Column: Exports to drive industrial recovery

May 09 2014, 04:15 IST
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SummaryClose industry-export links suggest expansion is critically dependent on the external environment

Public discourse is quite occupied with the reviving of industrial growth, which plunged to just 0.9% and 0.2% in past two consecutive years. Manufacturing alone grew just 1%, followed by a 0.2% contraction in FY14. The evident concern is employment, an objective many countries have achieved by setting up large-scale factories that have the capacity to absorb surplus agricultural labour, a feature India seems to have skipped so far. Naturally, discussions centre on faster development of a supportive ecosystem to expand the size of Indian manufacturing and create more jobs. While such initiatives can no doubt give manufacturing a boost, demand-side trends suggest that the economic cards for a cyclical revival and a structural expansion are held by foreign demand.

For long, external demand has been the primary driver for industrial growth; at least since 1991, when trade liberalisation first began. This is evident from the close co-movement between manufacturing output and export growth, as the accompanying chart shows. In this while, Indian firms, especially micro, small and medium enterprises (MSMEs), have hooked on to the global supply chain network, inexorably linking the domestic-world industrial cycles.

This association spills over to the investment cycle, too; although exports directly account for around 15% of aggregate manufacturing output, machinery and equipment investment and export growth are strongly correlated. As the chart reveals, fixed assets’ creation is closely synchronised with global output growth, an association that strengthened further in the last decade.

So, when the world GDP growth boomed to a record 5% on average each year in 2003-07—way above the previous decade’s average 3.2%—India’s investment rate jumped nearly 10 percentage points in this short span. More than half the increase in private investment came from manufacturing; while real private investment grew an average 16% annually, machinery and equipment spending grew at double this rate, propelling the sector’s share in aggregate investment to match that of the services segment at about 42%.

Notwithstanding this extensive capacity creation however, manufacturing’s share in overall GDP rose just one percentage point, to 16%, partly because the economy was then firing on all three cylinders—agriculture, services and industry—as the GDP grew an average 8.7% each year. It is this stagnant share, and the sharp fall in employment elasticity—this nearly halved relative to that in the preceding five years—that are today’s concern.

In this light, what is the future potential for expanding the manufacturing base? While

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