The ten sectors that need a boost

Economic policy debates in India often proceed without the analytical foundations that have been tested against data. Casual empiricism certainly suggests that the country?s poor infrastructure continues to be a major constraint on growth. Comparisons with China, made frequently by observers both casual and otherwise, seem to drive home this point. Yet, an economist would need any relationship between a sector of the economy and economic growth to be mapped out with due rigour. The question that arises, therefore, is this: can one say anything more about the impact of particular sectors of the economy on overall growth? The answer is, yes.

For many years, government statisticians have produced detailed input-output tables of the economy. These tables give one a snapshot of the economy?s structure, including linkages among various sectors. In an earlier column, I had noted that this approach suggested that linkages from services to manufacturing were quite strong. However, this conclusion told us nothing of much use about growth potential.

Almost a decade ago, economist Mukul Majumdar, with his then student Ilaria Ossella, provided the precise theoretical underpinnings needed to tackle the question of what the key sectors that have a strong bearing on overall economic growth might be. In this important work, they showed that under some specific assumptions the maximal growth rate for the economy could be derived from an analysis of the input-output structure. They went on to apply this insight to pick out key sectors. This was done by looking at the impact on the maximal growth rate of proportional reductions in all the input requirements of a single sector, and repeating this for each sector. Key sectors are those where the growth impact would be the largest.

For their part, Majumdar and Ossella conducted their analysis for 1989 data, before economic liberalisation had really taken hold. Recently, I applied their technique to 1998-99 data and came up with some striking results. The theory serves to predict the relative growth factor from increasing efficiency (in this case, for a 5% reduction in input requirements) in each sector taken as a single. To calculate the growth rate impact, one has to assume a base growth rate, which I set for the purposes of this analysis at a conservative 6%.

Using the technique, I arrived at the 10 (out of 115) most important leading sectors for the Indian economy, based on growth impacts of efficiency improvements. They were as follows:

? Electricity, gas/water supply (7.14)

? Iron, steel and ferro-alloys (6.52)

? Non-ferrous basic metals (6.40)

? Other services (6.32)

? Other transport services (6.29)

? Railway transport services (6.21)

? Coal and lignite (6.19)

? Trade (6.17)

? Misc manufacturing (6.17)

? Inorganic heavy chemicals (6.14).

Take a closer look at the list. Featured in brackets is the boosted growth rate, with 6% as base, that could be expected upon a 5% improvement in efficiency. Electricity, gas and water supply, for example, has a figure of 7.14%, and is by far the most important leading sector. This is exactly what Majumdar and Ossella found for 1989 data. In fact, the sector?s growth impact for more recent data is estimated to be even higher than for the earlier data. So it has gained in dominance, if anything, over the reforms period.

It is also worth nothing that several heavy industry sectors feature in the top 10, also paralleling the results for 1989.

A new feature of my calculations is the prominence of services. As many as four services sub-sectors are in the top ten list. The presence of transport and trade sectors strongly bears out the idea that these infrastructure sectors are important for growth. However, the dominance of the electric power sector as a growth constraint jumps out from this analysis. Many policymakers probably understand this general point (one senior official stated it to me over a year ago), but here is a quantified, and objectively derived result from the data: a 5% increase in the efficiency of the electricity, gas and water supply sector would increase the growth rate by over a percentage point. The priority that it deserves is thus amply clear.

I am currently extending these results to update another part of the original Majumdar-Ossella empirical analysis ? examining the effect of simultaneously improving efficiency in several sectors. This would give one an idea of what policy combinations might be most effective, and by how much. Another extension will be to update the results to the latest, 2003-04 data. Even without those updates and extensions, however, the analysis clearly indicates that the electric power sector needs serious attention, not just in terms of investment, but also in reforms that will enhance efficiency. (The two are connected, of course, since firms and households use inefficient solutions to get around existing capacity constraints.)

Like any other formal analysis, there are limitations to the exercise reported here. To begin with, the theory is for a closed economy. Moreover, input-output tables do not adequately capture the roles played in the economy by finance and knowledge. And this data does not tell us how to achieve the requisite efficiency improvements. However, there exist workable roadmaps for efficiency-enhancing institutional reform that are well known. What empirical analysis can do is help drive home the urgency of reform, as well as quantify potential benefits. For an economy striving for 10% growth, every fraction of extra growth counts, and there is no denying that this sort of analysis should help focus minds.

?Nirvikar Singh is with the University of California, Santa Cruz