The Union Budget for 2010 will come at a time of renewed optimism for India. The worst of the crisis is over, growth is recovering, and sights are being set again on double-digit growth rates. The challenges are the fiscal deficit and accelerating inflation, but neither seems likely to derail the growth recovery, though policy responses to each may have some growth costs. The Budget will see some unwinding of the fiscal stimulus, continued emphasis on rural development, and perhaps some attempts to deal with subsidies and artificially low prices for some goods. The Budget speech will probably discuss the new direct tax code, and movement towards the comprehensive goods and services tax (GST). Just before the Budget, the report of the 13th Finance Commission will be presented to Parliament, and it may reveal some innovations in the way that tax revenues are shared with state and local governments.
All of these are good things that India’s economy needs. But there may be an overriding growth theme that once again gets missed in the Budget. India has certainly begun to produce globally recognized industrial firms, making their presence felt in sectors such as steel, automobiles and telecommunications. In some cases, the giants spawn ecosystems of smaller suppliers, as for automobile components. However, the state of Indian manufacturing leaves much to be desired. Doing business in India is still difficult—the country’s 2010 rank is 133, essentially the same as last year, and little changed since these World Bank rankings began.
The problems of doing business affect small and medium enterprises disproportionately, yet it is these firms that are going to be crucial to reaching and sustaining 10% growth. And it is these firms that will create employment and absorb excess labour from rural areas. Investment and welfare schemes for rural India are necessary, but they will not yield the needed growth miracle. An ecosystem of labour-intensive manufacturing is what India needs for inclusive growth.
A recent video interview with just one successful entrepreneur, Vinod Sharma, managing director of Deki Electronics, lays out the needed policy agenda so clearly that it should be required viewing for policymakers. Sharma produces electronics components such as capacitors, ubiquitous in a range of consumer electronics. He employs 500 workers, so is not small by Indian standards. His workers do not need high school education. They receive on-the-job training, or have vocational training certificates that represent some requisite basic skills.
Why is Sharma hesitant or unable to expand? His cost of doing business is higher than it would be in China— where he has acquired a factory. What’s better about China? Much cheaper and much more reliable power, more transparent and less costly processes for acquiring land, more rational and flexible labour laws, better infrastructure in several dimensions— inland transportation, housing for workers, sanitation—and a local manufacturing ecosystem that create positive feedback loops and economies of agglomeration.
Government policies matter directly as well, not only in how they shape the industrial landscape. Sharma talks about high transaction costs in the tax system, tax rate changes that have unintended consequences because of variations in different stages of the supply and production chain, and cumbersome regulations that still require multiple forms to be filled out— now electronically in addition to the paper versions that have always been required. And there is also the lack of clarity in legislation and delays in litigation that pervade the Indian legal system.
When you listen to Sharma, you will think of Indian growth as a true miracle. Yes, one can correlate accelerated growth with investment rates that have gone up, but the inefficiencies in India’s industrial economy remain mind-boggling. Sharma holds out hope: GST will simplify the tax system, and a new manufacturing policy, suggested by the National Manufacturing Competitiveness Council, is in the works. If this policy focuses only on technology upgrading and tax breaks, as one industry group has pushed for, it will not be enough. The mix of reforms must include infrastructure, labour laws, vocational training, tax simplification, less costly transportation, and lower transaction costs.
When you listen to Sharma, you hear a highly intelligent, articulate person with a good sense of all aspects of his business, an enlightened approach to his workforce, and a keen sense of possibilities honed by operating globally and in a global environment. While a few titans of industry receive the lion’s share of media coverage, there are thousands of Vinod Sharmas helping to fuel the Indian economy. And there are probably many times more who are not able to reach even this level, because they stumble earlier on the barriers that the government has failed to remove after almost two decades of economic reform. The Budget should not neglect them, and their path to growth.
Nirvikar Singh is a professor of economics at the University of California, Santa Cruz. Your comments are welcome at firstname.lastname@example.org