a size and an ownership dimension to the productivity improvements by showing that private firms, and among them the larger ones, have recorded better productivity gains in the post-liberalisation period.

While the fact of private firms having done better than public sector firms is only to be expected (and vindicates the government's privatisation policy), the size-productivity relationship that the study tries to establish may be problematic.

By comparing the top 50 firms with the all-India factory sector of the Annual Survey of Industries, the sectoral mix and a whole lot of other factors are being glossed over, thereby running the risk of doing an apples and oranges comparison.

But the conclusion does run in line with anecdotal evidence that the smaller firms have faced greater problems in recent years, while the larger ones have better managed the transition to a more open economy.

The study makes the long-term productivity gains seem as having a one-to-one correlation and a unidirectional causality with the process of liberalisation.

But as Moses Abramovitz famously remarked, productivity, which is estimated as the residual, is the "measure of our ignorance" about sources of growth.

As is well known, productivity estimates lump together factors like costless improvements in technology and organisation with unwanted measurement error and model misspecification.

This kind of growth accounting exercise also includes allowances for improvements in labour quality, or human capital accumulation, reflecting, say, increased educational attainment. This angle, though not directly related to liberalisation, is exceedingly important.

There can be little dispute that today's policy environment places greater stress on efficiency, and therefore encourages productivity gains.

But it is also true that firm level studies, where productivity estimates work best, have shown that the productivity of both labour and capital depend critically on knowledge, both disembodied and embodied.

Much of the gains that are being seen now are a reflection of the secular improvement in the investment in human capital made over time.

Many such studies have shown that the most dramatic gains in productivity have coincided with factors like improved credit delivery, consultancy programmes and the growing systemic knowledge of how to embrace the new conditions of competition in the areas of price, quality, consistency and timely delivery.