Construction and manufacturing could be our growth propellants

New-age services such as e-commerce and digital communications dominate conversations about the next curve of growth these days. While these sectors hold great promise and need to maintain their growth momentum, McKinsey Global Institute’s latest report, India’s Turning Point, shows that high economic growth over the next decade would need the traditional sectors of construction and manufacturing to play a leading role.

India needs to create 90 million non-farm jobs over the next decade, requiring an average annual gross domestic product (GDP) growth of 8.0–8.5% over 2023 to 2030, or about double the rate of 2019-20. While this seems like a tall order, failure to achieve this growth momentum might mean a decade of missed opportunity.

Our analyses show that of the 90 million non-farm jobs needed, 24 million could come from construction alone—16 million from real estate and 8 million from infrastructure. Manufacturing, meanwhile, could generate one-fifth of the incremental annual GDP (about $750 billion) and close to 11 million new non-farm jobs by 2030.

To generate its share of employment, the construction sector needs to grow at about 8.5%, nearly double its 4.4% growth rate over financial years 2012-13 to 2018-19. India could take two major actions to trigger this growth.

First, spend about 8% of GDP on infrastructure annually for the next 10 years. Of this, the government share of the spending could be 6% of GDP, more than the 4% of GDP spent in the last few years.

Second, build 25 million affordable homes over the decade. For this, a set of focused real estate reforms are required. The measures adopted by the country could include generously increasing incentives for home ownership and creating rental stock. At the central level, substantially raising tax deductions limits on mortgages and rental incomes, as well as introducing tax incentives for investments in rental housing stock could be considered. The US, which offers tax deductible interest of up to $750,000 on mortgage loans and an effective low-income housing tax credit incentive, could serve as a good guiding example. State-level measures could include rationalizing stamp duties and registration fees (like Maharashtra has done), introducing regulatory amendments in rent-control policies, launching digitally-enabled, single-window clearances to reduce time delays in affordable housing construction, and bringing the goods and services tax on modern construction methods (like pre-fabrication) in line with in-situ buildings. The blueprints of these policies could be designed over the next three to six months, and implemented soon after.

Additionally, India has a high land-price-to- average-income ratio; in terms of per square- metre price to per-capita GDP, it is about 6.0 in Mumbai and 3.8 in Bengaluru versus 0.5 in Bangkok and 0.2 in Beijing. To narrow this gap, India could do two things. First, release 20 to 25% of underused but buildable public-sector land. About 400,000 hectares of land-holding is with defence, railways and port trusts alone. Second, reform zoning regulations in the top 300 cities by population. Indian cities have an average floor space index of 1.0–1.3, much lower than that of comparable cities elsewhere. This would, of course, need to be accompanied by infrastructure planning.

Manufacturing has also been a powerful engine of growth for most high-performing emerging economies, such as China, where manufacturing GDP grew by 13% annually over 2000 to 2010, and Bangladesh and Vietnam, where it rose by over 10% over 2010 to 2019, while employment was created at a 4–5% rate.

Manufacturing in India could capitalize on trends such as shifting global supply chains and the burgeoning use of digital and automation. A set of sub-sectors—electronics and capital goods, chemicals, food processing, pharmaceuticals and medical devices, among others—could generate $500 billion of economic value by 2030. The electronics sector’s imports alone stand at $125 billion currently, and it needs to replicate the success of the automotive sector.

To turbocharge manufacturing, India could introduce targeted, time-bound and conditional incentives—like the production-linked incentives announced in April 2020 for domestic handset manufacturing—to reduce the cost disadvantage that Indian manufacturers face while competing with companies from China and Vietnam, among other countries.

Indian states could also create powerful demonstration effects by establishing port-proximate manufacturing clusters that contain free-trade warehousing zones. They could provide land at lower costs, plug-and-play infrastructure, and common utilities, apart from expedited approvals.

India also needs to consider reducing its factor costs of power and logistics. Inefficiencies in power distribution and cross-subsidies have made India the only country in a peer set of 20 countries with industrial power tariffs higher than residential tariffs. India’s logistics costs are also high, at 13–14% of GDP, and its modal mix is skewed towards high-cost road transport. Both these costs could be reduced 20–25% by enabling franchised and privatized distribution company (or “discom”) models, reducing cross-subsidy surcharges, and establishing multi-modal freight ecosystems.

If adequately set up for success, manufacturing and construction could be pivotal in driving India’s growth over the next decade. Considering that the consequences of inaction on this front could possibly be prolonged stagnation, India is at a critical turning point. It is time for the country to go back to the basics, and bring manufacturing and construction centre stage.

Shirish Sankhe and Anu Madgavkar are, respectively, senior partner at McKinsey & Co., and partner at McKinsey Global Institute