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India's jobless recovery

November 14, 2004 14:00 IST

In a recent article written for an Indian business magazine, Stephen Roach, chief economist of Wall Street investment bank Morgan Stanley, questions the logic behind Indian policy-makers' obsession with manufacturing as an engine of employment growth.

He writes about two companies that he visited recently, Tata Motors and Bajaj Automobiles. For both, top line growth over the last few years was accompanied by a sharp reduction in employment.

Going by Roach's data, Tata Motors produced 129,400 vehicles in 1994 with 35,000 workers. In 2004, it produced 311,500 vehicles with just 21,400 workers.

In the mid-nineties, Bajaj produced a million scooters with a workforce of 24,000. Today it produces 2.4 million vehicles with a labour force of 10,500. Roach sees these as examples of the "glaring shortcoming of India's manufacturing solution -- the mistaken impression of its job-creating potential".

Thus, Roach, somewhat unwittingly, takes a clear position in the much-publicised recent debate on the impact of reforms on employment in India. If what he says on the basis of data on two companies represents a broader trend, then employment in organised manufacturing has clearly declined in the post-liberalisation period.

I suspect Roach's casual empiricism can be generalised to apply to much of large-scale manufacturing in India. The growth in the recent phase of revival in the corporate sector has been "labour saving" to an extreme degree.

In fact, the current recovery is based on large improvement in operating efficiency coming from a dramatically reduced workforce and wage bill. Going by my estimates for a sample of about 1,500 manufacturing firms, the ratio of wages and salaries to sales dropped from 5.3 per cent in 1998-99 to just 4.4 per cent in 2003-04.

Thus, the improvement in the "competitive advantage" of India's manufacturing sector in this period went directly against the country's "comparative advantage", its low cost of labour. Indian manufacturers increasingly substituted capital for labour despite labour's low cost.

However, instead of seeing this as an indictment of reforms, it would be far more meaningful to analyse this in terms of the technological imperatives of large-scale manufacturing. This raises a number of questions that policy-makers need to answer.

Do manufacturers really have a choice between alternative technologies? Are they consciously choosing capital-intensive technology to reflect their concerns about Indian labour laws? Is Indian labour really that cheap if adjusted for productivity?

Finally, can public policy do something to correct this and encourage firms to choose technologies that reflect the resource mix?

Roach appears to have a pithy and pessimistic answer to these questions. "Manufacturing," he claims, "has become an intrinsically labour-saving endeavour, even in low-wage economies such as India and China."

Thus, the growing capital-intensity of manufacturing is not a question of choice. Instead, it is a passive function of the nature of technological change. His prescription: Rid yourself of the manufacturing fetish and focus more on services as the key provider of employment.

I have serious differences with Roach on this. For one, the "services" sector, as we know it, is not really that big an employer. For "high-profile" segments like IT and BPO, demand for labour is really focused on the educated, upper middle class urban segments of the labour market.

This is really a minuscule fraction of the total labour force. Moreover, these segments are going through a transition similar to large-scale manufacturing. For instance, as companies in IT go up the value chain, their products become increasingly skill-intensive.

Instead of a broadbased demand for educated labour, their demand gets limited to a small niche within the labour market.

The less "sexy" service categories like urban domestic help or construction work that provide mass employment are typically poorly paid and highly volatile. Moving workers from agriculture to these "service" segments hardly makes sense.

In short, a transition from a dependence on agriculture to services for employment circumventing manufacturing altogether does not seem viable.

Besides, I would also argue against the kind of "employment pessimism" inherent in technological change that Roach professes. There are, I suspect, wide variations in the degree of choice available across manufacturing sectors. Let me start with the segments where the pessimism is justified.

In much of commodity manufacturing like metals, oil and gas, and chemicals, utilities like power, and other sectors like automobiles, technological alternatives are fairly limited.

New, more efficient technologies just happen to be labour-saving possibly because much of the innovation is happening in the developed Western world, which faces a chronic labour shortage.

For Indian companies in these sectors, survival in the global market place depends on how lean a workforce they are able to operate with. In terms of sales, these companies constitute a significant fraction of the overall manufacturing sector.

For instance, the aggregate sales in 2004-05 for manufacturing companies in the 30 firm BSE-Sensex added up to a little more than Rs 190,000 crore (Rs 1900 billion). To put this in perspective, the GDP at factor cost coming from the manufacturing sector, measured in current prices in this year, was Rs 377,000 crore (Rs 3770 billion).

The implication is that these segments will form the backbone of Indian manufacturing in terms of their sheer size, but their employment potential is likely to be limited.

But there are other sectors where technological change is unlikely to have an anti-labour bias. Take the export sectors, for instance. The principle of comparative advantage, enshrined in elementary microeconomics texts, provides a broad rationale.

At a fundamental level, trade forces an economy to specialise in producing and exporting products that use the more abundant resource in that economy. Export growth in labour-surplus economies is by its very nature labour-absorbing.

The corollary is that for growth to be job-creating, the degree of export-orientation of the Indian economy just has to go up sharply. Low trade-intensity might appear to insulate us from global business cycles, but will not help get jobs for India's swelling labour force.

A similar argument holds for low price mass-market products in the FMCG categories. There is fairly strong evidence that suggests that small- and medium-scale firms in a range of products from detergents to packaged tea have gained significant market share.

These enterprises tend to rely on minimal capital (perhaps because of the crippling capital costs they face) and depend heavily on labour-intensive processes. Yet, they seem to be taking on the bigger and more capital-intensive firms quite successfully.

The policy prescription is clear. The impediments to growth in the labour-intensive sectors have to go. A number of these units fall in the small and medium enterprises category and their problems are fairly well-known. The lack of infrastructure and high capital costs are likely to figure right at the top of their list of woes.

A possible way to address both these issues is to actively promote industrial "clusters". If a viable model of risk sharing and cross-guarantees is worked out within these clusters, it would certainly make these firms more bankable. It would also make infrastructure delivery to these firms much easier.

Policy-makers, thus, cannot afford to assume that job creation is a corollary of rapid growth. The composition of this growth, particularly the mix of sectors, is equally important. With increasing fractions of population entering the labour force every year, "jobless growth" is neither desirable nor viable.

The author is Chief Economist, ABN AMRO Bank. The views are personal

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Abheek Barua