MacroScan - How is Indian Industry Faring?

With outsourcing of services emerging the employment issue of the times, the performance of India's services sector is under scrutiny. In a recent article in the Financial Times (September 1, 2004), Stephen Roach, the chief economist of Morgan Stanley declared: ''The impetus that services have given to India's growth has been … impressive. The services portion of India's GDP increased from 40.6 per cent in 1990 to 50.8 per cent in 2003 – accounting for 62 per cent of the cumulative increase in GDP.''

There is one important problem with such an assessment. It often tends to generalise the dynamism, albeit from a small base, of IT-enabled and software services to the services sector as a whole. As Table 1 indicates, the services share in GDP increased by close to 9 percentage points between 1990-91 and 2001-02, which was much higher than increases during earlier decades. But a decomposition of that increase suggests (i) that public administration and defence was an insignificant contributor to that increase contrary to the belief in some quarters; and (i) the increase was almost equally due to Trade, hotels and restaurants, Transport, storage and communications and Financing, insurance and real estate.

The first of these features is positive inasmuch as it indicates that services growth is not just a fall-out of rising government expenditure. However, the second suggests that there has been a generalised expansion in private services. This suggests that assessments based on the aggregate services figure do not take full account of the nature of the expansion of the services sector, separating out the more dynamic elements epitomised by IT-enabled and financial services from segments that could reflect the distress-driven spill over into services activities of a population driven out of land and not absorbed by industry.

The possibility that the latter is an important influence on the growth of services arises from the growing evidence that the commodity producing sectors, viz. agriculture and manufacturing are either in crisis or performing poorly. Consider for example the manufacturing component of the industrial sector. Its share in GDP (Chart 1) has fallen during the second half of the 1990s and immediately thereafter. And that fall has characterised both the registered and unregistered manufacturing sector. Given the fact that the share of manufacturing in India was already smaller than in many other successful developing countries, this trend should give cause for concern. In fact this has led some economists like Vijay Joshi of Oxford University to argue (Business Standard September 2, 2004) that even though India features among the world's top growth performers during the last two decades, the character of that growth ''raises doubts about whether it can be maintained at its present rate''.

However, overall such concern has been limited, if not altogether missing, for a number of reasons. Post-liberalisation, there has been a substantial increase in the extent of ''product innovation'' or availability of new manufactured goods in the Indian market. International firms that were permitted limited entry into the Indian market prior to liberalisation are increasingly visible in recent times. Profit figures of some Indian manufacturing firms suggest that they are in robust health. And official figures of the growth of manufacturing output point to a substantial degree of buoyancy in the manufacturing sector.

However, many of these are superficial indicators of industrial performance. Product innovation could be accompanied by a decline in domestic value added, because of a rise in the import intensity of domestic production. Transnational firms could be displacing domestic production or acquiring Indian firms rather than contributing to any net increase in output. And higher profits for a few may be accompanied by lower profits or losses for the majority. What is more, the profitability of at least some of the successful firms could be due to ''other income'' from activities outside manufacturing, especially their participation in financial activities.

The real indicators of performance, therefore, are the actual figures of trends in production. Unfortunately, close scrutiny of these figures does not provide a satisfactory answer. As Table 2 shows, the lead indicator of industrial performance, the Index of Industrial Production, suggests that after close to two decades of depressed growth, the trend rate of growth of manufacturing recovered to 6.1 per cent during the decade starting in 1985-86. That rate of growth was indeed creditable, even if below that touched during the decade-and-a-half immediately after the launch of planned development. Further, this creditable rate of growth of manufacturing appears to have been sustained during the subsequent years as well.

This picture of industrial buoyancy is not just corroborated but strengthened by figures on trends in GDP in the manufacturing sector. The GDP in registered manufacturing not only grew at a faster rate (of 6.9 per cent) during 1985/86 to 1994/95 than suggested by the IIP, but that rate of growth rose by a full percentage point to 7.9 per cent during 1994/95 to 2002-03. This brought it close to what was achieved during the first three Five Year Plans. The unregistered manufacturing sector, data for which is as expected less reliable, is also reported to have grown in recent years at rates higher than recorded during any time in India's post-Independence history. (See Table 3)

Differences between trends in GDP in registered manufacturing and in the IIP are to be expected. While initial estimates of GDP in registered manufacturing for any year are based on trends in the IIP, these figures are subsequently revised based on the results of the Annual Survey of Industries. The latter, because of its methodology and coverage, is considered a more reliable source of information on the registered manufacturing sector. Further, it has been argued in the past that the IIP underestimates the rate of growth of the registered manufacturing sector, which tends to be higher when computed from value added figures provided by the ASI with a lag.

However, there is reason to believe that this alone cannot explain recent differences in the rates of growth of manufacturing GDP and the IIP. Table 4 provides a comparison between annual rates of growth of registered manufacturing based on value added figures from the ASI deflated by the GDP deflator and the rates yielded by the IIP. There are gaps in the series because data problems have resulted in the information for particular years being excluded from the time series on principal characteristics of the factory sector provided by the ASI on its web site. The available figures suggest that, while it is true that during most years in the 1980s the IIP yielded rates of growth which were lower than warranted by the ASI figures on value added and value of output, in the 1990s the reverse seem to be true and with rather wide margins in some years.

In sum, the use of alternate series on output and value added in the registered manufacturing sector yields results relating to its rate of growth that do not permit any clear judgement on how Indian industry has been faring. If the ASI is adopted as a more reliable source, performance appears to be poor or even pathetic; but if the IIP or GDP figures are taken, the performance is indeed good. In the event, we are left with no clarity about the actual performance of the industrial sector. However, the point to note is that the stagnation and decline of the share of GDP contributed by the manufacturing sector occurs despite the high rates of growth in manufacturing GDP reflected in figures from the National Accounts Statistics.

This implies that answering the question as to whether the stagnation and decline in manufacturing GDP and the rise in the share of services in GDP is the sign of a new dynamism associated with a new growth trajectory, requires assessing more disaggregated data wherever available. Till such time that such an assessment is made, optimistic generalisations regarding India's growth performance and prospects have to be treated with some scepticism.