Vibrant growth in reforms era

Written by M Suresh Babu | Updated: Sep 30 2011, 09:05am hrs
The small manufacturing enterprises (SMEs) in India, as in other developing countries, occupy a prominent place in the production system. In the Indian context, research results spring a few surprises on the sector's growth dynamism in the wake of economic reforms.

The unorganised sector comprising the SMEs outperformed the organised sector--which has large factories--in output and employment growth in the late 90s. Skeptics have questioned the sustainability of this growth performance as the cost advantages in favour of SMEs could disappear over time. A close scrutiny of the size and structure of the unorganised manufacturing sector during the last two decades reveal some encouraging trends, which needs to be captured for more informed policies on SMEs.

A recent comprehensive study of the unorganised manufacturing sector by Rajesh Raj and Suresh Babu (yours truly) titled 'Productivity and Efficiency of Unorganised Manufacturing Sector in India' reveals that the value added by the sector has increased steadily while the number of enterprises and employment have fluctuated over the last two decades.

The analysis spanning more than 25 years, using NSS data, reveals some tendencies that point to the growth dynamism of the sector. Three important findings deserve a closer scrutiny from a policy perspective.

First, a recent phenomenon is that industries tend to create jobs in the urban areas, as indicated by the growing urban share of enterprises, employment and value added. Second, investment flows to the sector is increasing; this is evident from the fact that despite a decline in the number of enterprises, fixed assets grew, pointing to capital formation in the sector. Third, contrary to the large factory sector, this sector performed better in the reform period than in the pre-reform period, with a rise in the number of enterprises, jobs, output and fixed assets.

While growth rates differed, most industries registered significant gains during the reforms period. The unorganised sector, considered a reservoir of less-educated workforce with low wages and low technical skills, has underwent structural changes, leading to vibrant growth in the face of competition.

These changes have been relatively less recognised in evolving support mechanisms for the sector. For example, there has been a decline in the concentration of unorganised activities since 1994-95 and the reform years saw a significant expansion of the unorganised manufacturing sector in most states, with Kerala recording the highest growth rate.

State-level examination finds that the rural sector remains dominated by traditional industries while the urban sector shows a significant presence of modern industries. Hence, there is a need for extending support to the traditional industries in rural areas where such firms are predominantly family-owned. Recent policy initiatives need to address this to reduce their urban bias.

The urban orientation of the sector has increased, with an erosion in the dominance of rural enterprises. This is more pronounced in recent years as there has been a gradual change in the rural-urban distribution of enterprises, workers and value added. The swing in all states has been in favour of urban centres.

In employment, a steadily declining share of the rural sector can be noticed. Rural areas accounted for 73% of employment in the unorganised manufacturing sector in 1984-85, but declined to 64% in 2005-06. But in value added, the decline started only in the 90s and continued post-90s with more than an 8% drop in the rural share in gross value added between 1989-90 and 2005-06. The shift towards urban enterprises, to a great extent, can be ascribed to the fall in the rural share of industries producing cotton products and leather goods. Over time there has been a 19%, 27% and 16% decline in the rural share, respectively, in the number of enterprises, employment and gross value added in cotton products and 50%, 44% and 35% in leather goods.

Food products, beverages and wood products occupy a larger share in enterprises, employment and gross value added in the rural areas than in the urban areas. However, their overall contribution to growth has declined over time. An overall swing towards industries that primarily depend on non-agricultural raw materials is noticeable. This has weakened the inter-sectoral linkages. An important implication of this is that jobs are increasingly created in the urban areas, with the growth of more enterprises that generate higher value addition.

Such urban orientation in growth has led to the growth of bigger among the small ones. Compared to the eighties, the sector is now dominated more by the bigger and mid-sized enterprises than the tiny family enterprises. Over the last two decades, a steady increase in the share of the bigger directory enterprises can be observed in the number of enterprises, employment and value added in the urban areas.

The movement towards a more open trade regime has had a salutary effect on the sector. This is corroborated with two evidences. First, with trade liberalisation, an accelerated growth has happened in the sector in terms of employment, the number of enterprises and value added. This stems from an increase in the activities in the urban areas. Second, the fastest growing industry in the urban segment is manufacture of textiles and textile products, which are an important category in Indias export basket as it taps the low labour cost advantages.

Without policy interventions, the urban orientation of the sector is likely to intensify as the shift in trade regime has led to the emergence of flexible production systems and a substantial rise in outsourcing activities from the organised to the unorganised sector. Otherwise, it will lead to a situation of the sector on the whole growing faster in the liberalised trade regime, but at the cost of the rural segment, which supports a large section of the population for their livelihood.

The anticipation that the unorganised sector would disappear with economic growth has turned out to be misplaced. Policy making now has to contend with its persistence and ensure that its contribution to economic growth and development has to be maximised. One domain of policy making should focus on enabling more segments, especially in the rural sector, access to markets and sustaining their market position. Policy measures for fostering the sector's growth need to consider the rural segment and ways and means to enhance its efficiency and productivity.

The writer teaches economics at IIT Madras. He can be reached at