BackThe rising use of contract workers: is globalization responsible?
Increasing trend of contract hiring in India is in line with the global trend of seeking employment flexibility
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Astriking feature of Indian labour markets has been the increasing use of contract workers—workers on temporary contracts hired through a government-licensed intermediary or contractor—by the organized manufacturing sector. The proportion of contract labourers has increased from 12% in 1985 to a substantial 26% in 2009 in registered manufacturing, and in some states such as Andhra Pradesh, more than half of the organized manufacturing workforce comprises contract workers.
Employment of contract workers in India is regulated by the Contract Labour (Regulation and Abolition) Act, 1970 that ensures minimum wage, health and safety, and some insurance provision for them. However, contract workers are not granted the same job protection, compensation and union representation that permanent workers are granted through the Industrial Disputes Act (IDA), 1947. By resorting to contract employment, an employer can bypass some of the restrictive regulations of IDA and improve efficiency. But it is also possible that contract hiring is largely strategic to force a wage cut on permanent workers or even induce them to leave. Not surprisingly, concern has been raised from various quarters over the implications of contract labour.
Notwithstanding the controversy, the increasing trend of contract hiring by Indian firms is in line with the global trend of seeking employment flexibility. Globalization has certainly provided a boost to trade and labour reform in many countries. Over the last two-and-a-half decades, unionization has fallen across the world. Job outsourcing and dispersing of the workforce across multiple countries have become commonplace even for medium-sized firms in developed countries. For India though, trade reform has not been accompanied by labour reform; yet we see firms are not deterred to seek flexibility through the contract route.
Question is, to what extent are the forces of globalization responsible for increasing contract labour use in formal Indian labour markets? Intuitively, it is not clear that trade liberalization necessarily leads to greater use of contract workers by formal-sector firms in India. Import competition may force firms to seek short-run efficiency and flexibility in labour use by hiring workers on fixed-term contracts, especially when rigid labour laws imply hidden costs of hiring permanent workers. On the other hand, firms mindful of long-run efficiency and/or concerns of quality improvement (a key issue for exporting firms) may want to hire workers on permanent terms and then invest in their productivity improvement. So the effect of trade liberalization can go either way.
To understand the role of trade liberalization and labour laws in the use of contract labour, we examined the determinants of contract labour usage using data for 58 industries in the formal manufacturing sector from the 15 largest Indian states over the period 1998-2004. We found that import penetration (i.e. share of import in total available goods for domestic consumption) does increase the share of contract workers in formal firms, and so does the union’s bargaining power. The positive effect of import penetration on contract labour usage is stronger in states that have pro-worker labour laws. However, export orientation (increase in the export-to-output ratio) did not affect contract labour usage to the same degree. Our findings showed that in the presence of labour rigidities, increasing trade exposure, particularly import penetration, contributes to the flexibilization of the formal workforce in India. We estimate that approximately three-tenths of the increase in contract workers in total organized manufacturing can be attributed to increasing import penetration during the period 1998-2004.
What does our analysis suggest about the welfare implications of trade liberalization in India,where labour laws are onerous? As we know from economic theory, trade liberalization tends to reallocate resources efficiently across various sectors. However, given labour-market rigidities in India, the main route of reallocation of labour is the contract route. Our analysis shows that firms are clearly better off by hiring contract labour, when import penetration in particular increases. Are the workers also better off? From the point of view of unskilled workers, those who are hired as contract workers in the formal sector may experience a wage gain vis-à-vis working in the informal sector, or at least will be guaranteed the minimum wage, in addition to working in a better environment. So these workers are most likely to be better off. Permanent workers, who now experience a wage reduction due to strategic hiring of contract workers, will be worse off. So the overall welfare effect for the whole economy is somewhat ambiguous. However, if one factors in dynamic employment effects due to greater flexibility in labour usage, there may be secondary and tertiary welfare generated elsewhere in the economy through job creation in future and through the entry of new firms. A bigger question is whether export opportunities will provide a boost to employment across all industries, and the answer partly depends on the extent to which the contract route becomes more accessible and unions become more pragmatic, so that the relative cost difference between the two modes of hiring diminishes. With greater reform of labour markets, the principal consideration of employers would be to hire workers based on skill and invest in these skills over time rather than whether the worker can be hired on a contract or permanent basis. This would likely to be a win-win situation both for firms and the workers they employ.
Bibhas Saha is reader in economics at the Durham University Business School, UK.
Kunal Sen is currently professor of development economics at the Institute of Development Policy and Management, University of Manchester, UK, and associate director of the Brooks World Poverty Institute.
Published with permission from Ideas for India, an economics and policy portal.
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