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One big reason for low productivity in industry is that most new jobs have been in construction and that around 85% of the workforce is in the informal sector. Illustration: Shyamal Banerjee/Mint
One big reason for low productivity in industry is that most new jobs have been in construction and that around 85% of the workforce is in the informal sector. Illustration: Shyamal Banerjee/Mint

The problem with Make in India

India's natural comparative advantage lies in using its unskilled labour. But Indian manufacturing as well as services is skill-intensive, which leaves unskilled masses short of decent jobs

We all know India needs to rapidly create more manufacturing jobs for the masses, for the demographic dividend to not turn into a demographic nightmare.

That was the objective behind the National Manufacturing Policies of past governments, repackaged into the “Make in India" programme. The popular consensus is that all India needs to do is to make its land, tax and labour laws more business-friendly, improve its infrastructure and slash red tape for a manufacturing revival and for creating jobs for its largely unskilled workforce.

In the Economic Survey for 2012-13, prepared under the auspices of Raghuram Rajan, then the government’s chief economic adviser, there’s a chapter on “Seizing the Demographic Dividend".

It captures the nub of the problem when it says, “While industry is creating jobs, too many such jobs are low productivity, non-contractual jobs in the unorganized sector, offering low incomes, little protection and no benefits. Service jobs are relatively high productivity, but employment growth in services has been slow in recent years."

One big reason for low productivity in industry is that most new jobs have been in construction and that around 85% of the workforce is in the informal sector.

The solution: build infrastructure, create incentives for businesses to grow, reform labour laws to help create large businesses in the high-productivity organized sector and invest in apprenticeship, skill development and education.

But there are reasons why the malaise in manufacturing runs deeper.

Consider the chapter on “What to Make in India: Manufacturing or Services?" in the Economic Survey for 2014-15, prepared under the stewardship of Arvind Subramanian, the current government’s chief economic adviser. It discusses the reasons for the lack of success in the manufacturing sector and focuses on one of them: “inappropriate specialization away from India’s natural comparative advantage and toward skill intensive activities". India’s natural comparative advantage lies in making use of its vast pool of unskilled labour. Instead of doing that, Indian manufacturing as well as services is skill intensive. That automatically means there aren’t enough decent jobs for the unskilled masses.

How difficult will it be to reverse this process? The survey says it would be “a history-defying achievement" because there aren’t many examples of such reversals of de-industrialization. The magnitude of the task can be gauged from what would have to change in India: from building the infrastructure that supports low-skill intensive manufacturing to reforming a whole spectrum of rules that discourage hiring unskilled labour and achieving economies of scale. Subramanian says the alternative is to train the Indian workforce so that they can graduate to skill-intensive jobs. That is no doubt necessary—witness the constant grouse of Indian business that they can’t find skilled personnel. But the cost of this skill intensive model, says the Economic Survey, is that one or two generations of those who are currently unskilled will be left behind without the opportunities to advance. In short, without explicitly saying so, this Economic Survey has a rather gloomy take on the “Make in India" programme.

But, even if we succeed in this “history-defying" task, that may not be enough. A recent research report by Citigroup’s Johanna Chua says the fragmentation and unbundling of global value chains, which have been responsible for the growth of manufacturing in many low-cost countries and burgeoning world trade in goods, is slowing. She cites an International Monetary Fund (IMF) research paper published earlier this year (Constantinescu, C. et al. The Global Trade Slowdown: Cyclical or Structural?) which said, “Long-term trade elasticity rose sharply in the 1990s, but declined significantly in the 2000s even before the global financial crisis. These results suggest trade is growing slowly not only because of slow growth of gross domestic product (GDP), but also because of a structural change in the trade-GDP relationship in recent years. Available evidence suggests the explanation may lie in the slowing pace of international vertical specialization." The proliferation of global value chains may have run its course.

That’s not all. The increasing use of robotics in manufacturing has led to a renewed “onshoring" of production and the Citi report says the manufacturing cost advantages of this “industrial robotic revolution" will likely tilt more favourably towards some developed economies and existing manufacturing hubs in emerging markets like China, rather than new emerging ones like India and Indonesia. Summing it up, if the Economic Surveys, the IMF research paper and the Citigroup economists are right, the “Make in India" programme will face strong headwinds. In fact, the Citi report explicitly says, “There is now a real risk latecomers to industrialization—many EM (emerging market) economies, including both India (Modi’s ‘Make in India’ plan) and Indonesia (Jokowi’s plan to revive manufacturing), let alone ‘Factory Africa’—will find it harder to create sufficient ‘higher productivity’ manufacturing jobs." And all this, of course, is apart from the massive industrial overcapacity in China and its impact on other countries.

The silver lining, according to the Citi report, is that cross-border trade in services is still growing rapidly and India will be a key beneficiary.

The political ramifications of these trends could well be explosive. While the highly skilled top layer of the Indian population will continue to find a global market for their services, the vast mass of the population will struggle to find jobs. Recall the recent news about 2.3 million applicants, including post-graduates and doctorates, vying for the post of 368 jobs for government peons in Uttar Pradesh. The upshot is that inequalities in Indian society, already high with 1% of the population hogging 53% of its wealth according to a Credit Suisse report, will widen even further, with widespread disaffection among the masses.

Manas Chakravarty looks at trends and issues in the financial markets. Your comments are welcome at capitalaccount@livemint.com

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