My last column analysed India’s push into semiconductor manufacturing from the perspective of its Digital India initiative, and the benefits of enhancing expertise in an area where global demand growth is bound to be strong. The Production-Linked Incentive (PLI) scheme that is being used to fuel this push is actually much broader in scope, and is, of course, tied to the Make in India initiative launched at about the same time as Digital India.
Make in India has yet to yield appreciable results, but the PLI and the concentration on specific sectors are steps in the right direction—certain kinds of public investments and incentives are needed to change the trajectory of Indian manufacturing. India’s need to create new productive jobs is so great that it has to look beyond any one sector. At the same time, a lack of focus will hamper achieving significant change anywhere. In this context, a McKinsey analysis that offers “A New Growth Formula for Indian Manufacturing” is a useful framework for thinking about strategic priorities. The report was written by Rajat Dhawan and Suvojoy Sengupta, and published in October 2020, in the early days of the Covid pandemic. Their approach is analytically clear—they try to identify manufacturing sectors, or, to use their terminology and conceptual framework, value chains, where India is well-positioned in terms of resources and opportunities. The result is a list of 11 value chains with the greatest potential to add value to India’s economy. According to their calculations, these 11 sectors could increase their gross value added (GVA) by $320 billion within 7 years. If India’s GDP is $5 trillion by then, this would represent a 6% boost in level, or additional growth of close to 1% a year. Of course, these numbers are very rough, but they suggest that the estimates are realistic, even conservative.
In terms of additional GVA, the top three sectors in the report are chemicals, agriculture and food, and electronics and semiconductors, representing over half the growth opportunity. Unlike electronics and semiconductors, the first two sectors are established or even mature, but they lack scale and productivity. Much of the growth opportunity in these sectors lies in domestic markets, not exports, so the barriers to success are not in areas such as port infrastructure or market knowledge and access. In Indian manufacturing, as a whole. both labor and capital productivity are low, so the challenge is to identify specific pain points and how to overcome them.
Taking agriculture—so much in the news because of the failed “farm bills”—as an example, the report proposes, “Raising productivity by strengthening farmer-producer organisations so they can diffuse new technologies and promote sound agronomic practices, such as minimum tillage and plant population management.” It also proposes investments in irrigation and precision agriculture. There is a chicken-and-egg problem in the case of agriculture, since farmers are not in a position to make these investments without reforms in the whole value chain, but it is arguable that starting with public investment at the farm level is a better approach than starting with later stages of the value chain.
In the case of chemicals, the report just argues for scaling up, and points out the enormous disparity in productivity between India and countries such as South Korea. But it does not dive deeply into the causes, and that would be needed to understand what the true barriers to growth are in some of India’s manufacturing sectors. Industry studies of determinants of productivity are not unknown in India, but they are rarely high-profile analyses, and sometimes stop short of understanding the root causes of relative stagnation, although more general discussions have pointed the finger at management quality.
Of course, the size of growth opportunities over the next few years cannot be the only drivers of strategic focus. Renewable energy, a negligible contributor to the GVA numbers, will have an increasing and dominant importance over the next two decades, and accelerating investments in this sector makes strategic sense beyond anything that can be easily quantified at present. Another example is aerospace and defence, which is a small and somewhat established sector, but one where India would benefit the most from greater self-reliance. Indeed, energy and defence are the two cases where the recent government focus on self-reliance truly makes sense.
A final conceptual piece of India’s manufacturing strategy has to be the design of policies to increase worker skills, and to increase access to finance for its firms. The latter is a general need across the economy, but manufacturing firms are more likely to require fixed capital investments, and are hurt more by lack of adequate finance for expansion, upgrading, or working capital.
One could argue that there is nothing conceptually novel in the McKinsey report, but it provides a clear and focused quantitative analysis, with implications for strategic policymaking, and pointers toward where further understanding and analysis are needed. To the extent that Indian policymaking can move in this direction, decades of relative stagnation in manufacturing may finally come to an end.
The writer is Professor of economics, University of California, Santa Cruz.