Cant manufacture growth through protection

Written by Vivek Bharati | Updated: Oct 29 2004, 05:30am hrs
After prolonged stagnation since the boom of the mid-90s, manufacturing sector is bouncing back with a strong revival. The current growth number at 8% is not all that impressive and remains low when compared to the double-digit rates of the 90s. But three features of this revival are heartening. First, growth is spread across most segments of manufacturing: from basic, intermediate, and capital goods to consumer goods like textiles.

Second, capacities created in the mid-90s are close to being exhausted and there has been a surge in investment interest. News reports in this paper show that there has been a 20% jump in projects under implementation in manufacturing. This assessment is buttressed by a sharp increase in non-food credit. A huge increase in money to be raised by manufacturing companies from the capital market is also round the corner. Therefore, like in the mid-nineties, growth in the next few quarters would be led by investment.

The third, and perhaps the most important and least recognised feature is that this time round, growth in this sector would create lot more jobs per unit of capital than in the mid-nineties. If supported by quick policy changes, manufacturing growth over the next five years could surprise critics by showing an impressive increase in labour intensity and emerging as a critical factor in the countrys battle against poverty by absorbing unskilled and semi-skilled migrants from rural to urban areas.

And this would happen not because organised manufacturing would use less capital and more labour. This would happen because by increasing their outsourcing from smaller units, large units will spread growth in the small-scale sector that creates far more jobs than organised industry. The policy moral is that a competitive growth environment is far more conducive to growth of small industry than the protective reservation-based approach followed by our planners towards this sector.

Evidence thrown up by research suggests that job growth in small industry could be inversely related to the reservation-based protection and other sops provided to it by policy and positively correlated to falling levels of protection and growing global competitiveness of the manufactur-ing sector. (See Unorganized and Organized Manu-facturing in India by Uma Rani, Jeemol Unni in Economic and Political Weekly, October 19-25).

During the decade ending 1994-95, value added in unorganised manufacturing remained stagnant and employment in fact declined. Indeed, employment in this sector declined during this decade not only in absolute terms but also per unit of output. Put differently, there was a growing tendency among smaller units to deploy more capital and rely less on labour for their operations. This was the period when small industry was protected through extensive reservation of products where large units were denied entry. Thus the goal of creating more jobs by protecting small industry from competition was defeated.

The auto industry showed strong linkages between large and small units
Reservations and protection do not necessarily ensure growth
The banking system needs to reorient its approach to financing of small industry
The picture changed dramatically during subsequent six years ending 2000-01 during which tariff protection to manufacturing including consumer goods was lowered and government started dismantling the reservation accorded to products designated for manufacture by small industry. During this period, employment in the unorganised sector grew by 2.2% per annum and production became more labour intensive than earlier. Whats more, productivity of both labour and capital rose during this period revealing that unorganised sector responded to growing competition both at home and from abroad by becom-ing more efficient.

The industries that created more employment in unorganised manufacturing in the late nineties were app-arel, electrical and computing machinery, metal fabrication and motor vehicles and other manufacturing. The auto industry that has seen substantial deregulation, lowering of protection and entry of foreign players witnessed an impressive growth in the unorganised sector, demonstrating very clearly the emergence of strong linkages between large and small units through procurement of components and subcontracting.

This is nub of it. Reservations and protection does not necessarily ensure growth as made amply clear by the fact that nearly 90% of all production in small units is in unreserved products. The fact is that small industry enjoys natural advantages, benefits from the growth of large industry and does not necessarily have to be nurtured through protected enclaves created by product reservation and fiscal concessions. If this natural advantage is supported, it is capable of showing robust growth and creating a large number of jobs in partnership with large units in the organised sector. Indeed, small industry in our country is a victim of protection and over-regulation.

The third small industry census makes this amply clear. In 2001-2, of the over 10 million units in the country, only 1.4 million have found it worthwhile to register with the development commissioner of SSI and claim benefits launched by the government. One reason for not registering is to get away from numerous compliance requirements.

Against this backdrop, the governments move to expedite the Small Enterprise Development Bill is long overdue. This needs to be supplemented by a complete scrapping of the reservation system. In its place what is needed is enhancement of credit flow to this sector by inducing the banking system to reorient its approach to financing of small industry. A sharp reduction in interest rates offered to small units, currently charged anywhere between 11 to 14%, is the need of the hour. Smaller units also need support from special windows created in capital markets through which they can raise equity. If the government frees small units from needless protection and compliance, withdraws fiscal sops, and enhances flow of low-cost capital to finance their growth, they can make the manufacturing sector a powerful engine of job creation.

The author is an advisor to Ficci. These are his personal views